Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Executives

Eoin Ryan – Vice President, Investor Relations

Tim Armstrong – Chairman and CEO

Artie Minson – President and CFO

Julie Jacobs – EVP, General Counsel and Corporate Secretary

Analysts

Brian Pitz – UBS

Mark Mahaney – Citi

Ross Sandler – RBC Capital Markets

Heath Terry – Goldman Sachs

John Blackledge – Credit Suisse

Anthony DiClemente – Barclays

Peter Stabler – Wells Fargo

Sachin Khattar – Jefferies

Ken Sena – Evercore Partners

David Joyce – Miller Tabak & Co.

Rory Maher – Capstone Investment

AOL Inc. (AOL) Q4 2011 Earnings Call February 1, 2012 8:00 AM ET

Operator

Good day, ladies and gentlemen. And welcome to the Q4 2011 AOL Earnings Call. My name is Gary, and I will be your coordinator for today. At this time, all participants are on 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, Vice President of Investor Relations. Please proceed.

Eoin Ryan

Good morning. Thanks, Gary, and everyone for joining us for our fourth quarter 2011 earnings call. You can find our Q4 earnings press release and accompanying slides, and trending schedules on our website.

On the call with me today is our Chairman and CEO, Tim Armstrong; and our Chief Financial Officer and President of AOL Services, Artie Minson. Tim and Artie will make some brief remarks on the quarter on our overall strategy and then we will open the lines up 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 for the economy and 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.

Our quarter results should not be indicative of future performance. Some of these risks have been set forth in our annual report Form 10-Q for the year ended December 31, 2010, filed with the SEC. All information discussed on this conference call is as of today February 1, 2012. 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 will refer you to the press release on 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 ir.aol.com and on our official corporate blog at blog.aol.com.

With that, I’ll turn it over to Tim

Tim Armstrong

Thanks, Eoin, and thanks all the investors joining today’s call. Artie and I will be making brief comments and remarks, and leaving a lot of time for questions and comments from you. AOL had a strong Q4, our global team has been working very hard and you are seeing improvements for three main reasons.

Number one, the operational and structural changes we have made to the company over the last two years are becoming visible on our numbers.

Number two, our strategy so simple and can face problems for consumers and customers and is synchronized with the landscape changes we see in our industry. Consumers won brands that provide information, deterioration and services, and have a defined brand proposition.

As the internet grows, brands become even more important. Human beings need brands that help them limit their choices. We have built and invested in a number of brands that are attracted to consumers including AOL the original brand of the internet.

One important note in our Q4 earnings is the improvements in the AOL services over the last year are really starting to payoff. The advertisers want to spend money with fewer and bigger partners, and that trend is accelerating. AOL has a very attractive set of brands and attractive network for advertisers to provide both scale and clearly define propositions for advertisers, and I just wanted to summarize them for you.

For advertisers we provide three simple things, one, is brand preference. How do we help use ads to help consumers choose one brand over another brand. Project Devil turns advertising into content and we help advertisers increase brand preference with consumers.

Number two, real-time targeting. How do capture in-market shoppers, being very strong at machine-based learning and real-time targeting, Advertising.com and our video network have key advantages for our advertisers to find in-market consumers.

Number three, pay just to parking lot, helping advertisers get consumers into their offline channels matters a lot. 2012 is already shaping up to be a year where many industries faced channels feeling economic challenges. Patch and our broader local strategy put us in the unique positions to help advertisers get people to offline locations.

And the last piece of why I think you’re seeing success in Q4 is, AOL has built our brands and services to work inside the changing landscape of our industry. There is an explosion of devices, bandwidth and closed cloud networks.

We have both owned and operated strategy of must carry brands and a series of publisher services that can cut through the devices networks and cloud. Owned and operated strategy and network also works on a global basis.

As a company we are focused on improving the things that we can control and the more we do that the better outcomes we’re seeing as a business. Q4 had a number of specific highlights I wanted to walk through.

Number one, AOL continued the improvement and returned to topline growth as a business. Number two, AOL continued tight cost controls and we had the second sequential quarter of lower expenses. Three, we have the third consecutive quarter of global advertising growth year-over-year. We had the third consecutive quarter on the acceleration of year-over-year advertising growth. Global, domestic and international display all grew at double-digit rates year-over-year. Our ad network had its third consecutive quarter of year-over-year growth and sixth consecutive quarter of sequential growth. The AOL publisher network had 30,000 partners in it receiving ads, content or video from AOL and we signed up 80,000 new video assets to run across the network.

AOL grew revenue from the top 100 advertisers and largest holding companies both year-over-year and quarter-over-quarter. Project Devil, video and mobile all grew by more all grew by more than 50% quarter-over-quarter and year-over-year. Web search revenue had its first sequential growth in revenue in over three years. Subscription revenue had its first sequential growth since 2006.

AOL had its second sequential growth in OIBDA for the first time in three years. Free cash flow grew year-over-year for the first time since Q1 2009. Headcount was down 4% year-over-year, if you exclude Patch it was down 10% year-over-year and over the last two years headcount is down close to 50%. AOL has also put ourselves in the position leading Q4 to potentially grow revenue in 2012 for the first time in a long time.

Matching their success we had on the business side, there are a number of consumer areas in Q4 that were successful. AOL ended Q4 is the fifth largest property on the web. AOL mobile ended the year at number four and crossed 50 million app downloads. Four entities were ranked number one in the vertical categories for consumer usage and 14 entities ranked in the top three of their category.

We ended Q4 with over 30 million social interactions for quarter. We ended Q4 with Huffington Post having 44 sections with five new sections launched in Q4. We then also in the Huffington Post weekly insertion rates for video reached 70%, meaning 70% of the pages on Huffington Post had videos on them by the end of Q4.

