This morning, Verizon announced that it would acquire AOL for $4.4 billion, or roughly a third of a Snapchat. Set your dial-up jokes aside for a minute; this deal makes perfect sense. Just maybe not for the reasons you might think.
When you think of AOL, if you do at all, it’s likely either for the company’s legacy of peddling internet access via mail-order DVDs, or its stewardship of prominent media entities like the Huffington Post, TechCrunch, and Engadget. Either would seem like a strange fit for Verizon, especially at that price. But if AOL is a city, these are just its buildings and billboards. Verizon’s in it for the infrastructure underneath.
To understand where AOL’s value truly lies, it helps to understand its CEO, Tim Armstrong. Prior to signing on to AOL in 2009, he put in nine years at Google, building up its sales efforts and eventually becoming the president of that company’s American operations. In other words, he was instrumental in architecting one of the most powerful forces in advertising history.
His time at AOL reflects that legacy. Over the past seven years, the company has gobbled up marketing firms like Pictela, Convertro, and Adap.tv, along with video-focused shops like StudioNow, GoViral, and Vidible. The result of this acquisition stew is an AOL that knows as much about the online ad marketplace---particularly mobile and video---as anyone. Even more importantly, it knows a whole lot more about it than Verizon does.
AOL has also demonstrated that it can convert that knowledge into hard cash; it took in $1.8 billion last year in advertising revenue, just less than half of which came from serving ads for third parties (which is to say, outside of its own media properties). That $856 million also represented a 39 percent year-over-year growth for the advertising technology side of the business, compared to just 4 percent growth in search ads---and 3 percent decline in display---from AOL-owned sites.
The trend has continued into 2015; last quarter, AOL ad tech for third parties earned AOL $231 million, a 19 percent year over year increase. And while search ad revenue for AOL properties increased the same amount, display ads fell another 4 percent.
"AOL has successfully built a robust ad tech stack with assets across mobile, social, video, and programmatic for both advertisers and publishers," wrote MoffettNathanson analyst Craig Moffett this morning. "It has premium audience measurement and attribution capabilities, as well as content creation and distribution technologies."
The real AOL is an advertising powerhouse, growing at a fearsome clip. That’s what Verizon is buying. Well, that and a bunch of zombie dial-up subscribers, the 2.1 million lost souls who still pay AOL a monthly tithe to access the internet.
That business dropped seven percent in 2014, but who cares? It still brought in over $600 million in revenue.
So like icebergs and burritos, AOL amounts to more than surface-level impressions. That still doesn’t fully explain why Verizon would want to own advertising technology in the first place. To understand that, you have to look at both what Verizon is and what it wants to become.
"With the addition of AOL, Verizon should be well-positioned to benefit from an advertising model in which [it] can gather valuable information for advertisers and content providers," wrote Wells Fargo analyst Jennifer Fritzsche in a note concerning the deal. Verizon has an incredible amount of intelligence about its customers available to it; meanwhile, its role as a bridge between content providers and whatever screen you're reading this on will be increasingly important part of the company's future.
In a press release announcing the union, Verizon CEO Lowell McAdam churned out an impressive amount of corporate-speak. The part that matters is this:
Loosely translated, this means that Verizon doesn’t want to become just another dumb pipe.
Verizon Digital Media Services, launched in 2011, caters to content creators who need to deliver their digital wares to an increasingly broad range of devices. It handles encoding, delivery, and storage in an effort to be a comprehensive, off the shelf TV Everywhere solution. It could also benefit greatly from including AOL’s video ad tech smarts as part of that package.
Even more intriguing is the "OTT" that McAdams glancingly mentions. The company has previously stated its plans to deliver an “over the top” video service, a rival to Netflix and Hulu Plus and, increasingly, everyone else; it already has 200 hours worth original content deals in place with DreamWorks Animation and teen-friendly AwesomenessTV. Where it could differentiate itself, though, is to power that service not through the standard subscription model but through advertising; Verizon CFO Fran Shammo hinted as much in a call to discuss last quarter’s earnings. Absorbing AOL would make delivering those ads simple, efficient, and cost-effective.
Verizon could also conceivably benefit from owning prominent brands like Huffington Post, Engadget, and TechCrunch. AOL’s media business is still profitable, and becoming a content provider could arguably help hedge against Verizon’s infrastructure business being regulated into obscurity.
The latter seems like an unlikely concern, though, and even if Verizon were interested in content it would likely rather focus on video-first properties that offer more lucrative advertising opportunities.
Besides, Verizon had a brief fling with owning a tech blog last year that ended… poorly. SugarString.com, a bizarre stab at replicating technology-focused sites like those Verizon just acquired, quickly became mired in controversy after reports that it forbade its editors from addressing topics like NSA surveillance and net neutrality. The site was shuttered last December, after generating significantly more bad press for its parent company than actual journalism.
"As with any pilot project, we evaluate, take our learnings, improve our execution and move forward," Verizon said in a statement at the time. Hopefully the learning is "let’s not meddle in editorial operations," but the more likely takeaway may have been to avoid the conflicts altogether; as Peter Kafka reports at Recode, one possible plan is to spin off the blogs altogether.
The important thing for Verizon, though, is that wherever those sites wind up, it now has the wherewithal to control the only part of them that affects the bottom line. It has the ads.
