It's Time to Take It Apart

By Steve Case
Sunday, December 11, 2005

There has been a lot of speculation about what Time Warner should do to increase its lagging stock price, and the media giant appears to be nearing a decision on the future of one of the Washington area's most significant enterprises: AOL. Although I played a key role in bringing AOL and Time Warner together six years ago, it's now my view that it would be best to "undo" the merger by splitting Time Warner into several independent companies and allowing AOL to set off on its own path. Here's why.

When the merger was announced, analysts believed that Time Warner's music, movies and magazines along with its cable systems would speed up AOL's transition from phone dial-up to broadband, and that AOL's Internet mentality would accelerate growth at Time Warner. Neither has occurred.

While most criticism of the merger has focused on how it has failed to yield the expected benefits for Time Warner, it is worth noting that the combination has not helped AOL much either. Some benefits that AOL expected -- such as replacing Road Runner, Time Warner's broadband cable service -- did not materialize. Meanwhile, unexpected roadblocks -- such as internal pressures slowing AOL's efforts to make Internet telephone service commercially available -- unfortunately did. Instead of propelling AOL to new heights, the association with Time Warner has weighed AOL down, while its competitors, such as Google and Yahoo, have made important strides forward.

As a result, the need for fundamental change at Time Warner became obvious long before investor Carl Icahn bought a big stake in Time Warner and began developing his own plans for the company's future. Icahn also has spoken out in favor of breaking up the company. (For the record, while the views I am expressing here will be no surprise to Time Warner's management or directors, I have never spoken with Icahn or his advisers about Time Warner.)

How this widely heralded "merger of the century" quickly became widely derided as the "worst merger in history" has been the subject of considerable commentary. I have my own views, but now is not the time for that debate. Instead, it is time for everyone with a stake in Time Warner to focus on putting this company on a better path.

At the time of the merger, there was great excitement about the innovation that would occur as the company's businesses collaborated to create new growth opportunities. Unfortunately, that "one company" strategy never got off the ground. Instead, each division "did its own thing." While that staved off turf wars, it did nothing to drive innovation. As a result, the company's growth has slowed, and the stock is now trading at about half what it was four years ago.

By early 2004, it was clear that Time Warner had to "integrate or liberate": make the divisions work together or set them free on separate paths to pursue their own opportunities. This past July, having concluded that integration would never happen, I proposed to the company's board that it was time to "liberate" and split the conglomerate into four freestanding companies -- Time Warner Cable, Time Warner Entertainment, Time Inc. and AOL -- each with its own strategy, stock, balance sheet, management team and board.

Each of the four units would benefit from the separation. Time Warner Cable would be better positioned to compete effectively against aggressive communications companies like Verizon and the new AT&T -- and it would lose little in being divorced from the Time Warner movie and television companies, as few benefits have ever materialized from having Time Warner Cable and Turner Broadcasting under the same roof. Time Warner Entertainment (Warner Bros., New Line, HBO and Turner Broadcasting) could build on its strength as one of the world's leading entertainment companies, and more vigorously embrace new technologies and new distribution channels. Time Inc. would be able to grow from being a traditional magazine company into a multifaceted media and information company, focused on expanding its brands well beyond magazines.

AOL would be the fourth company, and perhaps the one with the greatest potential. At a time when some of the fastest-growing enterprises in our economy are Internet leaders -- such as Google -- shareholders would benefit from seeing AOL return to its roots in the Internet sector. A split into separate companies has one other advantage for shareholders: Investors who don't believe in the promise of one of these endeavors could sell their shares in that business and double up in their holdings in other parts of the former Time Warner empire.

The success that Warner Music has had since being spun off from the parent company is an example of how this strategy can deliver value for all stakeholders. When Warner Music was part of Time Warner, it was -- much like AOL -- seen as a business in decline, a troubled division with a glorious past but a questionable future. But since being separated, Warner Music has increased in value by cutting bureaucracy, signing new artists and investing more aggressively in digital music. The private equity firm buyers have already recouped their initial investment, and are still major owners of a stock that is up 20 percent since its initial public offering six months ago.

My sense is that other parts of Time Warner would achieve similar results if set free from the conglomerate. Time Warner has proven to be too big, too complex, too conflicted and too slow-moving -- in other words, too much like a classic conglomerate -- to seize new opportunities.

As one of the largest individual shareholders in the company, with holdings worth more than $250 million, I obviously have a stake in seeing all of Time Warner do better. But, as one of AOL's founders, I also have a particular passion about its future. Published reports suggest that Time Warner remains unsure about what to do with AOL. Perhaps it will sell a minority stake to generate some cash, but keep AOL as a unit within Time Warner. Perhaps it will adopt a "split the baby" option, separating the "content" portion of AOL's business from the so-called "access" portion, and selling a stake in just one part. (The smaller but growing content portion sells online ads; the highly profitable but shrinking access portion sells monthly memberships for the service.) Perhaps it will use AOL to form a new joint venture with Microsoft to try to compete with Google.

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