We crossed the 1 billion page view threshold monthly on Huffington Post during Q4 and AOL video is the number one video provider in the health, home, food, fashion and beauty, autos, travel and tech content areas. AOL video reaches over 42 million monthly views and AOL videos currently number seven on the web, but we hope to improve that during 2012.

One topic that gets a lot of discussion from investors is Patch and I wanted to give a deeper dive into the product. We believe this is a great investment for our shareholders and we remain very excited about the Patch opportunity. We also wanted to personally thank Patch team who is being killing themselves to roll the platform out across the country and to gain consumer and advertiser usage.

Patch ended Q4 in 863 pounds and had roughly 10 million unique users, publicly although we see much higher number internally. The average Patch found is 13.9 months old. Patch ended Q4 as a number four local property on the web and then the vintage usage case for Patch users, Patch has launched over years ago, grew at 182%. Patches that were launched in the past year have grown at 768%. We now have 14,000 bloggers, signed up to the Patch platform.

User comments, registered users, newsletters are all up 500% year-over-year. Patch ended Q4 with roughly 6,500 advertisers. Patch’s sales force in Q4 at 230 people with the average 10-year being about eight months and Patch’s revenue vintage in consideration with the consumer vintage is important.

Ending Q1 2011, there were 33 Patches that had about $2,000 per month in revenue. Ending Q4 2011, there were 401 Patches about $2,000 per month in revenue and we will continue to give more transparent patch information over time in terms of revenue and usage.

The average add-by grew close to 40% quarter-over-quarter and the duration of an add-by grew close to 20% quarter-over-quarter. So, we’re seeing meaningful changes and improvements in Patch monetization.

To-date in 2012, we have already sold 50% of the total revenue we did in 2011. So, we’re off to a very fast start on Patch sales for 2012.

Now, Patch is a highly scrutinized investment by a management team on our Board. Patch is not a pet project. Patch is a business that means deep consumers needs and advertising needs. We are serving the highest GDP towns in United States with high quality information and services, and we’re expecting to make a lot of progress on revenue in 2012. 2011 should also be the high watermark for our Patch investment and I would expect to see meaningful improvements on the economics of Patch during the year.

As we look forward to 2012 as a business just five areas of focus for our team. Number one is to grow unique visitors and we’re spending a lot of time and energy on that as a business.

Number two is to grow revenue through Project Devil, video, mobile, local and international.

Number three is to build better products and dramatically improve our services overall. We have a very big focus internally going through all of our products and brands right now to make organic improvement.

Number four is to put technology back at the center of the company. We have a very strong media business and advertising business, and we are continuing to grow our technology and technological progress in terms of the platforms we’re building and how they connect, not only with our own properties but also inside the industry.

Number five is to retain and gain talent. We want AOL to be the home for people who care about content, advertising and tech, excuse me, technology for the digital age.

In the first four weeks of this year, I’ve spent a lot of time internationally and domestically with our customers both ad agencies and clients, as well as with a lot of our product teams and I believe AOL has a great opportunity in 2012.

And with that, I’m going to turn the call over to Artie Minson. Artie?

Artie Minson

Thanks, Tim, and thanks everybody for joining us this morning. Overall, I’m very pleased with this quarter’s results. Well, for me, the headline is simply that we continue to significantly improve our revenue trends, while excluding a onetime legal settlement, continue to reduce expenses sequentially and return cash to shareholders in the form of a share buyback.

Turning to the results, first our total revenue decline was the lowest rate of decline in five years and at 3% represents clear progress from a 6% decline in Q3 and a 26% decline in Q4 2010. Importantly, growth has been driven by trend improvements in everyone of key revenue streams.

Taking through those revenue streams in a little bit more detail, global advertising revenue grew 10% year-over-year, the third consecutive quarter of year-over-year growth and a significant improvement over a 29% decline in Q4 last year. The driver here continues to be growth in global display and third-party network revenue offsetting search revenue declines, which themselves are moderate.

Global display revenue grew 15% year-over-year on a reported basis and 4% on a pro forma basis, which includes revenue from the Huffington post in both periods, driven largely by continued improved yield management of our properties.

Growth also reflects increased sales of premium formats and video, which whilst still small, a good representations of our accomplishments over the past two years and of our future growth potential. We are finding that advertisers continue to be willing to pay premium prices for premium content and formats.

Third-party network revenue grew 20% year-over-year in Q4, its third consecutive quarter of growth year-over-year, compared to 42% decline in Q4 2010. In Q4, we once again grew the number of advertisers and publishers we worked with, as well as the number of impressions serve resulting in a growth we reported today.

It is important to note that growth is coming primarily from two areas. First, Advertising.com grew 10% year-over-year in Q4 and has been growing at double-digit rates for three stratight quarters. Second, goviral, which we acquired in January 2011 added $9 million to revenue during this quarter. Since acquisition, goviral has grown revenue over 100%.

We have also made meaningful progress as we told you we would in stemming the declines in search and contextual revenue, and subscription revenue. Search and contextual revenue declined only 8% year-over-over in Q4 and actually grew sequentially for the first time in three years. The decline year-over-year is the lowest rate of decline in three years and compares favorably to Q3’s 15% decline and Q4 2010’s 34% decline.

The main components of our search and contextual revenue are aol.com, the AOL clients and international search, legacy cobranded portals and other. Once again this quarter the decline by driven by lower revenue from the cobranded portals, international markets, and other due primarily to our exit in 2010 from unprofitable distribution deals and markets.

Cobranded international and other search revenue together represent approximately 30% of total search in Q4 and they declined by approximately 30% in Q4 of 2011. The client side represents approximately 33% of total searching’s actual revenue in Q4 and as we have said, continuous decline at a slower rate in the rate of subscription decline.

Total search and contextual revenue declines were partially offset by growth in search revenue from AOL.com, which now represents approximately 37% of total searching contextual revenue and grew year-over-year and every quarter in 2011, benefiting from improvements we have made to the consumer experience on AOL.com coupled with a better overall search product and experience.

