Was this a really bad week for Microsoft, or are we overstating the threats?

We have seen a glimpse of the future of productivity apps this week, ranging from:

  • Adobe’s smart acquisition of Virtual Ubiquity, authors of the RIA word processor, Buzzword, to
  • Zoho’s release of a personal database tool, Zoho DB, blurring the lines between spreadsheets and databases even further, to
  • Microsoft’s first moves to position its desktop tools as a service, instead of a product, with the release of its “storage in the cloud” model for documents, Microsoft Office Live Workspace, to
  • Google’s external positioning for the enterprise mail business with the incorporation of Postini into the overall Google Apps bundle.

If you add these recent moves to the earlier announcements by IBM to join the Open Office cause (a lower impact move on the landscape), continued evolution of additional web-based and RIA productivity tools by smaller players (Empressr et al), it makes the case that what we once willingly paid $300+ for is now quite rapidly becoming the new analog to the email battlefront of the late 1990’s, where consumers benefited by efforts of Yahoo, Hotmail, and others: a disruptive free value proposition to earn/retain your attention/PVs.

The idea of productivity tools as features versus businesses has real impact only on one player of scale: Microsoft. As such, there has been much written about Microsoft’s upcoming demise. To me, the death of Microsoft is greatly exaggerated, but certainly, not all is well in the kingdom of Redmond. It’s worth more analysis to understand the full state of affairs.

At the highest level, Microsoft’s three profit franchises are the OS (the client division), the desktop tool suite (the business division), and the enterprise offerings (the server and tools division). The rest of the businesses are a portfolio of strategic investments (some quite massive, but none profitable), imho.

If you look at each of these three major earners individually, you see different threat horizons:

On the OS front, Windows has become less of a consumer visible and valued product, and much more of a utilitarian service. The stark contrast between the $500+MM Vista marketing launch, where you saw the total void of any consumer-supported momentum once the big initial marketing push ended, versus the Halo 3 launch, where you could feel the excitement of gamers as the release date approached, signaled the end of an era, in terms of OS-led and OS-dependent innovation. Is there a tremendous cash cow in the Windows franchise? Yes, but in some sense, it is due in large part to the extended ecosystem of hardware manufacturers that Windows fostered in its heyday. Disturbing early warning signs of the transformation include the share shift in domestic laptop sales between Apple and the Windows-powered competitors. If you look at the next five years, with the introduction of things like Linux-based Ultra-portable internet devices (led by Nokia and Asus, but soon to be joined by others – Mozilla, ARM and Samsung, to name a few), and more day to day use of web-based and RIA applications becoming the norm, consumers will operate at further levels of abstraction from the operating system than ever before, and as such, care less and less about it. Overall health of the business for Microsoft: Fair – it will continue to put lots of food on the table, and help fund their loss-leader efforts in gaming, IPTV, and mobile, but it will start feeling much more material pricing compression from OEMs in the 4-6 year event horizon.

The desktop tool suite is another strong earner for Microsoft, and we’ve trained multiple professional generations to operate in the Word/Excel/Powerpoint universe we know and love. The tools have evolved to be by far the best-in-class offerings out there. The challenge for Microsoft is the diminishing impact of new feature/functionality development. One of the issues Microsoft has historically had was balancing feature development (to continue to justify aggressive upgrade cycles in its corporate client base) with the fact that they had long since gone past the base needs of the average consumer (I think the soundbite at one point was the fact that the vast majority of folk used only 7% of the feature set of Office, and efforts like the beloved Clippy and others to expose more functionality didn’t move a dial here). Maybe the new ribbon and its contextual functionality it exposes in Office has had an impact, but if the documents I receive daily are a good proxy for functionality utilized, it sure doesn’t feel like it. This Office toolset is clearly under attack by Google, and having Adobe cast their hat in the ring has to also be disturbing, given their own reach (97+% of global PCs). I am bullish on the ability of new entrants to have a real impact, especially in the word processor and spreadsheet segments. They aren’t bringing two decades of baggage to the table, and are incorporating collaboration tools from the beginning. Overall health of the business for Microsoft: Weakening – unlike the OS, which has more legs to it, I think you’ll start seeing the pricing compression for Office begin in the 18-24 month event horizon – it’s becoming a fungible service. I know that in my old CTO roles, I would be using Google apps as a stalking horse in my next Microsoft renegotiation.

