The growing pressure to break it up
GIRDER by girder, stone by stone, the 55-storey granite and plate-glass building that will be the new headquarters for AOL Time Warner is rising on New York's Columbus Circle. Yet the erection of this massive complex, which will also house a hotel, penthouses, a shopping mall and a studio for CNN, the group's news network, carries a dreadful symbolism. Just as the new building for the media conglomerate is coming together, there is a sense that the company itself may be falling apart.
The pressure for the break-up comes from AOL Time Warner's heavy debt. At the end of 2002, it stood at $27.5 billion, and could have reached $31.2 billion in the first quarter of 2003, according to Morgan Stanley. Richard Parsons, the company's boss, has promised to hack it back to $20 billion by the end of 2004, and to reduce the ratio of debt to earnings by the end of this year. But the credit-rating agencies are watching like hawks.
To ease the debt burden, some AOL Time Warner assets will go under the hammer, notably its Atlanta sports teams and Time Warner's book publishing. Warner Music's manufacturing business, its music-publishing division and the group's 50% stake in Comedy Central, a cable channel, could also be up for sale. In all, Mr Parsons hopes to raise $2 billion-4 billion from off-loading such 'non-core' stuff. He has also promised to make an initial public offering of shares in Time Warner Cable by the end of June, which could raise another $2 billion. And he is relying on the crucial $3 billion or so of cash that the group should generate this year.
If all of these elements fall into place, Mr Parsons will be safe. The trouble is that none of them looks straightforward. Already, for instance, WH Smith, a British bookseller, has withdrawn from the bidding for the book publishing business. More troubling, the uncertain equity market makes the planned IPO look extremely tricky. AOL Time Warner insists that it will still go ahead, but that the offering might not happen until 'late summer'.
This could make matters deeply uncomfortable over the next six months. The group has just had to make a number of hefty cash payments, including $2.1 billion to Comcast, a cable giant, for its interest in Time Warner Entertainment, which houses assets such as Warner Brothers and HBO, a premium cable channel; and $812m to Vivendi, a French media group, for a stake in AOL Europe. As one fearful insider puts it: 'If the cable IPO doesn't work, he [Mr Parsons] will have to look at selling not just our non-core assets but core ones like music, film or even HBO.'
Even then, however, there are no easy solutions. The fact that Vivendi, despite its own debt pressures, has so far held on to its Universal Studios and Music points to the difficulty in securing attractive offers for such assets right now, and Mr Parsons insists that he will not get into 'fire-sale mode'. There have been talks with other music groups, such as EMI, a big independent record company, but it is in no position to pay cash. Mutterings by Viacom, a rival media giant, that it is eyeing assets not listed for sale--such as CNN or even the whole group--are dismissed by those close to Sumner Redstone, its boss, as 'highly speculative' in the short run.
Which leads, as all roads tend to, back to AOL. The source of the merger--announced in 2000 and the biggest ever in the media industry--it is now the source of all problems. It is the only operating division whose profit contribution shrank in 2002 (see chart on following page), and it has been hard to integrate its geekish internet culture, far removed from the Time Warner tradition. Despite repeated efforts to use premium Time Warner content to drive subscriptions, the link with the entertainment assets has proved of little value. As Peter Kreisky, a media consultant, puts it: 'There is no convincing evidence that Time Warner needs AOL from a strategic point of view.'
Ever since Mr Parsons took over nearly a year ago, he has promised to fix the battered internet business. He installed new bosses and purged the place of old-timers close to Steve Case, AOL's founder, whose resignation as chairman of the group takes effect next month. And he has backed a rescue plan which, belatedly, pushes broadband and tries to extract more money from AOL subscribers rather than just to boost subscriptions. Yet, even so, operating profit at AOL is expected to fall from nearly $1.4 billion in 2002 to under $800m in 2003, according to Morgan Stanley.
If the persistent underlying source of trouble at AOL Time Warner is AOL, what is the point in keeping it? Off-loading it would be cheered to the rooftops at the old Time Warner businesses, many of which have had a cracking time recently, including HBO ('The Sopranos'), Warner Brothers ('Harry Potter') and New Line Cinema ('The Lord of the Rings'). Despite the efforts by Mr Parsons to mend relations poisoned by the aggressive AOL upstarts in early post-merger times, there is still 'a lot of bitter feeling about what Case did', as one Time Warner executive puts it.
Yet dumping AOL would not be simple. The market currently considers the division almost worthless. There are few credible buyers, and there are inquiries pending by both the Securities and Exchange Commission and the Justice Department, as well as dozens of shareholder class-action lawsuits. Only this week, two institutional shareholders filed a suit against the company, accusing Mr Case and other bosses of 'tricks, contrivances and bogus transactions' to inflate the share price both before and after the merger. For now, the group insists that it will hold on to AOL while it revives it. But, if other plans flop, this could become untenable.