And in the revenue discussion with our subscription services operations, which declined 18% year-over-year in the quarter were 17% excluding the impact in both Q4 2011 and 2010 of the resolution of a dispute related to the sale of our German access business in 2007. This represents the best results in five years for our subscription service operations.

In recent quarters, we have spent a good deal of time consolidating and simplifying our subscription offering. And we have reduced the number of price points from 60 to 6, which allows us to more clearly define and sustain time to enhance the value of our products offering for our subscribers.

Our subscription services are no longer about dialup, with only 11% of our subscription base currently using us exclusively for access, instead it is more about creating a premium subscription service where our subscription -- where our subscribers receive a bundle of valuable products and services. With the result being that they are getting a value proposition far in excess of what our subscribers are paying us.

We maintain a frequent and open dialogue with our subscribers and they are seeing the value, which has a very positive impact and churn, in fact, in recent months as we improved the product and work through price rationalizations, we’ve seen a 10% increase in the retention rate of subscribers calling of our call centers. We remain in the early days here but I think there are number of additional offerings we can rollout to offer high rated subscription packages to current and new subscribers.

Let me spend a little bit of time on Patch. 2011 for us was a period of continued focus on product and audience growth, followed mid-year by a build out of our sales force and testing of our ad products. As we said we would, we spend approximately $40 million per quarter on Patch.

As Tim indicated, we ended 2011 with over 850 Patch founds and our focus now was on improving the product experience and monetization of existing Patch founds, as well as streamlining, the operating and cost structure Patch across the country.

From an operational standpoint, we have now grew Patches into approximately 30 clusters of towns, were towns with natural connections will benefit from a more localized management and a more efficient allocation of resources to areas that will have the maximum impact in each particular cluster.

The clusters also form natural sales territories and will ensure we are appropriately assigning sales coverage across the country. As Tim mentioned, in 2011 only 22% of our Patches had dedicated sales persons. In 2012 each Patch will be fully covered from a sales perspective.

On the content and product side of Patch, we will continue to make investments in the product that in a very cost efficient manner allow us to increase the amounts and timeliness of the content on every Patch.

From an overall cost perspective, the net-net of this is, given some of the efficiencies we have gained, we are allowed to invest more in product and more in sales on an essentially flat year-over-year expense base.

Our initial business plan, assume we would get individual Patches to breakeven between three and four years with healthy margins thereafter. That continues to be our assumption, but as I’ve said, we will adjust accordingly to the extent we don’t achieve our financial expectations.

Turning now to overall AOL expenses. Although, cost containment was obscured in the first half of the year due to increased operating expenses from our acquisitions, we have a clear track record of reducing expenses over time.

2010 we took out $500 million of expenses before reinvestment. Q3 of this year non- TAC adjusted OIBDA expenses decline sequentially by approximately $25 million. In this quarter excluding the impact of the legal settlement, those expenses dropped to further $8 million sequentially.

The focus on expenses, of course, highly important to the turnaround of AOL, as we seek to grow the bottom line through revenue growth and through expense control, and we are really pleased with the 100% conversion of revenue increase to profit from Q3 to Q4.

I will point out that Q4 2011 adjusted OIBDA expenses including TAC and the $8.5 million of legal settlement were $360 million, which is the same level of expense we had in Q4 of 2010. This illustrates our ability to appropriately balance investment with expense where in just two quarters we were able to integrate to highly strategic assets Huffington Post and Goviral without an increase in overall ongoing expenses.

We should not always expect sequential decreases in expenses because at times it will be impacted by investment and seasonality. For example, in Q1 we do annual merit increases and we restart the cock on items such as 5-K and other employer contributions. But over time, we will continue to look to do things more efficiently.

Turning now to the balance sheet, we continue to repurchase stock during the quarter at very attractive prices. We bought back 3.3 million shares since our last call and over 12% of our shares outstanding since our Board authorized to repurchase of stock in August.

As a reminder, we have approximately $72 million left in the original authorization. Pro forma for our most recent stock purchases at the end of January, we had approximately $400 million of cash on hand, and as you saw from our report this morning, we continue to efficiently convert adjusted OIBDA into free cash flow.

I do want to remind you that in Q1 we payout bonuses for the prior year, which of course impacts free cash flow and while we manage our cash position very closely, as was the case in Q1 2011 and Q1 2012, free cash flow will be negative for the quarter.

I will touch briefly on taxes and remind people that we continue to benefit from a meaningful tax shield, and we save approximately $200 million of net cash tax savings left to go and that the high effective tax rate you saw in Q4 is due to bookkeeping related to lower deductions on RSUs divests due to the decline in our stock price and non-deductible foreign losses.

So to conclude, I’m very pleased with our results. In Q4, we improved every one of our key revenue streams, we reduced expenses sequentially excluding the legal settlement, and we continue to return cash to shareholders. We’re happy with the progress we have made and while we are fully aware that there is more work to do, we are happy with the momentum we are carrying into 2012.

With that, let me open it up to Q&A. Operator?

Question-and-Answer Session

Operator

(Operator Instructions) We do have our first question coming from the line of Brian Pitz of UBS. Over to you, Brian.

Brian Pitz – UBS

Great. Thank you and congratulations on a solid quarter. Looking at your display growth in the quarter, while you did grow pro forma revenue faster than other leading competitors, you’re still not at the rates of either Google or Facebook, as we saw pretty strong growth from those names in the quarter.

Can you just give us a sense, Tim, what will drive pro forma growth in excess at 10% longer-term? And then separately, just on Project Devil, any update on advancements you’ve made since the last quarter and can you maybe discuss how you really get double the scale longer-term? Thanks.