The enterprise product segment is a nice success story for Microsoft. Its growth has allowed Microsoft to add a third material profit piston to the MSFT earnings engine, and tools like Exchange have become de facto business standards. The development tools and runtime environments are good, and sometimes great. I know first-hand how productive .NET development shops can be, and I like how MSFT has managed to take its solution sets up to enterprise scale over the last seven years. If I look to threats here, they come from two directions. The first is the continued push by businesses to use the open source LAMP stack. I don’t see massive share shift between the Linux and Microsoft camps anytime soon. I think this will be a long, drawn out battle, with Microsoft continuing to be a major player. Selected products (most notably Exchange) will, however, feel more heat in the 3-5 year event horizon, through efforts by both Google and Yahoo (with its Zimbra acquisition) to get access to the prosumer through aggressively priced enterprise mail offerings. Overall health of the business for Microsoft: Good – The enterprise mail market is a tough one to penetrate, and the love/muscle memory for Outlook and Exchange are very substantial. The other products will survive and thrive.

Let’s not kid ourselves. The company did post $50B in revenue and $14B in earnings in 2007 – they aren’t going anywhere soon. Microsoft’s free cash flow is so substantial, there is always the opportunity for them to make a disruptive acquisition or offer a disruptively priced offering, something that can never be under-estimated.

Microsoft seems incredibly focused on the consumer sector right now.  Are there opportunities for them here?  Yes.  When I think about where they could take TellMe as a hybrid voice/data portal in mobile, and how they could use their multiple consumer touchpoints for great behavioral targeting, I see multiple opportunities for material growth in the consumer segment by them. I just think that they have the problem of legacy consumer product successes still driving the vast majority of earnings (one that AOL faced for years, and took too long to navigate away from), and no matter what you say, it continues to shape their decision processes. They also have an enemy (Google) who has several of their key consumer-centric earners (desktop productivity tools and email) in their gunsights, and can and will be disruptive in their pricing strategy, which certainly is one reason they are so focused on acquisitions here.

I just see conflicting moves on the consumer front that seem at odds with its perceived importance.  When I see somewhat lackluster things like the launch of Live SkyDrive as a 500MB free offering (a tenth of competing free offerings), I worry – moves like that will never turn a dial and change the current consumer market dynamics. We are at a moment of truth, in terms of momentum. It’s time for change.  I think some real soul seaching is needed.  Chasing Google and obsessing so much on advertising (symptom of obsession: the premium paid for aQuantive) and the consumer segment seems to me to be playing someone else’s game.   You’ll never win a game where someone with that broad of a distribution channel can afford to attack so many of your historical consumer offerings with ad-supported alternatives – it will all be about fighting a rear guard action to maintain your share and margin structure for as long as you can.  Use your financial might to fight another fight.

For me, it’s about playing to your strengths.  Microsoft has some great and unique assets in its salesforce and its enterprise penetration – focus on continued leverage of them. Microsoft should consider making some material acquisitions in the enterprise space that can generate real earnings (e.g., acquiring SAP), instead of A) the current excessive focus on the search and ad space, and B) dividending so much cash back to shareholders (something that didn’t really achieve a material impact anyway). It’s time to add another piston in the MSFT engine – let’s make a bolder enterprise play!

Yahoo: Congrats on Zimbra, but think before you consider buying Zoho, it’s already old school!

This past week, I had the pleasure to attend the Techcrunch40 event.  The opportunity to see 140 companies in a two day period was both great and, at times, overwhelming.  For every great thinng I saw, I also paid the tax of 2-3 less-than-stellar ideas, but some of the stuff was really well done (like the Korean-based Musicshake).  During the event, a really exciting thing happened: the news of Yahoo’s acquisition of Zimbra broke.  I thought that was a really creative move by Yahoo.  I am a big fan of the platform.  It is nimble and extensible, and has some nice content parsing and widget constructs built into it.  If you want to get a sense of the flexibility, check out the work done by two engineers to do a GMail knockoff, or the work done in a few days to do a nice iPhone implementation.

While conjecture has it that this acquisition was done to create a compelling solution for the SMB market and the university environment (certainly logical), I hope they give it broader consideration as a platform to allow testing of more radical email experiences to the core consumer base they have (the ability to do quick A/B testing for mail would be unique among the majors).

Rarely does a company have a chance for a greenfield solution for something as important as email.  All of us have solutions that we have evolved over the years, which brings with it some amount of legacy baggage.  This acquisition (which will benefit hugely on your knowledge of making things cost-effectively scale) has a chance to really move a dial for you at a critical moment.  Here’s hoping we see you take it to a whole new (and open) level.

