AOL's CEO Discusses Q4 2013 Results - Earnings Call Transcript

Feb. 6.14 | About: AOL Inc. (AOL)


Q4 2013 Results Earnings Call

February 06, 2014, 08:00 AM ET


Eoin Ryan - Investor Relations

Timothy M. Armstrong - Chairman and Chief Executive Officer

Karen E. Dykstra - Chief Financial Officer and Executive Vice President


Brian Pitz – Jeffferies & Co.

Ronald Josey – JMP Securities

Laura A. Martin - Needham & Company, LLC

Neil Doshi - CRT Capital

Peter Stabler – Wells Fargo Securities

James Cakmak - Telsey Advisory Group LLC

Mark May - Citigroup

Youssef Squali - Cantor Fitzgerald & Co.

Debra Schwartz - Goldman Sachs

John Blackledge - Cowen and Company


Good day, ladies and gentlemen, and welcome to AOL's Fourth Quarter 2013 Earnings Conference Call. My name is Frances, and I will be your coordinator for today. At this time all participants are in a listen-only mode. Later we will facilitate a question-and-answer session. As a reminder this conference is being recorded for replay purposes.

I would now like to turn the conference over to Mr. Eoin Ryan, Senior Vice President of Investor Relations. You may proceed.

Eoin Ryan

Good morning. Thanks, Frances and everyone for joining us for our fourth quarter 2013 earnings call. You can find our Q4 earnings press release and the accompanying slides and trend schedules on the Investor Relations website.

On the call with me today is our Chairman and CEO, Tim Armstrong; and our Chief Financial Officer, Karen Dykstra. We'll make some brief remarks on the quarter and our overall strategy, and then we will open up the lines for Q&A.

But first I will remind you that during this call we may discuss our outlook for future financial and operating performance, corporate strategy, marketing and product plans, technology improvements, cost initiatives, planned investments, as well as our expectations of the economy and the online advertising in general. These forward-looking statements typically are preceded by words such as we will, we expect, we believe, we anticipate or similar statements.

These forward-looking statements are subject to risks and uncertainties, and our actual results could differ materially from the views expressed today. Reported results should not be indicative of future performance. Some of these risks have been set forth in our annual report Form 10-K for the year ended December 31, 2012, filed with the SEC. All information discussed on this call is as of today, February 6, and we do not intend and do not undertake any duty to update this information to reflect future events or circumstances.

We will also discuss certain non-GAAP financial measures, including adjusted OIBDA and free cash flow. I refer you to the press release in the Investor Relations section of our website for all comparable GAAP measures and full reconciliations.

Finally from time to time we post information about AOL on our Investor Relations website at and our official blog at

And with that, let me throw the torch over to TA.

Timothy M. Armstrong

Thanks, Eoin. In 2013 AOL delivered what we told you we would deliver. First, well our strategy investing in long term human and business platform came through in our 2013 numbers and we ended the year with the best results we've had in a decade. Second, AOL grew our audiences. We surpassed 170 million users domestically and Q4 was up 10% quarter-over-quarter, roughly up 17 million users which is the fastest growing among the top 10 Internet companies.

The third is AOL grew our advertising business through automated advertising technology platforms through video, through mobile and through premium formats and we saw an increase in our ad prices.

Fourth, AOL has created content profitability at scale and has some of the best and largest content platforms on the web. And fifth AOL added significant operational strength and talent to the company In summary revenue grew, profitability grew, traffic grew, costs came down, operations improved and we hired bar raising talent.

AOL has built a platform for growth and we have built it in some of the most important future consumer and business markets. While we have seen a revolution in the adoption across the world in Internet related services the reality is the majority of that activity and opportunity has yet to be touched. In our strategy areas we can look forward over long periods of time to see where transformations will take place, both in the consumer and in the business world.

AOL's 2013 success was due to our ability to look forward, invest in the right areas with the right results that are clear. We are ready for the next step in the journey and we know there is opportunity in front of us.

In reviewing Q4 we were most pleased by the leadership and performance of our teams. AOL is a connected family of brands and platforms and the 5,000 employees we have and work with delivered very strong value to consumers, customers, partners, investors and other AOLers.

We wanted to quickly walk through some of the highlights and then spend some time on 2014. In the consumer usage area AOL ended the year with our sixth consecutive quarter of consumer traffic growth and we reached over 200 million consumers in November with our advertising platforms for the first time.

In mobile we are making real progress. We now have more than 18 million mobile users and we are growing at double-digit pace. Last year our mobile unit represented approximately 40% of our desktop users and today that number is closer to 70%.

In the brand area AOL strengthened its portfolio of premium brands. At we have a new team in place which is led by Maureen Sullivan and her renewed energy that has already taken hold. It's early days but daily UVs have risen to 11 million from 9 million just in December. Page views and UVs improved by over 20% as we ended the year. is seeing positive trends in mobile usage with users and page views both growing at double-digits. AOL Membership led by Bud Rosenthal also had a record and historic low churn of 1.3%. Bud and his team are continuing to test our new subscription product to find ways to return this revenue stream to growth.

So Huffington Post continues to be a massive success story thanks to Arianna and her team. Arianna and Jimmy Maymann continue to set impressive records. This week marks the third anniversary of AOL Huffington Post merger. In 2011 Huffington Post was a U.S. only publication with roughly 20 million users, no video or mobile experiences to speak off and less than 100 million comments and 60,000 bloggers across roughly 20 verticals.

Three years later HuffPost has over 90 million users across 80 verticals. It operates in five continents that cover half of world's GDP and with Brazil, South Korea and India launching in early 2014, by the end of 2014 HuffPost will reach two-third of the world's GDP.

Three years later the Huffington Post also is the most shared news brand on Facebook. It surpassed 300 million comments. HuffPost Live offers 12 hours a day of live streaming as well special events like our partnership with Microsoft at Davos We'll soon cross 1 billion video views and we just crossed having 17,000 guests on HuffLive since it went live 18 months ago.

For our third birthday Arianna and the HuffPost team also had a great birthday present. They became the number two global news provider, passing CNN. This is a massive achievement and a real testament to Arianna's vision and the great work of the HuffPost team.

