Today's Time Warner earnings announcement shows the disappointment that results when shareholders expect a corporate strategy and instead get a conglomerate. With TWX down 1.72% in the earnings announcement's wake, the Chinese water torture continues. How so?
When a corporate strategy is well-conceived and well-executed, there is a strong economic reason for businesses to be under the same corporate umbrella. Simply put, corporate strategy is about creating value by sharing important capabilities across business units. For example, Wal-Mart gets big volume discounts by purchasing in big quantities from its suppliers. Wal-Mart is also good at measuring what items sell in its stores and which ones don't and stocking the shelves of each store accordingly. Wal-Mart's sustained financial excellence results from its ability to share these capabilities across its discount retailing, grocery, and pharmacy businesses. This sharing gives Wal-Mart a sustainable competitive advantage, keeping its costs below its competitors.
By contrast, a conglomerate holds a diverse collection of businesses among which there is very little sharing. The ostensible reason for the businesses being under the same corporate umbrella is that the different businesses can predictably offset each other's earnings cycles. When one business is down, another one is up and vice versa. The net effect is to smooth earnings.
Unfortunately, in most conglomerates what management thought would happen when the businesses were acquired turns out to be wrong because the business changes. This is what happened in the wake of the 2000 merger between AOL and TimeWarner.
And today's earnings announcement bears out the failure of TWX's corporate strategy. Investors were disappointed by reported revenues of $10.46 billion which fell short of analysts' expectations of $10.89 billion. Despite 15% growth in Time Warner Cable revenue to $2.6 billion -- coupled with quarterly records for new customers for basic cable, digital video, high-speed Internet and phone services -- AOL was a disappointment -- losing 835,000 U.S. subscribers, 52% more than the 550,000 subscriber loss that analysts had expected. AOL's earnings before interest, taxes, depreciation and amortization fell 17% to $442 million -- lower than the $459 million that Merill Lynch's Jessica Reif Cohen had estimated.
AOL was not the only disappointment. Revenue at the film unit, the largest, fell to $2.78 billion -- falling short of analysts' estimates of $3.16 billion. On the plus side, Film’s EBITDA exceeded expectations, rising 19% on cost cuts and gains from selling international film rights. And Time Inc's earnings fell 12% on weaker results in its overseas magazines and a $12 million restructuring charge.
A well-crafted corporate strategy would lead to better results through sharing across TWX business units. For example, more rapid revenue growth might result from selling film tickets to AOL and magazine subscribers or offering cable subscriptions to AOL and magazine subscribers and filmgoers.
Unfortunately, today's results reveal that such sharing is not yielding sufficient growth to drive TWX stock -- sticking investors with fuzzy shareholder math where 1 plus 1 = 1.
DISCLOSURE: I am neither long nor short Time Warner shares. For more about me, click here.
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Reader Comments (Page 1 of 1)
5-03-2006 @ 4:30PM
EJ Passeos said...
This post should be required reading for every investor, Economics major, and executive.
It is teetering on laughable the disparity in investor expectations/market capitalization between Google and Time Warner.
Very valuable TWX properties include:
A solid, attractive, AOL/AIM.com home page, e-mail, news (love AOL Finance/Money/Bloggingstocks), AOL dial up, broadband, and now Internet based division
Many, many content properties.
Fantastic distribution across many markets in digital cable, VOIP, and soon celluar operation.
Sadly, the Time Warner boys sabotage those needed and still available synergies with AOL.
Richard Parsons has performed excellently in his quest to settle the numerous investigations/government harrassment.
AOL, under the excellent control of Jonathan Miller has begun to offer unique content to AOL and AIM users. I love the concept of Welcome Back Kotter online. That is what the Internet should be about: choice.
But, in the end, Mr. Parsons must be graded on investor returns. The market must not have faith in the way the company is currently structured.
Mr. Ichann was correct.
Why don't Steve Case and KKR purchase AOL, including the millions of dial up customers, and leave the babies and incompetent TWXers who scuttled perhaps one of the most potential mergers in history, to themselves. Google is facing $2b from Billy Gates/Steve Ballmer, leaving $30 more in the bank, and an agressive Yaho. CapEX is increasing--Google is paying--allegedly--$3 billion just to get on the Dell/Firefox toolbar.
At some point Google needs to earn additional revenue streams. Especially, if those gains MSFT promises investors are realized with Live/Vista/IE7 with another two large thrown their way with explicit instructions from Mr. Gates saying we want to win.
Again, awesome--even moving--post.
EJ Passeos