Now that the Zimbra acquisition is done, the next expected shoe to drop is that Yahoo will now need to acquire a web word processor and spreadsheet solution (with Zoho being the leading candidate) to expand their solution set to go head to head with Google Apps.  To me, the move to expand the solution set is almost mandatory, given Yahoo’s email leadership position, but the acquisition of Zoho would miss consideration of an opportunity to take web-based productivity tools to a whole new level.

A little background:  The whole office-apps-on-demand space began 6 years ago with ThinkFree, a JAVA-based toolset that was designed (with some foresight) to deliver a RIA (rich internet application) experience both online and offline.  At the time, no one else was pushing the envelop, in terms of desktop JAVA-based consumer offering.  To me, it was a really bold science experiment.  It delivered a message that perhaps the mass market didn’t need as robust of a desktop tool as where Word and Excel has gotten to, and that a ground-up approach to focus on the 10% of the functionality most folk used might be the basis for a compelling offering.

Unfortunately, the whole install process (both time-to-first-use and the actual install dialog itself) was not a great one for the early adopters, the use of desktop JAVA became a bad horse to ride technically (in terms of being at odds with the industry, who jumped on the AJAX and Flash bandwagons), and the solution itself languished.

Over the next few years, you saw some new AJAX-based word processing solutions emerge.  Now the market has a number of interesting offering, ranging from Zoho, to Writeboard, to Glide Write, to the leader, in terms of market awareness, Google and its Writely-based solution.

We’ve also seen the solution set expand to include spreadsheet tools (decent) and presentation tools (uniformly weak).  Most of these web-based solutions have some common attributes:

Import from and save to Microsoft Office formats

Lightweight footprints (fast startup)

Simple functionality exposed in a pre-Office 2007-ribbon toolbar layout

Basic formatting controls (bullets, numbering, indenting, bolding/italics, etc.) and formula support

Minimal offline operations support (e.g., Zoho’s use of Gears to allow viewing, but not editing, of documents)

Limited font options.

Are they useful?  You bet!  For basic word processing and spreadsheet needs, I find they hit the mark 60+% of the time.  The challenge is that not one of them really breaks out of the pack, and the presentation tools are not even close to being useful on a day-to-day basis.

Given the state of the market, and a hypothesis that Yahoo is interested in having a competitive offering here, what makes the most sense?

One path is the acquisition of Zoho, which would indeed give them a Google Apps competitor in short order.  That certainly is where the smart money is betting, but does this represent a lost opportunity?  To me, the answer is yes.

I think that a new generation of consumer web-based productivity tools are starting to emerge from the great work being done in Flash 9 and AIR (FYI, Kevin Lynch is one of my heroes).  I offer two great early stage companies as examples:

The first is Buzzword, a new word processing solution from Virtual Ubiquity.  Using the product, I found myself really believing that it could be the basis for a robust online and offline word processor I could use day to day.  The team has done a really nice job of surfacing detailed formatting ability, table manipulation and other features (floating photo support, etc.) in a very intuitive, not all Microsoft-derivative manner.  The solution is both similar and different from my Office experience, and I give them credit for taking risks with the user interface – it rocks for a beta product!

Here are a few screenshots (none of which do justice to some of the nice mouseover events they incorporate):

The second tool is Empressr, a presentation tool from Fusebox.  The most recent beta they showed me at Techcrunch gets the fact that, in our rich-media focused world, our presentation tools need to embrace easy access and incorporation of video, animation, etc., and not ignore it like the AJAX solutions seem to do (due to its complexity).  Unlike last week’s release by Google of Presently, which seemed to have less functionality that their word processor, this was a tool that I could see myself using to develop really visually compelling presentations.

But here is the rub, if you are Yahoo:  Do you go with the flow, and adopt a solution suite that makes due with the best that AJAX can deliver today, or do you take a risk and leap into the RIA experience head-first with an Adobe technology-based solution?  (If you did want to go down another technology path, you might make the case to build the productivity tools in Microsoft’s Silverlight, but given the fact you would need to wait till release 1.1 in 2008 to get offline support, and I don’t see emerging office tools there, I am not sure you could spare the time.)   I think this is a key decision point for Yahoo, as it looks for opportunities for differentiation.