The technology brands had a solid Q4 and a great start to 2014 with the CES pick up. In Gadgets stage we've seen a continuous webcast interviews with VIPs across the technology company landscape as well as the award show for CES' best of CES award. Thousands of people who gathered watch the stage show, more than six million people engaged within Gadget coverage online. Verizon was our sponsor and the Gadget present was for the second in a row and we are the official media partner for CES now, official media partner.

We also had TechCrunch at CES and it was a scene of continuous interviews out there with tech luminaires. TechCrunch launched a new franchise hardware battlefield which start-ups from 11 countries compete for prizes worth $50,000. Nearly 3 million people followed the coverage and webcast online and were sponsored by DISH.

Our Lifestyle Properties reached the number two position in lifestyle category with 34 million users. MAKERS now features over 200 of the world's most influential women and in Q4 drove over 4 million video views and a 25% increase in time spent on the site. We running what's probably going to be the most influential women conference in Los Angeles next week up at MAKERS and we're very excited about that.

MapQuest continues to improve its product experience across all devices and especially in mobile. Financially MapQuest had its healthiest year in many years through 2013.

Patch is now a joint venture with Hale Group and there is going amount of work happening to address Patch's product offering for communities. Q4 was the second quarter of profitability for the Brand Group and we expect that to continue. Susan Lyne has done a great job, an exceptional job of making content a great business at scale.

While our consumers brands had a great Q4 in 2013 we improved revenue in key strategy areas and our revenue engines gained strength. The leadership of Jim Norton and Bob Lord has propelled us to very deep relationships with many of the best customers and platforms in the world.

Advertising revenue had an impressive Q4 growth of 23%. In ad sales we also had strong growth in display with a global growth of 7%. The Ad 100 advertisers grew double-digit year-over-year and quarter-over-quarter. The global agency revenue also grew by double-digit both year-over-year and quarter-over-quarter. Our video team has done a world-class job by building out premium experiences all the way from the slates that we have done through the open marketplace and the video technology staff. We have substantial video assets, scale and sales strength.

We are programmatically distributing premium video content and video ads and growing volumes through our sites all over the web. We served 4.3 billion video ads in December setting a new industry record and making us number one in video ads served for the third consecutive month. To give context of just how far we've come, in Q4, 2013 we had more revenue than we had in the entire year in 2012. had a big impact on the company and our advertising strategy. is a very strong asset at the front edge of the market and it does an excellent job of connecting the edges of the market pushing value from the middle to advertisers, agencies and publishers. The leadership team at is as strong as the product. Revenue continues to grow at a triple-digit pace year-over-year. The total number of campaigns, buyers and impressions grew at a double-digit pace quarter-over-quarter.

We expanded into Japan, India and Singapore. And while this rough and tough video is bought-sold online also launched a path into linear TV during Q4. In mobile ad AOL entire mobile inventories on one platform and we are rapidly increasing the mobile inventory from our publishing partners. Mobile revenue is growing at a triple-digit pace. Our strategy is unified device campaigns in Q4 roughly 55% of our clients went across platform campaigns across our network. This compares to an industry standard of roughly 20%.

In programmatic advertising the AOL network team has game changed into a programmatic platform that is differentiated and performs very well for advertisers, agencies and publishers. In Q4 our DSP our SSP and all grew at triple-digits. Advertisers on our DSP and demand partners into our SSPs both grew at double-digit quarter-over-quarter.

AOL network has gone from a standing start just over a year ago to building a programmatic business with revenue well north of $200 million in 2013 and we have a clear path for rapid growth in 2014.

In premium formats we have been driving innovation for four years. Premium format impressions and CPMs grew at double-digit pace year-over-year and quarter-over-quarter. We are getting better-and-better at building and deploying formats that serve specific advertiser needs. In Search revenue declined 2%. Our Search business is stable and we are focusing on building sustainable Search products in partnership with Google. We expect Search to be flat to growth for 2014.

Moving to the corporation we are always very focused on operational and financial improvements to the company overall. We have a full operating plan just focused on improving the speed and execution of central services. We want AOL to be a fast and nimble partner to our brands and platforms. We want to be the place where the best talent, brands and platforms come to grow. We are consistently trying to become more efficient, both moving cost out of and shifting resources to our growth areas.

Total expenses had a significant decline year-over-year during 2013 and we were still able to fund many of our growth areas. We are attracting top talent at an accelerating pace and if you want to play a real role in solving some of the Internet's biggest and most interesting problems come join us at AOL.

Finally we like to give a welcome to the newest member of the AOL family and that's the company Gravity. We expect it will be a game changer for the company and our platforms in 2014. Like Gravity has the triple threat, talent, technology and a big strategic fit. Personalization is the future of the internet and AOL with Gravity is personalizing the web and making it more human.

The Gravity technology was deployed across all of our owned assets as well as across our entire network of tens of thousands of publishers and advertisers. Gravity helps create unique personalized and more engaging experience for consumers and it's fantastic for brand marketers and offers opportunities for agencies. Gravity goal is to create the interest graph in the entire Internet population. Amit and his team have done a fantastic job growing Gravity and we want to welcome them to AOL.

2014 is set to be another strong year for AOL. We are deeply in the process of executing our 2014 strategy. We want to be the best operating company in our space and we expect to change and improve in the coming year. There are a number of things we'd like to accomplish in 2014 and here is a higher level view on what those are.

We would like global content brands to grow and we want to focus on fewer bigger brands across the AOL network globally. We want to automate global brand advertising on all screens and grow successful formats. We would like to globalize videos and our full technology staff from premiums, slate all the way to video marketplace.

We want to operationalize R&D. There is two specific areas that we're interested in terms of future opportunities for AOL that we're going to focus on. Investors should expect AOL to play offence in 2014. We are moving from a company that grows to being a growth company. We consistently calibrate our strategy and quickly update our operational structure and the ability to do that is a strategic advantage and was a big part of our success in 2013.

Another big part of our success in 2013 was Karen Dykstra. We are basically splitting the company where I am handling the business units and Karen is handling the corporate areas and she had a superstar performance. So let me turn it over to our superstar, Karen Dykstra.

Karen E. Dykstra

Thank you Tim for your introduction. Good morning everyone. Q4 results was strong and we're very pleased and I'll quickly run through the highlights so that we can get to the Q&A.

