AOL Time Warner takes $50 billion hit in book value

January 09, 2002|By JAY HANCOCK

HAPPY New Year, AOL Time Warner shareholders. Your company's book value is about $50 billion less than management said it was a few weeks ago.

Of course, AOL Time Warner is downplaying Monday's announcement that it would record a huge loss this quarter to reflect lower, more realistic values for its Internet assets. It blames the hit on a new accounting rule and says the change "does not affect the company's operations."

Do not be misled. This is a real measurement of real money, an aftershock of the dot-com crash of 2000.

Based on Monday's announcement, AOL Time Warner's net loss for 2002 will rival the $56.5 billion bath JDS Uniphase took last year in what is believed to be the all-time biggest annual corporate loss.

The net worth of AOL Time Warner will plunge from about $150 billion to $100 billion. When all is calculated, the haircut could be as little as $40 billion or as much as $60 billion, the company said. Any which way, this is what the accountants like to call "material."

Retiring AOL Time Warner boss Gerald M. Levin was soothing during Monday's conference call, acknowledging that the company was "not immune to the widespread economic decline" and that "our full-year targets proved too high."

Allow me to translate. If I'd been in charge of investor relations at AOL Time Warner, here's what I would have had Levin say:

"Boy, that Steve Case was smart. You remember Steve. He's the chairman of this company, but we don't let him out much.

"Anyway, two years ago Steve had a problem," the imaginary Levin would continue. "As head of America Online, he knew his company's share price was way too high and the Internet stock bubble was going to pop.

"So he threw out a lifeline, and I must say it was a brilliant coup. Steve used the inflated value of America Online stock as currency to buy a real company with reasonably valued assets - namely, my Time Warner. He rode the Internet trolley right up to the peak and then let the combined company take the blow when it came time to adjust the value of the Internet operations back toward Earth.

"The pain would have been a lot worse for America Online if it had stood alone during the dot-com meltdown," the figment Levin would say. "But $40 billion-to- $60 billion sure is a lot of money. Man, I can't wait to retire."

AOL Time Warner shareholders may wonder why the announcement that the company's net worth would shrink by a third made few ripples in the media or the stock market. AOL Time Warner share price barely budged yesterday.

The answer is that the stock market figured out a long time ago that Time Warner was purchased with funny money in the form of AOL shares. Investors had already factored the decreased value of the Internet operations into the combined company's stock price. AOL Time Warner's announcement Monday simply acknowledged reality.

Even so, the marriage with Time Warner clearly shielded America Online shareholders from much of the dot-com damage. AOL shareholders who held on through the merger have seen the value of their stakes fall by more than half since the deal's announcement, but that's not nearly as badly as most Internet companies have fared.

The fact that the former America Online shareholders now own Time magazine, CNN, Turner Broadcasting and Warner Brothers - in addition to an Internet service with really annoying ads - helped limit the downside.

By contrast, the former Time Warner shareholders who traded in their holdings for stock in the new, combined company have done more poorly than owners of other media companies. Their stodgy if reliable publishing and entertainment company became a dot-com just at the wrong time.

A stake in Time Warner that was worth $10,000 the day before the AOL merger was announced two years ago now fetches about $7,400 as part of the merged company. For America Online shareholders, $10,000 in pre-announcement stock is worth about $4,400 today.

The immediate cause of AOL Time Warner's radical balance sheet adjustment is a change in accounting rules that requires companies to take immediate charges against earnings for items that once were amortized over many years, Chinese water-torture style.

The rule has to do with the way companies treat the difference between what is paid for acquired operations and the underlying book value of those units. This gap is known as good will. Under the new accounting rule, corporations will no longer amortize good will but must record an immediate charge if the assets in question have fallen in value.

The AOL-Time Warner merger, founded on dreams, fear and a sky-high stock, had good will by the truckload.

It's true that the new accounting rule is what made AOL Time Warner swallow the value gap all in one big chunk. But the gap has been there for months, a Grand Canyon in the company's financial base.

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