Tim Armstrong

Sure. Thanks, Brian. So, first and foremost, I wanted to think that I think people should recognize and understand is, we have a huge competitive advantage in the advertising business, which is, we have a global brand, that people know and AOL has the opportunity to compete with Facebook and Google for campaigns and I think our differentiated strategy is what’s going to allow us to get the higher pro forma growth over time.

So, we’re doing the following things to basically drive pro forma growth. One is continue to roll double out across more of the properties or more of the pages and I think, if you dig into the growth of Devil from a monetization pricing and success standpoint with consumers, you see a business that is probably competitive with Google and Facebook.

And two is, we are still transitioning a lot of our historical advertising products into the newer things that we’re doing, so Devil’s one of them. The second thing is around video. We have made tremendous progress in video and I think we are at or above industry growth rates in terms of video sales there and I would expect that to continue.

And then three is our ability to basically on the network business to continue to grow out the machine-learning capability, we have a number of new products in the pipeline, which will help grow the network business, as well as and in fact, I think, we’re going to have maybe the second most competitive advertising stack technology wise in the ad business by the end of 2012, if we deliver on all of our products and innovation that we are focused on.

And then the last is how do we connect all this with local and mobile. And I think, if you take again a step back and if you look at advertisers want a fewer bigger partners, there is a little bit in the advertising business, which is the same thing that happen at the beginning of the internet where when eBay launched their auction model and everybody was enthralled with bidding, then moved to buy it now.

I think the advertising business is moving more towards the buy it now type mentality where they want companies like AOL to drive very clear concise services, ad scale with high engagement, so I think, that’s how we are going to grow across our services.

And then specifically with Project Devil, we are doing a few things that I think will be game changers for that product. One is we have a version of Project Devil from a technology platform standpoint that we’ll be putting inside of the major holding companies. One of the efforts I led when I was at Google is the acquisition of DoubleClick and then bringing that platform into the holding companies on kind of ROI network side of things.

At AOL, what we are building is a platform for brand engagement and we want to take that platform and put inside the holding company, make a highly scalable and profitable for them and their clients, that’s one.

The second thing is, we have spent a bunch of time integrating things into Devil itself from the technology standpoint, which makes the Devil smarter. So, for instance, we have an auto changer in content, as we’d start to see how consumers behave on the content within the ad, we actually reshuffle the content within the ad. We are also tying in commerce to provide people with popup stores across the internet, so Devil is the first fully functioning unit that takes consumers all the way to the purchasing funnel from brand preference all the way to acquisition and you are going to see us put more technology investments inside of Devil.

So, in summary, we’re at the table in every conversation. We have innovative products and services. Innovative products and services are competitive with Google and Facebook, and you’re going to see us continued to put more and more technology investments into things like Devil, local mobile, video, those things and we’re very excited and working very diligently on those, and we’re going to compete.

Brian Pitz – UBS

Great. Thanks for the color.

Operator

Thank you. Next question comes from the line of Mark Mahaney of Citi. Over to you.

Mark Mahaney – Citi

Great. Thanks. Tim, so you talked about the revenue growth, potential for revenue growth in 2012. Are you putting a stake in the sand on that? And then, just a quick clarification, if we look at the domestic display revenue pro forma growth, what was that in quarter and how did that compare with the growth rates earlier in the year? Thank you very much.

Tim Armstrong

Sure. So, Mark, we have a very clear focus on growing the same thing we said to investors last year, 2012, we thought there was a possibility for us to get 2012 topline revenue growth. I would say it’s a stretch, but we’re going to stretch now to try to get there and we have been very clear in the planning our business both from the product standpoint, as well as the customer and revenue standpoint.

So, I would hope, I don’t know how the economy going to behave or other things that behave, but there is a chance we can get there based on the work we’re doing right now. So, I guess we’re putting a stake in the sand as long as the sand stays where it is. And then on the pro forma growth, Artie do you want talk about it.

Artie Minson

Hey, Mark. It’s Artie. The pro forma growth rate for domestic display was 4% in Q4, which was the same rate it had been in Q3.

Mark Mahaney – Citi

Thank you very much.

Operator

Thank you for your question. And next question comes from the line of Ross Sandler of RBC Capital Markets. Over to you Ross.

Ross Sandler – RBC Capital Markets

Great. Just two questions. Artie, can you give us a little color on the trajectory of the access business in 2012, revenue was surprisingly up quarter-on-quarter for the first time in quite a while. How is that segment likely to look in 2012 and how is that growth curve or the decline curve likely to trend?

And then the second question is, you guys have done a really good job of curtailing cost, especially going from 3Q to 4Q, investors suddenly appreciate that. How do we think about the cost for the rest of 2012, you feel comfortable about where your headcount is, are there any other investments outside of Patch that you see is necessary in 2012? Thank you.

Artie Minson

Hey, Ross, it’s Artie. Let me take those two, look as a reminder, we’ve said that the three of the pillars of returning AOL to OIBDA growth are going to be moderating the subscription and search declines, and tight cost controls. So those are three things we are really focused on.

With respect to subscription and search, it would all starts with the product and in both those areas we have a significantly better product than we had a year ago. On the subscription side that leads to better rates and lower churn, and on the search side, it leads to better quality, queries if better quick throughs and as you know, we had not been 100% satisfied with our CPC trends, but we did see some nice sequential improvement there in Q4.

So, what does that all mean for subscription and for search in ‘12, my expectation is that subscription and search percentage declines will moderate as compared to 2011.

On the expense side, we are obviously really pleased with our expense controls and this has been a total team effort. And being back in Q4 2010 levels after two significant acquisitions is something we’re really pleased about and that’s on top of the $500 million we took back out at the end of ‘09 beginning of ‘10.

In my proactive remarks, I indicated that there are some mechanical items that cause expenses to go up in Q1, such as raises and there is -- there will be spending on initiatives such as Huff Post international video and mobile.