First we ended the year with the best revenue and adjusted OIBDA trends we have seen in decade. Second, adjusted revenue grew year-over-year in each quarter of 2013 and for the year margins expanded by over 150 basis points illustrating our cost discipline and the leverage in our model particularly at the display revenue growth.

And third the investments we have made over the past three years drove the growth in 2013. Giving you some examples HuffPost is now approaching a 100 million users worldwide, AOL is a must buy video platform, the programmatic products we built in house have grown strongly and rounds out our programmatic staff with the best-in-class programmatic video platform.

In 2014, we're positioned for further growth with further investment and for continuing to drive the business forward.

I'll move to the results. On a consolidated basis total revenue grew 13% year-over-year in Q4. This is our first quarter of double-digit revenue growth in a decade and it was driven by 23% growth in global advertising revenue. Global search revenue declined 2% in the quarter. The decline was primarily from fewer queries from the AOL clients and subscriber declines and by fewer queries from international markets. Search revenue on continued to grow. In recent quarters growth was strong enough to offset declines elsewhere but this was not the case in Q4.

As Tim noted, we are laser-focused on improving search revenue going forward and there are a number of initiatives ready and underway. After a slow start to the year in January, trends have improved recently and we expect search to get back to growth in 2014.

Now turning to the segments and starting with the Brand Group. Display growth continued and we significantly improved adjusted OIBDA. Display growth was driven by growth in domestic and international markets. Pricing was again the primary driver of growth, which is an important point to underline. Advertiser spend is ultimately driven by campaign effectiveness which results in better pricing and AOL's high quality inventory ad formats and partnership approach drives improved results for advertising and this is driving our recent performance.

As we look out in 2014 domestic display will be impacted by a few things that you should factor into your numbers. First, Patch contributed $37 million in display revenue in 2013 which will not be in our 2014 numbers.

Second, as I previously mentioned a number of times we are focusing our efforts both operationally and sales efforts primarily on the most powerful must-carry brand while deemphasizing others. This benefits our OIBDA but will also negatively impact revenue by a few million dollars for the quarter. So the combination of this with Patch will result in about $45 million of revenue decline in 2014.

And third we saw increase in quarterly expense in 2013 which benefited us in Q4 but at the same time it highlights the lower visibility more than a few months out. With all of this we currently expect display revenue to decline in the first half of 2014 but returning to growth in the second half.

Brand segment adjusted OIBDA was a highlight for the quarter and grew very strongly. Margins more than tripled to 16% and we're very pleased with the improvement here which is primarily a result of a couple of things.

Strong incremental margins on each solid brand grew display revenue; meaningful progress in rightsizing the overall cost structure of the segment and as we told you we focus on fewer higher potential opportunities. And of course you have felt our commitment on Patch reducing its expense within Q4 and then also recently finding a great partner in Hale Global which will take Patch to the next level. We are very pleased with our partnership with Hale and looking forward to Patch's success in the local market.

As we invest brand group margins will vary quarter-by-quarter particularly in the seasonally weak and strong quarters of Q1 and Q4 respectively. So please do not expect that the margin in Q4 is the new base line margin. However over the long run as we grow revenue we expect to see market expansion in general. In 2014 margins are likely to be in the low double-digit percentages. And over the long run we continue to think its achieving margins in the higher teens and possibly up to 20% range is achievable.

At AOL Networks we had our strongest quarter ever with 60% growth in the third-party network revenue leading to a 50% growth in segment revenue. contributed significantly during the quarter again sold over 100% year-over-year as advertisers and publishers on the platform each grew at double-digit pace.

It is important to note that growth was strong excluding as well with third-party network revenue growing about 20% which is truly outstanding. Growth came from increased sales of our premium formats, video and from our programmatic products which continue to perform strongly. Both our DSP, open platforms ALP and our SSP which is marketplace by ADTECH grew strongly and steadily through the year. Therefore, rapidly becoming meaningful contributors to AOL Networks' results and a good indicator of the ground strength of that platform.

At the very end of the year we saw a surge in last minute advertising spending in AOL Properties and third-party display and particularly in programmatic as advertisers directed unspent budgets towards our platform. While clearly a positive sign that we are leader in the movement to programmatic I would also caution that late quarter shifts like this are obviously less predictable and we don't rely on them to reoccur each quarter or at year-end.

It's clear that AOL Network's momentum is building. Our strategy to invest in fully integrated platforms with a full suite of offerings for publishers and advertisers across formats and across screens is showing strong results. This is the area of -- with digital space that is evolving rapidly and decisions are being made now on the supply and the demand side that are likely to impact how advertising is bought and sold for many years to come. As the AOL networks is building at the forefront of that change and we are continuing to invest to build out an [influential] platform as we solidify our lead position.

We are seeing some positive impact for this strategy and an accelerated revenue growth in the back half of 2013 clearly. As AOL Network is a growth platform, is the fastest growing area of our market and we continue to invest to gain share. That said we are scaling here and margins should be expanding in the back half of the year and lead to improved year-over-year margins for the year.

In the Membership Group, subscription revenue declined 10% in Q4, with a decline in subscribers mitigated by historically low monthly churn of 1.3% and 4% ARPU growth. Subscribers declined 10% as we provided approximately 50,000 additional subscribers who dial-up services as a back-up and now include that in our subscriber count. This is part of our simplified pricing structure as-well-as as our commitment to provide additional value to our members.

There was no impact on share from this and had -- in our calculation and had approximately a $0.07 negative impact on our ARPU in the numbers. Despite the decline in revenue, margins remained strong as we continue to drive efficiencies in the business. In 2014 we intend to continue to explore growth avenues for this business, including bundled subscription services and while margins will remain quite high we are unlikely to continue to achieve the 70% we did in 2013 and margins closer to the mid to high 60% range are more likely.

I'll turn to profitability. Adjusted OIBDA grew 19% year-over-year in Q4, driven by revenue growth and expense reduction, which resulted in continued AOL margin improvement. Lower expenses were driven by approximately $28 million decline in G&A expenses, reflecting lower marketing, legal and consulting expenses.

Over half of the lower overall G&A came from our corporate and other segment, while reduced expenses at the Brand group also made up the remainder of the difference. There are few things to take in account when we think about 2014. First as you know we acquired Gravity on January 23. Tim spoke a little bit about the team, the vision, the strength in the platform a few minutes ago. I believe that this will be a significant contributor to our engagement on our property as-well-as enhance our publisher offerings in our network business.

