It was a fresh start, all right, but whew! The reboot wiped out most of AOL’s net worth, plus all the profits it claimed to have made in its entire 11-year history. But guess what? Wall Street loved it, and bid the stock up 12 percent in two days. This despite the fact that neither the financial rebooting nor AOL’s hiring of the highly touted Bob Pittman, a cofounder of MTV, solves AOL’s crucial business problem: how to make money online when the In- ternet offers so much free stuff. AOL fell Friday, but was still up for the week.
Why am I writing about AOL for the third time in the past 12 months? No, I’m not a print Luddite. (I’ve actually been online for years.) Nor am I motivated by the fact that my employer offers NEWSWEEK INTERACTIVE through AOL. Rather, I’m intrigued by AOL’s ever-changing accounting and by the way it manages to keep telling Wall Street whatever the Street wants to hear. AOL offers a classic example of how investors can be burned by taking a company’s utterances at face value–and plenty of holders have been singed lately, with AOL stock down 60 percent from its May high of $71.
In case you missed it, here’s what the fuss is about. Until last week, AOL insisted on accounting for its promotion expenses in an unrealistic way. Instead of considering the costs a regular expense, as normal companies do, AOL spread them over two years. This let AOL report profits while spending much more money than it took in.
Let’s be specific. In its fiscal year ended June 30, AOL spent $363 million on promotion. That’s a third of its total revenues. However, AOL charged only $126 million of promotion costs against its profits. The difference, $237 million, was lots more than the $65 million pretax profit AOL claimed. Thus, AOL was burning cash even as it reported profits.
Now AOL has gotten accounting religion. The company says it will henceforth charge its promotion expenses to earnings as it spends the money, the way a normal company does. In addition, AOL will take a special charge of $385 million for ““deferred’’ promotion costs. That’s money AOL had spent but hadn’t charged against profits, and is counted as an asset.
You have to love this. By deferring those costs, AOL over the years reported profits $385 million greater than they would otherwise have been–which would have been far enough below zero as to make the Arctic seem tropical. AOL then used these non-existent ““profits’’ to bill itself as a money-making company. That boosted its stock price. Now AOL is taking a special charge, suggesting that ““it’s just bookkeeping’’ and doesn’t really matter.
Nonsensical numbers: Forgive my gloating. But AOL in essence is conceding that skeptics like me, who said that AOL’s accounting verged on fantasy, were right. Please note that I’m not accusing AOL of illegality; its outside accountants blessed everything. But the numbers were nevertheless nonsensical.
I can’t give you AOL’s side because when I called its executives were busy. The annual meeting, you know. Announcing the news Tuesday, chairman Steve Case confined himself to bromides. The new accounting will satisfy Main Street and Wall Street, he said, whatever that means. Amusingly, AOL met with key shareholders and securities analysts Monday night, spouting the new gospel and unveiling profit projections as far ahead as 1999. That seems ludicrous, considering that AOL’s accounting and business plans have now totally changed, the latest of many such reversals. I doubt AOL can see beyond three weeks, let alone three years. Still, the Street loved it and bid up the stock. So what if AOL’s new accounting and new flat-rate cost structure ($19.95 a month unlimited use, also announced last week) were total reversals of everything it had previously said?
Sobering as the new numbers are, they don’t mean AOL is going broke tomorrow. But rebooting AOL doesn’t mean its problems are behind it, either. As all of us computer users know, rebooting doesn’t ensure a trouble-free life; it just keeps you afloat until the next time your system bytes you.