None of those are that big individually and they’re all growth areas. We’re seeing return on but in order to achieve the expense controls you’ve seen, we had the cut in other areas where we aren’t seeing as much immediate return. And we’ll continue to make those trade-offs and so while you’re likely to see some overall expense growth in Q1 and full year, our goal is to have it be as moderate as possible. So, I probably leave it with that.

Tim Armstrong

Certainly, Ross. It’s Tim. I would just say one thing, Artie and I explained in a lot of time on is what we’re not doing. So I think as important as proactive things that we’ve been doing. I think we’ve done a really good job in the last half -- last year basically getting down to a very clear set of priorities that are going to be growth areas and trying to remove the cost from number of different areas.

Artie Minson

Yeah. And Ross, just one final, I mean, with all that being said, the question may relates back to just how do we feel with current estimates and I’d just say we’re comfortable with the current first call estimates for 2012 OIBDA.

Ross Sandler – RBC Capital Markets

Great. Thanks, guys.

Operator

Thank you. Okay. Next question comes from the line of Heath Terry of Goldman Sachs. Over to you, Heath?

Heath Terry – Goldman Sachs

Great. Thank you. Tim, I was wondering if you could give us a sense of, in the video business, what are the limitations on that now, is it inventory sell through, is it growth in inventory and where you are seeing the growth in revenues and in views from video? What segments are you seeing its most on, I heard you said it, 70% of Huff Post pages now have video on it. Is that where most of the growth is coming from or there are other properties within AOL that are driving that as well also?

Tim Armstrong

Yeah. We have multi-pronged strategy in video, one is basically on the owned and operated properties. We have been increasing amount of video we’re doing as a business, both in terms of the video we’re producing, partnering for, and I think you’ll see us continue to actually build out more high quality but low cost video over time on owned and operated properties, including branded entertainment partnerships, which have been successful for us.

Second part of the strategy, we will on the owned and operated side, we will have more innovative formats for video that we’ll be announcing shortly, which I think are kind of game changers and I was thinking leap-frogging ahead in video for where our bandwidth is going and devices are going, and that we’ll be announcing in fact shortly there.

And then in the network side of the business, which actually correlates the owned and operated properties or a customer of our network business. We’re doing the following things, one, is we’re continuing to dramatically build up a library of partners we have that want to provide videos to the internet.

So we, as said earlier in the call that we signed up 80,000 new video assets in Q4. We’re now at probably close to half a million video assets as a business that we’re able to send to other partners, and we send them to 10s of thousands of other publishers. That allows us to do a couple of things.

One is, the bigger our network gets the more our people want to actually give us their videos to put into network. The second piece is from a monetization standpoint, we are able to monetize the videos both on the owned and operated properties, and our sales force out there, as well as with inside of the network and then just pulling apart the network for one minute, we’ve had two different models in terms of making money on the network. One is, a rev share which put videos on other people’s properties and we share revenue split. Then the second is a pay per view video business, which is mainly driven out of goviral.

So, we have, a year-and-a-half ago decided we’re going to get big in video. We put investments there and I think, what you are seeing is strong growth on owned and operated properties for sales and on the network business. And we are really actually, we’re happy about the network effect we’re building underneath video, which is more assets, more distribution, more sales, better results, better ad products over time.

So, from a sophistication standpoint, AOL is probably one of the most sophisticated players in the market in video today. Although, people not -- might not realize and I think we will continue to get more sophisticated during 2012 and we have tremendous scale within some of the important video categories, which I mentioned earlier as well.

Heath Terry – Goldman Sachs

Great. Thanks Tim.

Operator

Thank you for your question. The next question comes from the line of John Blackledge of Credit Suisse. Over to you John.

John Blackledge – Credit Suisse

Great. Thanks. Just a couple of questions on political, first could you provide the political impact on ad revenue in 2010. And then secondly, given the progress that AOL has made since 2010, how do you think that you guys will leverage kind of the premium formats Devil and mobile video for the 2012 election cycle and would you expect the political impact to be greater in 2012 versus ‘10? Thank you.

Tim Armstrong

There is something happening politically I think you all know. So one is, I would say 2010 was light on political obviously because of the just election cycle, 2011 started to pick up steam, but about half way through the year last year we realized we probably weren’t maximizing political ad revenue we can get and one of the things that we did was put in a full-time team of people around the country who actually focused on the political elections. And I think from an interest standpoint, one of the things that we’ve seen is without going into details, we’ve gotten a very significant amount of video buying happening from some of the Presidential races and candidates, number one.

Number two is, we have more competitive -- the more competitive the race is getting and we hope it’s a very competitive race. We are expecting to get higher level of interest and even from the incoming increased phone calls and sales we’ve had. I think we’re going to see a robust political environment this year.

Also we’re uniquely positioned with Patch where if you talk to the DNC or RNC, they are down to within a state, down to the ZIP code of voting district basis of knowing where they need to have leverage people and Patch has done a number of things from launching Patch primary states to also allowing people to target very locally.

So when we have conversations within the political realm for advertising, it tends to expand the spectrum of owned and operative properties, which we have a good history and in our brands of being heavy on political coverage.

Two is very clear different segmented audience so you to reach Democrats, Republicans those things and then hyperlocal all the way through national global issues based things. We’ve had a lot of success there. So most of the government people, I have been down at the White House, I have been to a state governments, governors, those things, almost everybody knows our assets at national level, they know our assets at a local level.

And then we’ve now mixed in the ability to target Ad.com locally. So we are a forced to be reckoned with in the political advertising landscape and I hope we make a lot of progress this year in doing that. We certainly have peoples code is set against it and we’re watching as much political coverage as possible.

John Blackledge – Credit Suisse

Thanks, Tim. Could you give us a sense of what, as a percent of revenue what that impact may be or just give us a range? Thanks.