We paid $82 million in cash and we have deferred payments of additional $8 million over the next two years which will be considered compensation expenses in adjusted OIBDA. Additionally Gravity will be negatively impacting our adjusted OIBDA in the range of $3 million in Q1 but we expect this transaction to be more breakeven on -- more than breakeven on OIBDA in 2014. We also expect it to be accretive by 2015 and we are very excited by the opportunities that Gravity brings to AOL and absolutely thrilled to have their talented team on board.

Second in Q1 we will incur a small additional restructuring charge related to past reductions. As well as approximately $3 million of tax operating losses in January as we continue to record a 100% of the operating loss through the closing date of this transaction was held on January 29.

Third stock-based compensation and amortization and intangible assets grew in Q4 and reflect the inclusion of a full quarter of results. Going forward these figures will also include Gravity and are likely to be in the $5 million and $10 million range for stock-based comps and amortization of intangibles respectively in 2014.

We have now concluded two consecutive years of [stellar] growth and for 2014 the goal is the same, growth with investment. We are on a multiyear plan and positioning for future growth. The size and timing of our investments will depend on a number of factors including the pace of our [inaudible] cycle, windows of opportunities and competitive forces just to name a few.

We are holding ourselves accountable through our long-term strategy and progressing each quarter to that end. With our focus on balancing growth with investment, we continue to grow adjustment OIBDA and expect to reach at least $500 million in 2014.

We ended the year with a strong balance sheet with $207 million in cash and equivalents followed by a year in which we bought back a 135 million in stocks and paid approximately $330 million in cash so far at We continue to generate significant amount of free cash flow, generating $60 million in Q4 and $192 million for the year and we have access to a further $250 million from our revolver which remains undrawn. And as you know we continue to benefit from our net operating losses and are not currently a material cash taxpayer. We expect that to remain the case throughout the remainder of 2014.

To conclude we finished 2013 on a high note and I am very pleased with our progress and with the opportunities ahead of us. In 2014 we’re focused on building on the momentum and making investment decisions that will sustain our growth for many years to come.

And with that I’ll open up to questions and turn it back to the operator.

Question-and-Answer session


Thank you. (Operator Instructions). The first question comes from the line of Brian Pitz from Jefferies. And please remember to limit your questions to one.

Brian Pitz – Jeffferies & Co.

Thanks. Great quarter guys. Tim, can you talk to us a little bit more about your video strategy, specifically how do you see AOL on really sitting together in terms of one cohesive strategy? And then maybe just any additional thoughts on integrating mobile into that video strategy. Thanks so much.

Timothy M. Armstrong

Sure Brian. So basically just in a very simple way to talk about our video strategy, we basically have a video pyramid where at the top of the pyramid. We have slates and posts live and original video stuff we do. In the middle of the pyramid we have what is essentially AOL On which I believe is the largest syndicated network of high quality content on the web and it’s about a million pieces of video from many of the cable companies and we have big partnerships with really well known brands like ESPN to distribute their content.

And at the bottom of the pyramid is the marketplace for video which connects buyers and sellers which is and both Ran Harnevo and Amir Ashkenazi from basically have a combined roadmap and vision there. It's a very connected strategy between AOL On and and it's been a very successful.

In mobile you know currently we’re screened at NASDAQ, I would say Brian. We are one of the largest distributors over the top apps in terms of places like Samsung TV and plasma screens all the way down to mobile devices. And I think actually if you look forward and one of the reasons we made really big investment in video is the infrastructure around mobile is going to change pretty dramatically over the next 12 to 18 months where you are going to go from single cap to multi cap and that will have a big incremental improvement on mobile video for consumers by the network companies and for companies like ours.

So although mobile video is big and growing it’s probably a flash in -- of our -- which we’re looking at our next five years and we feel like we’re well positioned both on the consumer front end with video as well as the syndicated marketplace to take really big advantage of that. And I would also just remind everyone from last year we were one of the first companies to tie our ad systems into the TV linear systems. launched their linear system in Q4. So you have our pyramid-based video strategy, you have single cap to multi cap going for mobile and you have the infrastructure and people getting integrated through your web video and TV.

So we’re very interested in this business and have a very clear and precise strategy around it.

Brian Pitz – Jeffferies & Co.

Great, thanks.


Your next question will come from the line of Mr. Ron Josey from JMP Securities. You may begin.

Ronald Josey – JMP Securities

Great, thanks for taking the questions. So real quicker, Tim if we could ask, I want to ask a little more on pricing. And clearly we’re seeing sell-in here in your business both on the premium format but then also I wanted to focus on programmatic specifically. So we attended the Publisher Conference in January and I think one of the key takeaways is that a lot of publishers that we spoke with were talking that as more inventory goes programmatic, creates sort of a middle tier of inventory and that’s driving pricing higher.

So I wanted to get your thoughts just on overall pricing both on your O&O, which premium formats are growing but also just bigger picture where that’s going on programmatic and then Karen on the $500 million at least on EBITDA, could you give us a little bit more on just the network business and where that might end up next year. I know you gave some brand and access data points. Thank you.

Timothy M. Armstrong

Yeah, so pricing basically overall, asking publishers how we manage it, we manage happily and I am happy to talk more about that. The larger industry perspective on pricing I would say the following things is pricing for advertising is likely to get more expensive over time and I -- for the following reason is as consumers adopt digital devices and digital shopping cards for brands to change consumers brand preferences and other things if you shop at regular place and you have the card preloaded for you digitally it's a lot more to flip consumers in and out of brands in the way that commerce has done, with digital versus analog.

So at a base case level, it's likely advertising is going to get more expensive overtime has been general. When you zoom into the businesses like ours, basically big brands in the world want to do customer acquisition and they want to basically have their brands next to big brands and they want to be very, very choosy about where they put the brands and also the pricing of how they acquire customers.

Our pricing is up double digit year-over-year because we do a very good job of basically bringing brands in to places where they can brought our customers and do it in a very brand centric way. So I'd expect that to be a longer term trend. The publisher network you talked about I know you were at conference the trends on the front end of the business are basically publishers doing private marketplaces.