Maybe the world doesn’t need to be so binary (I find binary discussion of options to be more provocative, so I beg forgiveness).  I do think we all need to form our own opinions here on online/offline RIAs and their potential acceptance/adoption by a broad base of consumers.  I would just suggest that you get hands-on access to both Buzzword and Empressr (the newest beta) as you each shape your own worldview on how quickly the landscape of RIA is evolving.  It’s well worth the time – this is only one battlefront for RIAs – you’ll see the same battle emerge in the CRM space, the media player space, and other sectors over the next 12 months.

Net net, the promise of free, robust on-demand offline-capable office tools is already becoming a reality, probable sooner than many of the principals thought.  Each player needs to craft its own gameplan here sooner vs. later.  Given all the moves we have seen and will see in the next several months, I am not sure how Microsoft’s Office-on-Demand offering can find a comfortable, profitable place in this changing landscape, but, as consumers, we all stand to benefit…

Who will be the first major (Google/Yahoo/Microsoft/AOL) to break ranks and apply a fundamentally new metaphor to email?

We are in the midst of an important moment of truth – email as we know it is under attack, and the major firms are not moving fast enough to prevent it from becoming more of a niche form of communications in the next 5 years. The email experience of today is being threatened on multiple fronts by a variety of new forms of communication:

Twitter/short-form blogging

Asynchronous messaging in social networks (e.g., the Facebook Wall)

IM experiences now supporting queuing of messages to offline buddies

Away message/Status message utilization in instant messaging

SMS adoption (late to come to the US, but now pervasive)

Wikis and other new collaboration platforms

Comments (MySpace comments, Blog comments, et al)

Casual communication forms (the nudge, the wink)

New sharing experiences (Flickr, et al)

Email aggregators (e.g., I use Gmail to aggregate all of my AOL, Yahoo, and POP3 accounts. These other companies still bear all the cost of hosting my email accounts, but now get none of the pageviews.)

Email and IM integration into social networks (the new entrant risk).

People have more compelling, more contextual, more effective, and more convenient options to share and interact than ever before, and incumbent forms of communications will be the losers here.

The risk is as follows: the major internet incumbents rely tremendously on having a robust base of consumer email account relationships to feed their ad/search businesses. Having that email inbox relationship can yield 2x the monthly page views, when compared with non-email-account consumers. In a world where just protecting your pageview base has become a challenge, some firms view email a bit like they do search: “We can’t risk material changes to the email experience – the downside could be huge!” To me, that kind of thinking is a huge mistake. The email franchises of the majors have been already under attack for several years, and major demographic segments (segments very attractive to advertisers) view it as an increasing arcane/niche form of communication.

A re-think of the email experience is long overdue. Think about how dated the email metaphor is. I remember (in the coal-fired world of my past), using MSG on the ARPANET as a kid almost three decades ago, and while the look and feel of email certainly has advanced since then, the limited metadata we had available back then to dream up new capabilities is, with little exception (tags and folders) the same as what we are operating with today (Date, time, sender, attachment data, routing data, etc.). In addition, the UI of email has effectively settled into the Outlook-derivative 3 pane design.

Is there innovation? Yes. I do see some interesting nuances between each experience out there (e.g., Yahoo’s seamless melding of mail and IM in their new beta, Google’s still-unique threads and tags, etc.), but to me, it is all incrementalism. No one will break out of the pack without bolder gameplans.

Let’s look at Yahoo and their own journey of change, which I give them lots of credit for accelerating over the last 18 months. Earlier this year, they launched their Mail APIs, and encouraged people to develop applications that took advantage of them. I think that was a great step, but there are a number of challenges to the implementation:

New applications are only available to the premium mail users, which means, for me as a developer, I am fishing in a smaller pond

The core UI of the mail experience is basically untouched and non-extensible

The amount of data exposed is certainly enhanced, but nothing major was done to add value derived from the contents of the message itself

It seems to be focused only on asynchronous communication – the new melded IM capabilities exposed in the beta are not yet reflected/accessible in their API.

Good, but not nearly enough. Facebook has shown the world the exponential value of an innovation program done right (e.g., supporting a more flexible UI construct, implementing some great API thinking (FQL, etc.), offering developers access to their entire customer base, etc.). But, as successful as their developer strategy has been, their AOL-analogous walled garden approach created its own imperfect consumer experiences (Two nagging examples: 1. Surfacing contact data as images, instead of text (a competitive move to prevent web scraping) prevents any cut and paste operation. 2. Their new-mail notification alerts always forcing me back into the very limited native Facebook email experience). We need to learn and mimic winning elements of the Facebook playbook, but go well beyond it as we craft our mail gameplans. As always, in situations like this, you want to remember to offer the consumer choice – there are lots of folk quite comfortable in their three pane world. That said, change here is long overdue.