Tim Armstrong

It’s Tim, Artie will go on that.

Artie Minson

Yeah. Hey, John. It’s Artie. I think, I’ve talked a little bit about this publicly is that it’s of a -- there’re basically looking at less than 1% of revenue at this point. So, our expectations this year is, we’re going to obviously take share but we’re going to do off a very small base.

John Blackledge – Credit Suisse

Great. Thank you.

Operator

Thank you. Next question comes from the line of Anthony DiClemente of Barclays. Over to you.

Anthony DiClemente – Barclays

Thank you very much. Good morning, Artie. I just had a question. I want to understand better -- the dicotomy between premium and non-premium. I just wonder if you could talk about the environment that you’re seeing from your clients, on premium versus non-premium, that’s part of that question, just talk about your agreement with Yahoo, Microsoft and what are early returns on monetization that you’re seeing on Class 2 inventory sales? Thanks.

Tim Armstrong

Sure. So, premium and non-premium, I think, from a very simplified standpoint, over the last few years has really split itself recorded itself into networks and exchanges on the non-premium side. And on the premium side, derived to have deeper richer formats and measured brand engagement overall.

I think what we’re seeing from a customer standpoint, which is really important, is the following things. On the premium side, again I think people in the industry have got (inaudible) over the last couple of years by a lot of very fast ROI-type ad model in general. And I think there was some brand damage done over time. So, I think, you’re seeing major brands start to reach, position themselves in the digital landscape overall.

And I think from that standpoint things like Project Devil we are doing in video, we are seeing a differentiated pricing structure and there where we’ve seen double-digit growth in pricing of our reserved inventory, and more and more people really focused on how they actually get deeper brand engagement and do that brand preference I talked about earlier on the call. How do you get somebody who chose Pepsi over Coke, that has a huge economic value brand lives for customer.

The second piece of brand that’s important is a lot of the brand channels are getting disrupted and you’ve seen a lot of articles recently talking about how the Big Box retailers are fighting with brands based on distribution. So, I think the more big brands can put consumer pressure into their channel, they are excited about that. So, that’s on the brand engagement side.

On the network and exchange side of the business, that business has been growing very quickly, you look at the major holding companies. Those companies may do 10% or so of their digital spending through those and exchange or network type model that may grow, that probably will grow overtime, but AOL’s position really well in that space, because one, we have assets with a lot of machine learning behind them and a lot of the people we compete against don’t have that machine learning aspect to their network businesses. And then two is, we are going to be rolling out a rolling thunder and we have some stuff -- privately data testing with customers right now, and more of an exchange type model using our technology.

So, I think the winners in that space are going to come down to who recognizes an impression, the value of the impression, who gets served to, what the ROI is and how do you actually recapture that data to continue staying with those customers. So, we have had a very specific strategy in both areas. Pricing has been going up in premium engagement reserve and we’ve been doing a very good job of growing our network base businesses overall.

Anthony DiClemente – Barclays

But has there been a difference in the trending between the two. So you talked about the pricing acceleration for premium, I was just wondering the external environment, have you seen any differentiation between premium as compared to non-premium on the demand side?

Tim Armstrong

Yeah. On the demand side, actually, I think there is a -- people are reenergized around the premium brand side, if you talk about seeing a lot of customers even the first four weeks of this year both domestically and internationally, and every single customer I spoke to basically has spent a lot of money in 2010 and 2011 testing all of this stuff. And I think they’re basically realizing now that if they’re going to keep the brand efficacy pricing in their own brands, they need to focus on brand. So, I think, you’re seeing a migration in two different areas.

More of a migration back to understanding how do you create a brand in a digital environment, which means more spending, more engagement from customers on a premium side and you are seeing a migration towards what I would call deep engagement around data and real-time end market targeting.

I’m making a prediction here, my guess is over the next 24 months, you’re going to see a big separation in those two product sets and the people who do really well on brand engagement are going to win big. And I think on the network exchange side, you’re going to see a consolidation of those down to fewer bigger players in the network and exchange models, and we’re seeing customers interested in both but probably reenergizing around the brand side.

Anthony DiClemente – Barclays

Got it. Thank you. Thank you very much. That’s helpful.

Operator

Thank you. Next question is coming from the line of Mr. Peter Stabler of Wells Fargo. Over to you.

Peter Stabler – Wells Fargo

Thanks very much. A couple of question on Patch, if I could. First of all, Tim, you gave us a lot of metrics and Artie you gave some as well. Can we expect these types of metrics going forward on a regular basis? And secondly, could you give us a sense on the clusters that you laid out, this idea of 30 clusters. Is this a pivot on the selling strategy at all or is this just something a continuation of a strategy that has been in place?

Tim Armstrong

We’re just saying our metrics, Artie and I’ve talked about this extensively, and we talked to a number of our investors about it extensively. And I think, one thing that came across last year, which we didn’t mean to have to happen as people thought, we have kind of tenure when it came to understanding in sharing the Patch metrics.

And I think one of the things that we have been concerned about is we think Patch is actually a very important product set for us for the future. So, competitively, we wanted to be careful about what we share and don’t share around Patch. We decided to give more information on this and hopefully investors appreciate it and we heard you.

I’d expect us to have continued amount of information around Patch that will make investors happy with and then also keep us under accountability and pressure to make business grow or to continue to augment the model as we go forward.

And then, I would say just taking a step back on Patch also is, from the standpoint of cohorts and how we’re actually running the models of the regions around Patch and we’ve been spending a lot of time on this.

Patch is really at the end of the day a very small corporate environment where we have a platform that rolls out and we would like to get as flat as an organization as possible in the field, number one. And number two is to make sure that we actually have a petri dish around the country to actually the one that works well and to implement it really quickly. So, the new structure you’re seeing is basically meant at flattening the organization, making sure costs of running Patches is as low at it possibly can.