So there is this been general notion I think on Wall Street and on that as an avenue that programmatic's going to launch everything out, it's going to be -- basically destroy pricing and those things. But if you look actually at what's happening here some of the fastest area of growth in our business are private networks within programmatic where publishers are setting up the ability to bid privately with companies and on the edge of this business you are essentially having an options market start to develop also.

So you have to remember that there is a giant tailwind when consumers go in digital, a joint tailwind of businesses needing to chase those consumers, the consumers are going to get more expensive to convert and then the mechanisms underneath that serve this industry to piping the private marketplaces and those things are basically setting up to extract the highest value for consumers and that's why you are seeing in our business and my guess is over the course of next 10 years, you are going to see that in a lot of different businesses across the Board. And I'll turn it over to Karen for the $500 million question.

Karen E. Dykstra

The $500 million question indeed, first of all just referring to some of our opening comments to remind you of the point I made about things to think about as you model in numbers and the impact of Gravity and so on. Then the question I could read was more specifically around the network margins and how to think about margins going into 2014. We believe that we will have improving margins as we go through the year 2014, particularly in the second half of the year.

I'll remind the group that our networks model has a net of tax effect and in general our margins net of tax have been in the 30% to 40% range gross margins intact primarily around the mid-point maybe 35% or so in the last couple of quarters.

So the profitability will be improving as we continue to scale. We talked about making investment and the networks business in particular and in particular video is an area that we are making investments. We are a leader in programmatic video, we are a leader in video overall. We have a very full stack of platform in AOL network and we are investing to continue to build on that leading performance. We're also investing in international growth, particularly with programmatic and with AOL On.

So our story is that once we are on a straight line on the growth on a net of tax margin we are investing in our stack because it's a leading, market leading position and we are investing for international growth as well. But we believe by next year, within next year we'll have lower margins number and then pickup to the year in the third and fourth quarter.

Ronald Josey – JMP Securities

Thank you very much.


Your next question will come from the line of Laura Martin from Needham & Company. You may begin.

Laura A. Martin - Needham & Company, LLC

Hi. So Tim you are betting a thousand on strategy, you've got some mobile first really followed by video, followed by this premium programmatic. So I really would like to hear more about Gravity. So as you think about strategically that Internet going to personalization is the primary benefit of that that we're going to get higher pricing on units since there will be upwardly revising estimates over the next two to three years because pricing is going to get better as we more personalize that.

And my second question is on the comment you made in your prepared remarks Tim on 55% of your ad units were cross platform versus 20% for the industry which include mobile. Is the implication of that, that you get bigger shares of budget or do you get more pricing power because those are differentiated buys? Thanks.

Timothy M. Armstrong

Great thanks. So Gravity is a company which we believe is going to be the next sort of generation of the Internet. And the reason is you have sort of giant graphs develop on Internet over time you have kind of search graph, you have the social graph. In the personalization graph is a very, very accurate way to understand the data of consumer in terms of what they are actually personally interested in.

And you can imagine if you went out to the social graph which is very powerful and had all recommendation coming from friends and those things, the reverse of that if you reverse the Internet and basically instead of going out to get lots of -- opinions from lots of people that you have personalization filter which basically is exactly what's you are interested in as a person not what your social networks interested in.

So we believe that Gravity is the next developing graph on the Internet. That graph can be applied in a few major areas. One is against the ability to serve very, very deep content wells and a very clear way to consumers. So most of the companies in our space are producing more and more content services and videos. In some cases screens are getting smaller in mobile and those things. So the chances of getting the right content to the right user has massive economic benefits and Gravity is a great company basically getting the right object to the right user at the right time overall.

So on a traffic side there is a big advantage there. On the publisher side, our publisher network is tens of thousands of publishers we deal with, Gravity is enhanced benefit where you as a publisher have your own database but making sure that you connect with Gravity's database will make your own database smarter and it's a big opportunity for us to basically increase the traffic in terms of how they get traffic.

And the third piece is really around advertising which is -- we have one of the best technology to ad learn on the Internet which is display advertising technology. That mix with Gravity in terms of personalization will enhance the target ability, both of video and premium format and display for us on our own properties across.

So there should be pricing benefits, there should be traffic benefits and there should be basically overall network effect benefits, overall and the easiest way to think about Gravity is just like this programmatic advertising on the ad side, Gravity allows programmatic delivery of content at scale. And it's a very powerful platform. The team is very talented and they came from the social networking space and so [this is] social graph. And they believe this is the next iteration of where the Internet is going and we happened to minutely agree with them.

The cross platform question, the benefit of being cross platform at this point Laura is very mechanical benefit which is instead of having customers have to have four five different silos of spending and budgetary things we can go with a single system, single budgetary response and be much faster at serving customers' needs across all the screens and all platforms.

Advertisers don’t wake up in the morning and say I want to do mobile advertising. They wake up in the morning say I want do customer acquisition through the right consumer on the right screen at the right time. And so there is a very big performance benefit because we can share data across platforms and is a very big operational benefit because it cuts down on the operational work tremendously to be able to have one system that serves cross platform advertising.

Laura A. Martin - Needham & Company, LLC

Excellent very helpful. Thanks, Tim.

Timothy M. Armstrong

Thanks. Laura.


Your next question will come from the line of Neil Doshi from CRT Capital. You may begin.

Neil Doshi - CRT Capital

Tim, I was wondering if you could talk a little bit more about the private exchanges as Google has [inaudible] seen lot of growth on that, how is AOL differentiating its private exchanges vis-à-vis the other guys out there? And then what type of pricing power are you seeing from these private exchanges versus just regular programmatic sort of to the SG&A, if any. Thank you.

Timothy M. Armstrong

Sure, So private exchange is a differentiation for us, is a couple of things. One is the ability to have a global supply and demand connection point. A lot of the people that we’re competing with at the marketplace have either demand or supply but don't have both. So right out of the gate there’s only a couple of companies on the web that have both, they can bring supply and demand together in a private marketplace at the scale we can. That’s a big advantage and we want to continue to build a moat around that business.

The second piece that’s important is we allow open platform data to be used inside of our private exchanges and we’re building our private exchanges in a way which basically a lot of companies, almost all the major advertisers in the world are basically hooking up to DSP platforms or have data centered platforms themselves. We do a very nice job of allowing our customers to bring around data to the party and the private marketplace and both use our data and their data to enhance their targeting and the pricing in those things overall.

