New CEO Jeffrey Bewkes is likely to separate, spin off, or sell the subscription arm of AOL - its weakest link - which will expose the strength of its digital ad platform, recently bolstered by AOL's $850M purchase of UK social-networking site Bebo. Despite its problems, AOL boasts 35% margins.
Its film division faces challenges domestically, but Bewkes hopes to boost revenue by exploring opportunities in Eastern Europe, Russia, Latin America and India - and by increasing digital distribution and making on-demand movies available earlier in the release schedule.
Warner's cable network is less sensitive to economic weakness because its sales are largely from for-fee content, and not dependent on ads. Rivals CBS (NYSE:CBS) and Viacom derive 60% and 40% of their revenue from ad sales; for TWX the figure is just 26%.
Time Warner will net more than $9.25B on the Time Warner Cable (TWC) spinoff - or about $5/share. That means shares, which trade below $15, can actually be had for about $10 - or just 10x 2008 EPS - far cheaper than peers Disney (NYSE:DIS) and Viacom (NYSE:VIA), and than its historical average. The extra cash gives Warner the time it needs to custom-build a turnaround and focus on its core competencies.
TWX has repurchased $22.5B of its shares over the past few years, and word on the Street is it will soon spend another $3.5B to reduce its shares outstanding by 10%. Shares could be worth as much as $26 a year from now, Deutsche Bank's Doug Mitchelson says.
Note that Google (NASDAQ:GOOG) owns a 5% stake in AOL. A clause in its 2005 purchase agreement give it the right to force Time Warner to bring its Internet division to the market. At an estimated $500M loss, it seems unlikely to do so.