Information Processing

America Online is hooked up for growth

Investors are betting it will be a winner in digital media

Paul M. Eng with Evan I. Schwartz; Edward C. Baig
Business Week

June 21, 1993

The "on-line bug" bit Stephen M. Case in 1982. The consumer marketer for PepsiCo Inc. was amazed at the near-magical process of sharing news and data with other personal-computer owners, but he was frustrated by all the tinkering. If on-line services were easier to use, he figured, they could be a gigantic market. So, in 1985, he set out to start his own user-friendly, electronic community.

Today, America Online Inc. (AO) is a $ 26.6 million company that investors -- including Microsoft Corp. co-founder Paul G. Allen -- figure will grow far bigger as information networks become part of everyday life. Since its initial public offering in March, 1992, the Vienna (Va.) company's stock has nearly tripled, to 33. Rick J. Martin, a senior vice-president for Chicago Corp., says AO sales should hit $ 38 million in the fiscal year ending June 30 and $ 55 million next year. Allen currently has a 24.9% stake in the company, part of his plan to invest in companies that may benefit from a new burst of digital communications.

THE FORMULA

Case says AO is in the right place at the right time because of its strategic alliances with important partners (table). Indeed, the company's initial success came from a deal in 1985 with Commodore International Ltd., at the time the leading maker of home computers. AO, then called Quantum Computer Services, proposed an exclusive on-line service for owners of Commodore computers. That gave Commodore a way to differentiate itself from rivals, and Quantum gained access to thousands of Commodore's customers.

The formula worked. Within two years, Quantum's revenues were $ 9 million, and it was profitable. Similar deals followed with Tandy Corp. and Apple Computer Inc., boosting Quantum's subscriber base and forging important connections, says Case, now 34.

Such connections continue to pay off. At the Consumer Electronics Show in early June, Casio Inc. and Tandy introduced versions of their jointly developed "personal digital assistant" (PDA), called Zoomer, a notepad-size device that will offer fax, electronic mail, and other communications. Because of Tandy's links with AO, these capabilities were easily incorporated into Zoomer by using a specialized version of America Online software, says John J. McDonald, president of Casio. Apple's Newton PDA -- expected to be officially introduced in August -- may gain capabilities similar to Zoomer through a deal to use AO's software. "We want to establish a preemptive position in these new access devices and in some of these new conduits," said Case.

The potential for a mass market of information consumers is what caught Allen's attention. Since leaving Microsoft in 1983, he has funded startups that are developing multimedia products and interactive services. Allen bought America Online stock in the IPO and in April filed a letter of intent with the Securities & Exchange Commission indicating plans to acquire more. Case declines to comment on rumors that Allen wants a board seat. However, Case says AO is talking to some of Allen's companies to develop interactive, multimedia services.

AN EDGE?

An alliance with a billionaire investor with a multimedia vision would come in handy now. Prodigy Services Co., the 2-million subscriber IBM-Sears, Roebuck & Co. joint venture in on-line information, recently demonstrated an interactive service that could run on cable-TV systems. Prodigy claims that its nine-year investment of tens of millions of dollars in a vast computer network will give it an edge over AO in jumping into interactive TV. Case disagrees. Rather than building its own network, AO has used public networks such as Sprint's SprintNet or British Telecom's Tymnet. This, he says, will make it easier to shift to new media such as cable TV, a move that he says he is currently contemplating.

While interactive cable TV holds out the promise of a huge market by the end of the 1990s, there's still lots of potential among today's PC owners. An estimated 11 million PCs are equipped with a modem, but only a third use on-line services. So in the near term it's a simple contest between CompuServe Inc., a unit of H&R Block Inc. that has 1.3 million subscribers, Prodigy, AO -- with 285,000 subscribers -- and Genie Services, a unit of General Electric Co. that has 400,000 subscribers. The big story this year is more services and better software, including a shift to Microsoft's Windows. "At the end of the day, the difference between who's successful and who's not is going to be what kind of service they're offering to customers, how easy and fun it is to use, and how affordable it is." Just as it was when Case started logging on a decade ago.

THE POTENTIAL PAYOFF FROM SAVVY DEALS SPRINT - America Online members get lower rates for logging on over Sprint's Network. Sprint has warrants for 450,000 AO shares.

TANDY/CASIO - America Online gets the lead in offering on-line services to buyers of Zoomer, a forthcoming personal digital assistant.

APPLE COMPUTER - Apple will pay royalties to use AO software in a global network called AppleLink.

VARIOUS PUBLISHERS- specialized versions such as CNN Online and Chicago Online, a venture with the Chicago Tribune, give America Online a bigger market.

DATA: COMPANY REPORTS, BUSINESS WEEK

GRAPHIC: Photograph, CEO CASE, SEEKING A MASS MARKET

Copyright 1993 McGraw-Hill, Inc.