So I think our key advantage is our -- we’re one of the only people who have supply and demand at scale in one system. Our second piece is that we have an open data strategy which is different in the marketplace from other people are bringing for the party. And I have spent a bunch of time with our team, the largest advertisers in the world and largest agencies in the world, at CES for instance we had 70 meetings at CES and a lot of those were in this area of the business and very, very positive. We have a very, very good offering.

One of the customers said basically you guys are already there, a lot of people you are competing with are trying to get there but we already have a marketplace product. And then pricing basically one of the customers that we deal with runs 30% or 40% of their ads in kind of private programmatic marketplaces and their pricing looks pretty similar to what it does in non-programmatic areas because they are buying high quality inventory at scale from very good publishing brands overall.

So I think the same thing I said earlier in the call. I think marketing is going to get more expensive. Private marketplace is going to get people better results and they are going to pay for better results.

Neil Doshi - CRT Capital

Great, thanks Tim.


Your next question will come from the line of Peter Stabler from Wells Fargo Securities. You may begin.

Peter Stabler – Wells Fargo Securities

Good morning. Question for Tim. Over the last six months there’s been a lot of press coverage around the adoption of what I call traditional media planning metrics, right, particularly around video. So we’re seeing Nielsen OCR tags being adopted by some reluctant players, we’re seeing other video platforms adopt basically advanced the digital GRP, they are going to become part of the planning vernacular. How important do you think that this standardization of metrics around traditional media planning is? And do you think it will help to breakdown what appears to be still a pretty significant obstacle in getting television dollars on?

When we talk to buyers we get a distinct sense that TV buyers at Omnicom, Publicis et cetera are still really not putting digital video in the same camp as television and it’s really more of a fight between digital video and standard display. I hope that makes sense. Thanks.

Timothy M. Armstrong

So first let me just do a three year historical view on where we are right now. Three years ago everybody said TV and web was going to emerge. Nobody was organized to do it. None of the pipes were hooked up. Two years ago some of the teams between traditional TV and web video at our customer started to emerge a little bit. Some of the piping got connected. This past year we saw major connections happen on the people side and on the piping side overall.

So you had us integrate with Mediaocean which is the [Donna Vincent] for TV and we continue to work with them and as other companies in that space that we’ve continued to integrate with. And exactly to your point the reason that we decided to integrate with them because at the end of the integration once you have the ability to compare you know AOL's inventory right now is showing up right next to the major networks inventory inside of the systems and when that happens you want to have apples-to-apples comparisons.

So I think that the work of OCR, some of these metrics are actually going to help fuel the adoption because clients are saying put more money towards web video. It works well from all the statistics we see and work as well or better than TV does. TV companies are investing more in the web video. So they know it works. So I think this unified measurement will really help GRP measurements.

And then I would say you saw companies basically break off and try to do their own metric but I think they will come back into the camp of having unified metrics. So I think overall if I were going to give our yearly update that we give on this topic, 2014 will be the year that you see these metrics come together at scale, you see the systems come together at a bigger scale and you are going to see the teams come together, almost all customer we deal with have merged their teams together.

So a long way of saying, yes the combined metrics are going to help. We were one of the first companies actively involved in helping to push it together and we are going to continue to get that up.

Peter Stabler – Wells Fargo Securities

Thanks, Tim.


Your next question will come from the line of James Cakmak from Telsey Advisory Group. You may begin.

James Cakmak - Telsey Advisory Group LLC

Hi, thanks. So following up on Gravity I think the deal makes a lot of sense and Tim you talked about the benefits but wanted discuss the implementation. So you look at the emerging opportunities with programmatic, there is some hurdles to overcome with publishers in making the transition towards automation.

So when we think about personalization there is that element of giving up editorial control. So I guess the question is, is personalization some that you think you can accelerate under the power of your brand. So where would you characterize we are in automating editorial. So when you talk to the publishers and look at the broader digital landscape and then quickly on local with [over the dome] there and you are focused on fewer and bigger brands. How do you see locals placed in your content strategy? Thanks.

Timothy M. Armstrong

Yeah. So on the publisher automation -- by the way the same effect that happened in advertising is happening in content now, which is there are basically that shovels the steam shovels, machines coming in to help content get out to the right users, overall the same way that programmatic has helped advertising. And the one thing I would say is that Gravity is actually an enhancement to the editorial experience. And what I mean by that is most companies have -- you have Edward [inaudible] example.

You have a consumer coming on to your property and when they come on to your property, underneath your property you have a giant database of content that's been written by humans, video by humans, those things. The chances of being able to match up 10s of millions of individual users coming up to the right piece of content in the database is very, very difficult to do all the time from just using a human editorial process. So Gravity gives you the ability to have a more filtered view on what type of content to put off. And I'll tell you how we use Gravity is we have excellent editors at AOL, some of the best in the world that cross our different properties.

Those editors are actually using Gravity to basically culture the database of content and then put a human editorial filter on top of some of that, in some cases they are letting Gravity run. But just to tell you how organic this movement is while we were doing the Gravity acquisition the TechCrunch which didn't know we were doing the Gravity acquisition went in and started -- did a deal with Gravity, to put Gravity on TechCrunch which is a very editorial, human driven editorial experience.

That should give you an example of the type of property that benefits from Gravity and we will have it enhanced to have human editorial output but also be able to use more of their data overall. And I think machines are going to help editors do better things. We are going to be -- we have been jawing about it for years that advertisers had tons of machines and editors didn't Gravity helps in that.

On a local basis, our strategy on local has been to on the Patch side specifically to stay in that marketplace as a large minority shareholder and have contractual operational agreements to continue to help Patch grow and restructure their product. On the larger local basis, we have one of the largest advertising systems in the world that targets local and we have a whole bunch of products inside of our advertising systems that are helping us basically target local advertising and local adoption of local target ad is growing.

Then on the content side we basically have a multi-pronged process depending on what property you are on, about how we serve local. MapQuest is integrating a lot of local content and the MapQuest and business locator which has been successful. Then on other properties like the Huffington Post we are going country local but even underneath that you are seeing the growth of more and more information by area, zone, region there.