And then two, we get actually the upside of understanding having multiple regions across the country with the amount of the information about what’s working, not working, put directly back into our products and services, I would just say anecdotally since we changed the structure around Patch a month or so ago and really go to a flatter organization.

The amount of information which I’m seeing from the field in terms of what’s getting implemented in the products and sales and those things has been a pretty significant increase. So, Artie, I don’t know if you want to add on this.

Artie Minson

Yeah. I would just say look obviously it would be if possible to manage 850 Patches individually, so I think, grouping them into a cluster, you get two advantages. One is, it’s going to be cheaper to operate them and second, just from a management efficiency standpoint and ability to manage better, I think you’ll get that advantage as well.

Peter Stabler – Wells Fargo

And one clarification if I could, I think you Tim said 50% through 2012, 50% of the sales that you saw in 2011 have already been achieved, am I hearing that correctly?

Artie Minson

On the -- I would say on the…

Tim Armstrong

Book.

Artie Minson

…on the book in terms of future bookings.

Peter Stabler – Wells Fargo

Great. Thanks very much.

Operator

Thank you. Our next question comes from the line of Sachin Khattar of Jefferies. Over to you.

Sachin Khattar – Jefferies

Yeah. Hey guys. I’m calling in for Youssef. Can you guys talk about the $8.5 million legal settlement, what was that related to?

Artie Minson

It’s Artie. That related to -- it was BASCOM litigation that we had disclosed, our General Council, Julie Jacobs is here as well, she could give you a brief update.

Julie Jacobs

It was related to the BASCOM patent litigation that we have previously disclosed.

Sachin Khattar – Jefferies

Okay. And then on the, you guys had a free $2.1 million sort of positive impact to the discretionary revenue this quarter and then also for the comp period? Can you just talk about I know you put some remarks in the printed comments. But I was just wondering if you could elaborate a little bit on those?

Tim Armstrong

On subscription improvement?

Sachin Khattar – Jefferies

Yeah.

Tim Armstrong

On the…

Sachin Khattar – Jefferies

On the positive impact, 3.1% I think it’s related to your German subsidiary?

Tim Armstrong

Okay. Sure. There were just as, this was the German business that we sold several years ago. There were some questions as to -- as the businesses were split apart certain subscribers who own them, who own certain revenue streams and that was resolved. It took two steps for us to get resolved, so there was a portion of it resolved last year and the final piece of it this year. So, we’ve broken out for you from comparability standpoint, so you could see the impact.

Sachin Khattar – Jefferies

Okay. Great. And we wouldn’t be exciting anything forward from that particular settlement, right?

Tim Armstrong

That’s all resolved.

Sachin Khattar – Jefferies

Okay. Perfect. Thanks a lot.

Operator

Thank you. Our next question comes from the line of Ken Sena of Evercore Partners. Over to you.

Ken Sena – Evercore Partners

Hi. Thanks for taking the question. Can you just please provide us an update on what you are seeing from a mobile usage standpoint, specifically and how are you noticing differences in time spend or levels of engagement there influencing how you are focusing a content to drive monetization there? Thanks.

Tim Armstrong

Sure, Ken. So, mobile usage up dramatically year-over-year and I think you have to split mobile into three areas. First area is apps overall and we see a continued strong growth in apps across 50 million downloads of apps, which I mentioned earlier. That’s an important business. We have a number of important products that we’ve been rolling out there and we actually have built a publishing system, highly skilled publishing system that creates apps from our content properties. So, things like additions or distro we launched and we have a number of other ones coming out, but it’s off of the scaled platform.

And on the monetization side, on the apps side, there is a lot of interest from advertisers there. We’ve had some pretty significant multi-hundred thousand dollar buys from some of the car companies and other people on those apps based on the design and scale and brand, by the way people are very interested in our brands on that business.

The second area is around the mobile web. Mobile web has more usage than our app business does. On the mobile web usage, we have been very keen to build HTML5 type experiences for our brands that have heavy functionality and content in them. On that side of the business, we just integrated the mobile web into our ad system at the end of the Q3 beginning of Q4. So, we expect to continue to see growth there from a mobile usage perspective.

And then number two is we expect to see fast revenue growth there on top of fairly small base, but fast revenue growth. I mentioned, I think, last summer that about 75% of our RFPs coming in the business have mobile request to attach them. My guess is without having seen the data in last few weeks it’s much higher than that now. So, I think, mobile is an important part for us on a go forward basis.

And then third area, which is important is tablet usage and how do we continue to augment our services and areas. So, things like AOL homepage because its size for directory of the email as more people get tablets and also mobile phones, usage is going up pretty dramatically and I think we’re continuing to work very diligently on those products and services. So, you’re seeing double-digit to triple-digit growth both in the usage and in ads overall from mobile, we’d expect that to increase.

I’ll give you one example, in gadget as a property, one of our TAC content property is seeing about 60% of their traffic on the mobile mail, which is a massive increase from where it was a couple of years ago. So, I think the mobile revolution is here and we have to stay focused on it and we are doing both consumer and ads.

Ken Sena – Evercore Partners

Okay. Thank you.

Operator

Thank you. And next question is from the line of David Joyce of Miller Tabak & Co. Over to you.

David Joyce – Miller Tabak & Co.

Thanks. Just wanted to get some color on the where you would prioritize your growth going forward, is it based on relative margins or is there, do you see relative more upside for you in AOL properties versus the third-party network. Just wondering where you might be deploying more resources?

Artie Minson

Hey, David. It’s Artie. Look I go back to sort of the pillars, we’ve said what we need to get to OIBDA growth and because I don’t think there is one silver bullet, moderating the subscription and search declines are really, really important. And so we have resources allocated against those efforts.