Let’s take the best of email innovation (e.g., Gmail’s free aggregation of accounts, Yahoo’s melding of email and instant messaging, Plaxo 3.0’s “softswitch” for calendar and contact data), combine it with the relevant elements of Facebook’s thinking, figure out the right interop with the emerging forms of communication I highlighted above, and create a step function shift in email.

Are there real innovators in the email space to watch? Yes. One of them is Xoopit, which the world will start to know more about soon (full disclosure:  I am an advisor).

30+ years later, the latent potential of email and the inbox is still huge. I still LOVE the metaphor of the inbox – it was the first real attention-based information architecture, in my opinion. It’s just grown dated in its implementation. Read Lifehacker and see all the interesting things people have done to use Gmail as a broader organization/life management tool, and you get a glimpse of its potential. The challenge will be who, of the majors, is willing to step up and lead consumers to a new and better place: Inbox 2.0.

Gphone vs. iPhone – suggestions to Google for a winning gameplan

With all the dialog about the GPhone effort, starting with a “launching in two weeks” post 3 days ago until now, I though it made sense to see what facts existed to-date (“pretty sparse” would be an understatement), and what people were forecasting about platform, positioning and timing.  

Gphone

I think the article in the Wall Street Journal was, in this world of uncertainty, the most reasonable conjecture about Google’s overall approach and timing regarding the Gphone (and Google’s mobile aspirations).  The article highlights were as follows:

  • Google is focused on developing the software stack for the mobile phone, using Linux as its foundation
  • HTC working on multiple form factors for consideration
  • Launch timing is a potential 1H08 event
  • T-Mobile is potentially the lead US carrier partner, with a desire by Google to also partner with Sprint’s 4G Xohm effort
  • The strategic rationale is to extend their PC franchise leadership into the mobile search and advertising arenas
  • The efforts so far are viewed as lacking the sizzle of the iPhone.

No real surprises here.  Google is smart enough to recognize that working on a reference design and getting multiple manufacturers behind the effort is the only way for a company with no consumer hardware gene-code to succeed in this brutal market (they are avoiding the fatal flaw of Amp’d here).

There is no way for Google to match up head to head with Apple’s iPhone – that’s just not a winning playbook.  I wouldn’t attempt to compete based on the device’s cachet/PMP capabilities.  Think of all of the roadkill who tried that and failed (Creative, Microsoft, et al).

So where are the veins to mine to position the GPhone as a game-changer?  Here are my thoughts on building a great value proposition:

Bring phone-based value-added GPS to the masses.  Google’s first efforts to GPS-enable Google Maps are nice, but the real opportunity is to be the first person to bring a Telenav-like experience to the mass market as part of my data “entitlement”.  I have been using the Telenav solution on my Blackberry 8800 for about 2 months, and I ditched my Garmin and use it exclusively now.  If you want a transformative platform to drive new thinking in local search and advertising, is there a better starting point?  I don’t think so…

Give me a browser that works well in both rich bandwidth and limited bandwidth environments – Opera is a great choice here, and their proxy approach will give you more intelligence/insight.  I love the iPhone browser, especially when I am wifi-connected, but I want a solid performance in lower bandwidth settings, and Opera has the thought leadership here.

Learn from 7+ years of Blackberry history and fix your rich email client.  Biggest thing that bug me:  You have way too  much dependency on the concept of a session.  I can’t stand getting the re-authentication requirement when I go in and out of coverage.  Blackberry championed the concept of spoofing the concept of a persistent session, not requiring it – steal shamelessly here and fix you bits.  Other things to fix (speaking from my context as a user of your Blackberry client):  enable click-to-call when you see a phone number in my email, support blackberry cut and paste functions, and give me a credible mobile calendar interface (it’s way too buggy).

Make the wifi handoff experience as seamless as the iPhone – maybe even give me full session mobility when it makes sense (especially in a voice-related session).  I loved the pico-POP idea T-Mobile is championing (turning my wifi access point into a pico-POP in their network, if I have a dual mode handset).  Help them make that a broadly implemented reality.

Statement of the obvious: Widgetize the phone experience – have both you and, most importantly, your carrier partner encourage supported platform extensions – T-mobile is a great potential partner, given their current US market share.  Apple may drag AT&T across the finish line on this topic eventually (the latest news about AT&T’s crackdown on iPhone unlocking isn’t encouraging), but you still can be the first mover.