So I would say local is still going to span our investment that we've had in past all the way through top level as the Huffington Post expands in to other countries which at a global level is local for us overall. So that's basically our local strategy. So we are still in local, we are still focused on it, but we have augmented the Patch strategy as one piece of it.


And your next question will come from the line of Mark S. Mahaney from RBC Capital Markets. You may begin.

Unidentified Analyst

Hi guys this is Frankie come out for Mark. Thank you for taking my question. I was wondering if you could discuss the growth opportunity for international.

Karen E. Dykstra

I think the growth opportunity for internationally is enormous. I mean we are really just at the beginnings of it. I think the group prior to our acquisition had started with some investment internationally but now it's a combination of Adap, our assets that we already have internationally, including AOL On and Beyond and our ad networks group. I think the opportunity is tremendous internationally.

We've re-launched if you will a new leader in our international business and our whole new organizational structure with emphasis around international and certainly when we say Adapt I think the whole tech stack, video, HuffPost all are very significant opportunity for us to grow and we started that with the organizational structure, an additional leader in Graham Moysey who is running our Canadian business, who has already kicked off a new effort to reinvigorate the break-out and sales efforts and so on. So we are extremely encouraged by the opportunity for international growth.

Unidentified Analyst



Your next question will come from the line of the Mark May from Citi. You may begin.

Mark May - Citigroup

Good morning, thanks. The question is kind of the concept around from silos to suites, I've just -- AOL's added highly accretive acquisitions or internal development a lot of the capabilities in programmatic and ad one, et cetera. Just wondering on the day-to-day basis are these businesses and just the market in general still siloed both by you and by clients and I guess relatedly are you seeing any early success from cross selling due to tapping in to new relationships or by having more multichannel capabilities and that's my first long question?

And then the second one is you obviously have done a good job at rationalizing expenses while at the same time investing in growth. Looking ahead do you think there are still meaningful areas for expense, additional expense reduction especially at the corporate unallocated group or most of the focus going forward be around growth investing?

Timothy M. Armstrong

Yes, I would add -- on the current investments and how things sort of fit together in the puzzle pieces I'll just give you a real customer example, so [Allan Ap] or so with is one of the global holding company's CEO this week in New York in our office here. If you think about a customer like that they service tens of billions of dollars of revenue in some of the largest customers in the world, our barbell growth strategy which we've talked about a lot which is high end brands on one side and programmatic and on the other connected by data.

In the middle is essentially exactly what the marketplace wants and needs. Then so although we have programmatic stack and although we have big brands and partners in their big branded partners, the combination of those allows us to serve customers at a broader scale because customers like that want the integration and you heard me talk earlier about some of the partnerships we do with DISH and Verizon and some of those customers at some of our offline events.

So we have -- Verizon as a customer does big step with us at offline events all the way through big step with us on the programmatic stack and it opens up a lot of relationships across Verizon. So Verizon we probably deal with 10 different divisions at Verizon now and it's because we have the breadth of our offering.

And the second thing I'd say is the connection between the barbell is only going to get stronger again if you work with the leading edge of where things are. And you look at nodes that people are putting in retail locations and really starting to track data and people always are thinking about how offline goes online but there is a lot of work now being done on how online goes offline -- offline goes online and that connection point of data, that barbell is going to get tighter and tighter and tighter.

So I think there is a big multichannel opportunity and that multichannel opportunity is also bumping in to more divisions, more types of agencies those things overall, but I think they are connected and they are going to continue to be connected in a major way. And then on expenses…

Karen E. Dykstra

Yeah so the second part of the question was about corporate expenses and more room to curtail, I think that the answer is yes there is more room for improvement going back to last couple of quarters where we talked about this, we are on a methodical mission to improve, to do sensible cost reductions and we continue to implement that all here in 2014 -- 2013, sorry and saw the benefit of significant reduction overall in corporate and other expenses.

As I look at 2014 I think that reduction will continue as we get through some of our legacy issues and we've talked about this in the past. We have some legacy cost structures we have some legacy legal entities, we have legacy legal issues. And we are whittling away at that and have made a lot of progress and I believe that we can still make more progress in 2014 and that was certainly included in our plans for '14.

Mark May - Citigroup



Your next question will come from the line of Youssef Squali from Cantor Fitzgerald. You may begin.

Youssef Squali - Cantor Fitzgerald & Co.

Yes, thank you very much. Two questions please. Going back to Gravity Tim, maybe -- can you just help us understand the monetization opportunity around that business, first how is the money flowing today to the business and within AOL how will that change if it does? And then Karen I think you talked in your prepared remarks around display you talked that how you will be focusing on must-carry brand while deemphasizing others and you cited that as a potential headwind to revenues in 2014. Can you just help us understand the magnitude of that may be which brand are you looking to deemphasize? Thank you.

Timothy M. Armstrong

So on Gravity just at a very simple level again is today Gravity basically -- customer Gravity helps us enhance our success on an impression by impression basis with one consumer in a content database. And done at scale can have meaningful impact and we tested a whole bunch of properties before we acquired them we know what the results are and they could be meaningful.

So one side of the money equation is serving consumers better content more often which leads to traffic growth, traffic growth leads to the ability to serve more impressions, enhancing those impression are added impressions that we serve with data from Gravity allows us to potentially have a higher cost per ad overall. So it is a true network effect underneath Gravity.

And as we look forward on Gravity and I'll caveat it by saying the Gravity people will be running the Gravity strategy and we want them to run Gravity strategy but I believe that they believe there will be more enhancements both on the ability -- on individual impression basis to increase impressions for other publishers and also to increase the success of brand advertisers not just by higher prices but actually teaching brand advertisers what their interest graphs are and whether true customer bases are.

And the interest graph that Gravity does for brand customer is very, very impressive overall. So I'll leave it up to them to explain their long-term vision but I believe it's aligned with probably all make more money together and serve customers that are more importantly overall. And I will turn it over to Karen.

Karen E. Dykstra

So thanks and the question was around with my comments around deemphasizing certain brands. I would say that most of that is behind us in terms of the shut down or reductions of efforts on certain brands in particular I will call out the categories of music and -- which has already happened recently Winamp, which is one of the larger ones as I talked about this category and industry. And also we've shutdown certain partnerships that we had, so it's not necessarily our product or properties but partnerships that we had with others in terms of delivering product to us.