Cost controls, companywide effort, you know what we’ve invested in Patch, I think you heard about this morning though is, areas where we are continuing to invest on the monetization in the product side, while at the same time we’re shaping the expense base, so that we can do that with a flat expense base.

The third-party network is a business that frankly had been in pretty meaningful decline, if you go back to this time last year. And Ned, and his team have done a really great job of getting that back to being a growth business.

And on the display business, look we have returned to growth as someone commented earlier, it’s certainly better than what some of our peers are seeing. And there is high incremental, bolster of incremental revenue on that revenue stream on display. So, we’re really focused on that opportunity.

So, there is not a lot of areas that we’re focused on but it’s not one as well. So, I think you have a pretty good sense of how focus in returning the company to overall growth.

David Joyce – Miller Tabak & Co.

And, going forward, should we expect more content-related partnerships be it and the branded video arena or what have you?

Tim Armstrong

I think, we -- when we look at those, we look at, is there ability for us to make money on those relationships and improve the consumer experience, it has to do really be bulk and therefore we can go to an advertiser with an experience that they are interested in. And to the extent we can continue to get deals that check all those boxes, we will pursue them, but I probably won’t add anything else on that.

Artie Minson

And I think we see increased opportunities to do more partnerships, I mean that’s -- it’s a clear trend in the marketplace right now. So optionality is going up not down.

David Joyce – Miller Tabak & Co.

Okay. Great. Thank you.

Eoin Ryan

There is time for one more question please.

Operator

Okay. Our last question then is from the line of Rory Maher of Capstone Investment. Over to you Rory.

Rory Maher – Capstone Investment

Good morning. Thanks a lot. You had mentioned I think about 50% of 2011 ad revenues already booked for 2012. Am I right in thinking given the difference in buying lead times between guaranteed O&O network and a large chunk of that is guaranteed O&O? And then I have a follow-up after that?

Artie Minson

Hey, Rory. It’s Artie. Just to point out that comment related to specifically Patch and that specific comment was what we did last year in 2011 revenue for Patch, we have 50% of that on the books today. It hasn’t necessarily run, it just on the books to be run for the going 2012.

Rory Maher – Capstone Investment

Okay. Thanks for the clarification. And then on the fourth quarter pro forma 4% O&O display. Is that -- was that kind of the last impact of 2010 getting some of that kind of old inventory off the books? And how much of that was that, how much of the 4% kind of below industry performance was kind of just re-ramping up the sales force?

Artie Minson

As it relates to -- was there, but we’re still working through taking down inventory in the fourth quarter of last year and that impacted the growth rate. I would say that was pretty de minimis and so we had worked through that. I’ll turn it over to Tim a little bit, who and maybe he can talk a little bit just -- the integration of just some of the brand work we did over the summer.

Tim Armstrong

Yeah. I just -- I’d summarize and may be get real for that doing about it is. We made one of the single largest business transformations in terms of brands as a business last year and I think, we took what essentially was the worst merger in corporate history, did a bunch of changes in the business, reduced their cost structure by $500 million, did acquisitions, changes all brands at around and basically told the marketplace to stay with us while we did it.

And I think, from a growth perspective, if you look at some of our competitive side and people -- people compares to who didn’t make any those changes. We not only made those changes, got growth growing and innovated new products and services.

In the pro forma growth, we’re not happy with, we’re not higher pro forma growth but if you put in context of everything we did of changing the engines, whether airways and plane. I think for 2011, AOL brought the plane down on the tarmac in a very succinct style. And I think next year or this year of 2012, we’re going to continue to make transformational changes but we’re also going to continue to grow revenue and stay focused on those things.

So I if you’re an investor and you’re looking at the 4% thinking, maybe that’s not as fast as the couple of the biggest players in the industry. I would just point out the fact that we are making serious progress in a serious industry, at a serious time with great products and services and kick ass team across the globe. So, I’d expect to see more of that in 2012.

Rory Maher – Capstone Investment

And then just very quickly, in that wane, I mean now that you’re kind of getting, you safely landed on the climax, it’s time to start flying like a normal plane so to speak in 2012. Could we expect to see more kind of larger sponsorship deal that incorporate kind of unique inventory like video or social more, after now that you kind of got some traction with kind of the double -- singular units?

Tim Armstrong

Yeah. So the answer is yeah. And again, I just would say, we built the products at very specifically, so we’re not one that saying that’s the Project Devil is also a video. So as we think about the high scale, high engagement, high ROI, we think about how do you include video and everything we’re doing, include local and everything we’re doing and how we include commerce and everything we’re doing overall, so the answer is yeah, yeah, yeah and yeah.

Rory Maher – Capstone Investment

All right. Thanks.

Tim Armstrong

So, maybe just a wrap-up, I would just highlight one, I want to thank staff by thanking the investors for riding with us during 2011 and the continued transformation, two is a big thank you to our customers and AOL employees.

Overall, key revenue is up, cost is down. We are maniacally focused on running this company at the high priority way, every single project has this company’s written down measured follow through on, every executive at this company has key objectives. They are supposed to be getting done. The team here knows what they are, we talk about them every week, we transparently publish them.

And I would say, as we look forward to 2012, the trends that are in our favor are, there are massive investments coming in devices, networks, operating systems. We have chosen a strategy which works and where the industry is growing. We expect consumer adoption to increase rapidly. And I think our revenue models both on search and subscription side, which have been doing a great job, as well as our key advertising principles, which is brand preference, in-market targeting and pages to parking lots in terms of what our strategies there.

We’re going to continue to innovate on that and I think we have a robust plan for 2012. We’re going to be aggressive and we’ll continue to take investor feedback on what we’re doing, but I can guarantee you, everybody that this company is working hard and diligently to make sure, it’s a great ROI for you and for us.

Thanks for joining the call and we’ll see you next quarter.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: AOL's CEO Discusses Q4 2011 Results - Earnings Call Transcript
This Transcript
All Transcripts