Make my mobile search experience yield a “great first choice” result – the 10 blue link model fails miserably, translated to mobile.  Yahoo’s mobile search is beating you here today.

Deliver a great IM experience that integrates AIM (at a minimum) – leverage the AOL interop deal and deliver on the AIM community interface – Gtalk alone will fail to impress.

Proactively support VoIP – if it is a truly global product, give me Skype support Day 1.

Learn from the mistakes of others in your mobile advertising plans – a few targeted messages a day can get you 10x click-through – don’t use the current web ad models as your frame of reference.  Mobile advertising, done well, can deliver real consumer value – I’ve see it done.

Give me better sharing between my mobile and PC experiences (Yahoo remembers mapping locations I use on my PC when I am mobile – you don’t). 

Most importantly, sex sells – don’t ship a pedestrian form factor – the iPhone has set the bar pretty high, and people’s expectations of you, even managed, will still be pretty high.

Should be simple ;)  I can’t wait to see what comes out of Google’s effort over the next six months (Both the results of the 700 Mhz auction and the Gphone launch).  We need catalysts to drive change.  The iPhone is a great start, but at its current price point and with a carrier partner still undecided on the degree of openness to support, we need the power of the Google brand to drive the whole mobile ecosystem to a new level.

The impact of the debt markets and AOL’s future – it’s time for new thinking

The latest report covering the KKR buyout of First Data is disturbing at several levels.  It is a clear demonstration that the buyout model of the last 2-3 years is over – the debt markets have dried up for this sort of lower quality paper. Does this mean buyouts will disappear?  No – I just think you will see a return to the model championed by Silverlake and others in less buoyant times: Buy what you think are solid-fundamentals quality firms with growth potential (e.g., Seagate), then help get them the operational talent they need to take their game to a new level. We saw a number of marginal buyouts happen over the last two years (I am not trying to paint First Data with this brush) – that’s over for the foreseeable future. The major banks are, as mentioned in the WSJ article, caught in-flight with a commitment of their balance sheets to some of the major buy-out firms, with little or no chance of placing that paper without a SERIOUS haircut.

With the drying up of liquidity, the future for AOL is now made much more complex. There were lots of folk betting on a private equity consortium stepping in to take AOL of TWX’s books. That path now has little or no chance of succeeding in this environment.

What next then for AOL? I am not sure. Under the assumption that the aggregate AOL entity moves into a model of flat to low single digits growth, I am not sure TWX can afford to continue to have it roll up into the aggregate numbers. It makes TWX’s ability to position itself as a 10+% annual growth business a real challenge. If we assume that some structural move is in AOL’s future, what are left as options? Most of the prior musing about AOL has its future going down one of five paths:

1. Acquisition by Microsoft

2. Acquisition by Yahoo

3. Acquisition by Google

4. Standalone spinout as public entity

5. Sale to private equity player.

I think all of these options have way too much hair on them. Buying all of AOL brings a lot of financial baggage with it. To begin the dialog, let me give you my view on AOL and its composite parts. AOL is essentially composed of three major segments (this is not how things are necessarily organized, but is the best way to discuss its valuation):

AccessCo – this is the remnant primarily-dial-up access business. It is a great source of free cash, now that the marketing spend has been dialed back to practically zero, but as the last quarter showed, it is on a pretty fast decline (10% subscriber declines in the quarter), and should be modeled and valued appropriately. To me, on a discounted cash flow basis, maybe it is worth $3.5B-$4B (this is a rough justice estimate, given analyst views on sub profitability and an extrapolation of subscriber trends), assuming there is some tail of folk who will stay customers till the end (like what we saw with Compuserve).

PublishCo – these are all the properties that generate the viewership traffic for AOL to monetize. This is a collection of a lot of disparate assets, ranging from things like AIM and MapQuest to the AOL 9.0 user base. Most of PublishCo is best described as Web 1.0 in nature (no franchise model), with the exception of businesses like Userplane. Valuing PublishCo is difficult – The aggregate US pageviews and engagement metrics are pretty huge, but the trajectory is relatively flat, and even with an optimistic lens, it is most probably a low single digits growth business.