So those are the ones that I was referring to when I was talking about the reduction in display that would be coming from that and some of these other miscellaneous ones, there is a list of five to 10 smaller ones that would get to that ball park $45 million that I referenced earlier.

Youssef Squali - Cantor Fitzgerald & Co.

And that's exclusive of $37 million for Patch correct?

Karen E. Dykstra

It’s combined with the 37, 45 plus is 37 plus.

Youssef Squali - Cantor Fitzgerald & Co.

Okay, great. Thank you.


Your next question will come from the line of Debra Schwartz from Goldman Sachs. You may begin.

Debra Schwartz - Goldman Sachs

Thanks and congrats on the quarter. So question on search. So Tim you mentioned search is down partly because of slower growth on AOL and that you expect it to be flat to up for 2014. Karen if you could walk us through some of your initiatives to address that and the similarly will Gravity in particular help with that?

Timothy M. Armstrong

Yeah Debra, I think you just hit the nail on the head, which is we basically have taken a whole bunch of time over the last few months to kind of really think deeply about how we improve AOL’s core service in Search and a lot of its driven by AOL’s core service. The results I mentioned at the beginning of the call is an increase in traffic uniques at the end of the quarter were the result of Maureen Sullivan and her team in making those improvements.

Gravity should help that and improve those in general. At a large level say search is something that we basically treat very carefully because we want to have a good search experience. We also have a network search product overall and for us the down 2% is something that I think from a natural standpoint of our thinking about that business is we’re more focused right now on improving the consumer traffic and experience and we spend more time in that during Q4.

My guess is the reason we’re saying flat to growth is based on the work that we’re doing there based on the ability for Gravity to help and based on the fact that frankly we’ve not rolled search out to all of our properties as affectively as we could even though we have been doing a very good job. You have seen the results over the last couple of years.

And then I would say also as we look forward on search I think there is interesting search products coming to markets from many different companies over time. I think Google is our partner and we’re exclusively working with them and as you kind of look forward I think Google will improve their search product. I think there will be more search products in other areas that I am directly related to our Google relationship, also.

So our plan is to work closely with Google this year like we do every year. They have been great partners and we’re very close with them and to stay really close to the overall changes in how people are doing searches in the hosting site I think you will see us improve our search service and then focus on how do we get search back to a growth business but I wouldn’t pull the alarm bell on Q4 for search because we’re working on a whole bunch of different things.

Debra Schwartz - Goldman Sachs

Great, thanks.

Timothy M. Armstrong

Maybe we have time for just one more question please.


And that question will come from the line of John Blackledge from Cowen and Company. You may begin.

John Blackledge - Cowen and Company

Great, thanks. Tim I am just wondering if you could talk about’s entry into linear TV in the fourth quarter and the opportunity. I imagine it’s small for in 2014 and also maybe discuss how the inventory could scale over time and ultimately drive efficiencies in linear TV advertising? And then just one other question will be network revenue growth at Adap was excellent up 20% year-over-year just wondering thoughts for network revenue ex-Adap in 2014. Thanks.

Timothy M. Armstrong

So the product or linear TV which has been great actually you know. And the Internet company we love do is run around and talk about being disruptive overall. Actually with the linear model is our customers are asking us to be disruptive and what I mean by that is if you are a large client or agency or you are large we partner with almost all the major cable companies in the U.S.

Essentially everyone is trying to figure out how to do more video advertising more effectively and efficiently and what Adap has been able to do online is take the planning process and data process that could take multiple months and move it down directly into like an innovator of the linear model where you can get an outside version of the value at a reduced cost and reduced time.

So if you look at what Adap was able to do on the Internet side they were able to take Internet video planning process and marketplace and decrease the time and operational cost probably down by 80% to 90% and get better faster results out of the targeting and inventory side.

And I think on a natural way as web video buyers and TV buyers are coming together and they’re getting educated on Adap they start coming to us -- not coming to us are coming to the Adap team and asking Amir and Toby and their teams to basically help them with linear TV and I think we were back to what we had talked earlier around measurement and the systems getting put together and our view at Mediaocean and other companies last year is how automation is going to hit linear TV.

So in Q4 we basically started the process with a number of customers, that's very small but the customers are as interested in it as we are and we expect to have growth there in 2014. But I don't know the visibility on how big that growth is going to be because this is sort of at an R&D level right now.

Karen E. Dykstra

And just to follow-up and finish off with the question about revenue growth and networks without a doubt. First of all it was very strong in fourth quarter, we are extremely pleased. Although we are not going to give out specific guidance on revenue for next year, we are clearly happy with the progress on our products and we talked about how well we are doing in the market, in particular in our programmatic and video and the progress we made on our AOP and marketplace products within AOL network.

So I think we are really quite happy with our product progress in all areas. I would expect that we would have continued growth, strong growth with our without Adap but I just don't want to put a number on it right now. And with that I'll hand it over to Tim for closing comments.

Timothy M. Armstrong

So, thanks for joining us on the call. And I'll leave you with one quote and then leave you with some thoughts for 2014. And this is from Paula Ono which is an Olympic pursuit really takes the full three to four years of Olympic preparation. And I think what you are seeing from AOL in Q4 from where this company was is an Olympic effort and I turn to our global team today saying you got a gold medal for the Q4 performance and I mean it. We have a substantial amount of talent at the company.

So to summarize our results for Q4, 2013. AOL is not what it was, it's what it is and our results for Q4 are what we are today. And easy to look back at AOL but I think it's much easier to look forward based on today's results. And we are really going company that grows to being a growth company. You know the amount of work effort, decision, tough decision making we've made over the years here in general.

I believe our team at AOL is a very experienced team in the most important marketplaces in the world. We've have a hell of a lot of work to continue to do as a business but we are laser focused on that. And we are very, very happy with the leadership at the company and where we are headed.

So we are growing at full tilt Thank you to the investors who have stayed with us for the last four years as we anniversary kind of four year spin off of our earnings call. And I think the next four years will be more exciting and we will continue to be aggressive and we are in a conquesting mode overall to business and we are going to continue down that path. Thank you for joining the call today.


Ladies and gentlemen this concludes your presentation. You may now disconnect. Enjoy your day.

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