So AOL Time Warner Inc. Chairman Steve Case gets to keep his job, for now. Where did he go wrong?
There’s barely an investor on Wall Street who hasn’t been forced to sit through one of his interminable speeches on the Cs: Content, Context, Community, Commerce, Connectivity, and Cost. But it’s become evident of late that he forgot the most important one: Control.
There have been charges of accounting irregularities, but they won’t add up to much. The downfall of AOL and Steve Case was disregarding the realities of the media business.
If you want to be a big swinging media mogul, you’ve got to control something. The big three networks control valuable broadcast spectrum in cities and from there nightly programming and advertisers access to the masses. When Michael Eisner and Disney bought ABC, or when Sumner Redstone and Viacom bought CBS, they solidified their media empires under government mandate and controlled a chunk of the $40 billion market. Rupert Murdoch cobbled together Fox Networks out of dog and cat stations for the same reason.
But Time Warner played a different game. The uncontrollable Henry Luce magazines were combined with Warner’s cable lines, which were protected by local municipality signed franchise agreements. Today, they have around 11 million cable subscribers, thanks to the Federal Communications Commission’s decree that cities would have a single cable operator.
The FCC worried about programming diversity, so no one cable operator could own more than 35% of cable channels. But it was always a closed game: If you have subscribers, you horse-trade: “I’ll carry yours if you carry mine.” It all smelled of European crony capitalism, but the reality of depression era FCC regulations still exist. Steve Case ignored it at his peril. He didn’t think about strategy until it was too late.
At the beginning, it was easy. As PCs and Windows grew, so did America Online — from a million members in 1994 to 10 million in 1997. Other players, Compuserve and Prodigy, were too stupid to keep up, and the only potential competitors were the phone companies. But phone companies thought online meant someone’s sneakers hanging from their telephone wires.
The only real competition was from Microsoft and plain vanilla Internet providers. That competition catalyzed one of the famous case-study foul-ups of the early Internet. In December 1996, AOL went to flat-rate pricing to keep up. But the network was underbuilt and almost instantly, AOL had 10 million busy signals and a major customer relations nightmare on its hands. It was the best thing that happened to them.
But the company was hemorrhaging money to pay for new infrastructure and it needed cash quick. Then in February 1997, Daniel Borislow, CEO of Telesave, walked in and dropped a check for $100 million in Case lieutenant Robert Pittman’s lap for a long-distance deal. Telesave’s stock took off and AOL got capital and a new network. Mr. Pittman had an advertising strategy but Mr. Case still didn’t control anything.
For the next three years, AOL became the dot-com IPO enabler. Companies cut advertising and sponsorship deals with AOL. Flush with new cash, in June 1998, AOL paid $407 million for Israeli company Mirabilis (whose CEO Yossi Vardi famously quipped that “revenue is a distraction”) to own the technology that now runs its Instant Messenger service. Great, now they controlled teenage girls.
Figuring the IPO game would end, that broadband was happening away from AOL, but still hooked on advertising, Mr. Case needed a real media company. His stock was high enough to buy one, if only someone would sell. In January 2000, he settled for Time Warner. He even tried spelling synergy with a C in his speeches.
It was a house of cards. Time Warner was heavy in debt, its cash flows from music were evaporating and it wasn’t completely in control of cable or its studios, having pawned parts of both of them off years before, when cash was tight. Mr. Case and Time Warner CEO Gerald Levin swore up and down Wall Street that they would have $11 billion in cash flow once the companies were combined. Instead, advertising vanished and the love boat sank.
AOL Time Warner is fixable, but someone else will have to do it. At the first hint of a downturn, Mr. Case should have been cutting costs to streamline AOL to continue its attack on traditional media, rather than taking on the TimeWarner behemoth.
The Internet may never create a mogul like the control freaks that run today’s traditional media. Digital technology is just about impossible to control. It crushed the phone industry by loosening control. And over time it will drag today’s traditional media moguls into the same abyss. Steve Case won’t be the last.