AdCo – these are the operations for monetizing the traffic of both PublishCo and third party inventory. I am putting the search operations in here as well. The centerpieces for AdCo are Advertising.com and AOL’s ad sales force. AdCo has been expanded over the last year through acquisitions like Lightningcast, Third Screen Media, Tacoda, and AdTech AG. Performance of elements of AdCo are pretty stunning. On last quarter’s earnings call, Dick Parsons mentioned sales on third party inventory (versus PublishCo’s) were up 32% year over year. This is driven in large part by the performance at Advertising.com. Valuing AdCo is probably the heart of matter in determining AOL’s future. If you focus on the display ad sales business, solving for a combination of sales within AOL’s own properties and sales on third party sites, you can craft a business of 20+% annual growth, with decent, if not exceptional margins. Adding the AOL search business into the mix gives you a lower growth top line story (the 16% year-over-year growth highlighted in last quarter’s financials), but dramatically improved margins, given the sweet economics of the deal with Google. The structural thinking here is the biggest leverage point in any AOL valuation dialog. It’s well worth the effort – if we use the Microsoft acquisition of aQuantive for $6B earlier this year as a comp, some permutation of AdCo (Advertising.com, the search business, a multiyear commitment by TWX to rep the inventory of PublishCo) could be valued at $10+B, assuming the parts hit the magic 20+% annual growth bogey.

So if these are the pieces and parts, what do you do as the parent?

Cowboy up and stick to the script of giving AOL runway to validate its strategy? I think we are rolling down the runway at 220 mph and have about 1000 feet left. Given the lukewarm feedback to the announcement of the $5B in additional stock buyback and the increase in dividend (the TWX stock closed today at 18.66), time is running out for management to remain masters of their own domain. The harsh words by Pali analyst Rich Greenfield are a shot across the bow – the buy side is losing patience. The only question is who is going to play the role of Carl Icahn this time around.

Sell the aggregate entity? I just don’t think that is something that will attract lots of attention. The three majors (Google, Microsoft and Yahoo) wouldn’t want the mass of no-growth components that the aggregate entity brings with it. How many acquisitions bring with them an immediate establishment of a sizable discontinued operations (AccessCo)? Maybe you could see a three party transaction, where the acquirer immediately lays off the declining cash cow to a private equity player…

Sell/spin AdCo? I think this is an attractive path. TWX retains AccessCo in its discontinued operations segment, and uses the free cash generated for more strategic purposes. AdCo is either sold to one of the majors (let’s add Murdoch and Diller to this list), or spun out to create a growth multiple currency to continue to roll up properties. AdCo is a really complementary acquisition by almost every major player out there (unlike what buying the assets of PublishCo would mean to a Yahoo or Microsoft). It also can survive and thrive in a world of disaggregation of traffic (i.e., it’s not a Web 1.0 bet on portals).

What about PublishCo? There are interesting properties (MapQuest, AIM, etc.) that are worth decent valuations. I just think dealing with PublishCo in the same time horizon as AdCo is a tough act. Perhaps Day 1, PublishCo might be combined with other web properties in the TWX family and given a longer event horizon to determine its course. The other option might be a separate aggregate sale to a player with greater web aspirations (e.g., Comcast). I struggle here on an elegant solution for this, but I think PublishCo’s valuation isn’t the big dial to turn in an AOL discussion – it just doesn’t have legs as part of a growth story. You do need the commitment from PublishCo for AdCo to run its inventory (and its search traffic) for 5 years to make the story all hold together, but I think that’s about the full extent you’d want the operational interop between AdCio and PublishCo.

I am a TWX stockholder, and the retreat to 18.66 pains me. I just don’t see an organic path to material success (i.e., 10+% annual growth) for AOL in its existing form, given current course and speed. In this world of inflated valuations and TWX’s commitments to stock buybacks consuming the available cash for acquisitions, too many deals will trade away that would help AdCo continue its forward momentum. With all the talk about arming AOL with its own currency over the last few years, it’s time to make it a reality – it just needs to take another form – AdCo currency.

AOL Search – a case of sincere flattery, but a bad business decision?

First, let me congratulate the AOL team on its latest acquisition, Tacoda. I think that since Randy and Ron have taken the helm, the acquisitions to continue to fill out the advertising infrastructure have been logical and done at sane valuations. At this point, the non-search related portions of AOL are as strong as any of the other majors, and you could even say that Advertising.com continues to be the best-in-class player out there in the display ad network arena.

That said, while there are a number of really good things occurring, the recent decision to clone the Google search UI is one that I think needs a major revisit.

A brief history of AOL search for the uninitiated: AOL did a deal that, in Mid 2002, swapped out the prior Inktomi-powered search experience with a Google-powered one. The deal was a seminal one for Google, garnering them a lot of US search traffic at a critical time in their history (remember the more dominate position that MSN and Yahoo had in search in prior years).

The nature of the deal involved really favorable economics, as well as warrants in the pre-IPO Google. The deal did, however, have a number of constraints on what AOL could do to customize the Google search experience. The deal was a good one – AOL had much more flexibility than any other Google partner to-date, but even with that flexibility, it was probably correct to paint a picture of AOL being able to build a creative veneer around the core Google results, but not much else.

Well, the search team, led by Jim Riesenbach, Gerry Campell and Mark Canon, actually did a really great job, given the cards they were dealt. They did a number of things to allow for creative monetization of high-value searches, and built an underlying architecture that allowed real-time mixing of a number of external feeds, published in a customized template for each category of search terms. They were able to serve up the results with very little latency, given all the pre-processing they were doing. Overall, a nice piece of work. They also championed the selective use of editorial results in the header of popular searches (later copied by others), giving users really good payoff in the top half of the initial results screen displayed.

The growth in search-related ad revenue was pretty dramatic under their watch, but they knew that they had to test moving further out on the efficient frontier of “veneer design”, if AOL was ever to establish its own unique voice in search.

Their last major release (started long before their departures) was AOL FullView, which built on all their prior learnings/feedback on everything from consumer lukewarm acceptance of clustering, to the navigational issues of excessive reliance on horizontal tabs to toggle between result set types (text, image, video, etc.)..

Here is a sample of what one of the FullView templates looked like for an artist-related search (in this case, Dave Matthews):

AOL FullView Template for Artist-related Search

To me, it resembles more of what Ask.com has morphed over the last several months – delivering a composite page with lots of rich content payoff above the fold. Compare that to a search for the same artist search today on AOL. using the new “look like Google” philosophy.

AOL Search As It Exists Today for Same Artist

It is drab for a content-rich search like a music artist, and is a pretty forgettable experience. Note the heavy use Google branding at the top and bottom of the page. I understood the desire: If consumers felt that they were getting “Google results” from any search originated from the AOL network, maybe they would reduce their tendencies to use the Google site directly. This search traffic capture objective, combined with the newest Google deal (done as part of the Google investment in AOL in 2005) to allow AOL to start selling their own version of adwords to major advertisers, certainly has intellectual appeal at some level.

The challenge with this approach is fourfold:

1. We lost the impact of some of the tips and techniques we had developed as a “veneer” player that maximized the revenue we could get from high-value searches – maybe that will be offset by the private label adwords, but maybe not…

2. Over time, the average consumer is going to develop more of a tendency to just go to google.com directly – I certainly have begun doing that. The value of AOL as part of the value chain in the eyes of the consumer is getting pretty minimal.

3. It under-leverages AOL’s ability to deliver unique rich content assets from within the TWX network.

4. It is, by its nature, defensive in nature – how could you possibly grow search share materially this way?

I do think AOL has some great assets, and its video search is best-in-class, thanks to the Truveo acquisition. A great video search, however, will not have enough of a material financial impact to offset the gradual decline in core algorithmic search that this new Google-clone approach portends.

It’s time to revisit the decision before Google further erodes AOL’s position here. FullView may not have been the answer, but this current approach is definitely not a winning playbook.

Update: Saw the latest TWX earnings announcement this morning. AOL ad revenue up only 16% year-over-year (they did warn about this earlier in the quarter), but certainly better that some (YHOO). Under the assumption that advertising.com continued to do well (since it is less tied to AOL pageviews), I am not sure how the rest of ad/search revenue did (I am assuming lower than the 16% average). I had hoped the paid subscriber declines would slow on a percentage basis, and the 1.1MM sub loss in the quarter pains me – it creates an environment of more OIBDA/cost pressure going forward. Here’s hoping that a lot of them were converted to free AOL users – I think we’ll hear about that “save rate” on the earnings call, since it is a critical leading indicator of the new strategy.

Bubble officially over – time to freak out! I am burying Krugerrands in the backyard as we speak

While the Yahoo earnings announcement was nothing that wasn’t anticipated by the market, tonight’s after-hours earnings release by Google was a real shock to the system.  Note to self:  trees don’t grow to the sky.  It will be interesting to see the collateral damage in valuations…

Looking through things, certainly the topline growth at least met expectations, but now the cost base will come under increased scrutiny.  If I am Yahoo, I couldn’t have asked for a better gift, in terms of making the dialog now one of sectoral growth potential, instead of just being all about them.