Time Warner AOL (TWX): Ad Biz IPO? $10-$15 Billion


New TechCrunch Editor Erick Schonfeld wasted no time in calling a former colleague at Time Warner for some quick scoop: AOL is readying its newly re-orged ad business, Platform A, for an IPO.  This conflicts in a minor way with what we’re hearing–which is that Time Warner hasn’t yet made a final decision–but it’s certainly plausible.

Schonfeld then floats a valuation of $20 billion for Platform A, based on the 10x revenue that Google paid for DoubleClick.  Schonfeld characterised this as a “high-end” etimate, and we agree that it’s too optimistic.  As described last week, we value the division at about $10-$15 billion, with a bias toward the low end of that range.  The value will ultimately depend on the advertising company’s profit margin and EBITDA (we estimate a current annual ad-business run-rate of about $400 million, which should increase after the layoffs).  But there are a couple of important distinctions to make here.

First, at least based on its operating margins before it went private, DoubleClick was an extremely profitable business (40%-50% EBITDA margin), which even a far leaner, post-layoff AOL will have trouble emulating. 

Second, “Platform A” will not include only AOL’s third-party network business (primarily Advertising.com) but AOL’s owned-and-operated media properties (Money, AIM, Email, etc.) and AOL Search.  These businesses have different margin structures–search is the most profitable, followed by media (at least after the cost cuts), followed by third-party networks. 

In AOL’s current business (see Q2 percentages below), the low-margin network business accounts for about a quarter of AOL’s ad revenue, but if AOL intends to grow this business rapidly, it will quickly account for more.  Thus, AOL’s ad margins (on gross revenue) are likely to continue to drop as the network business becomes a greater part of the whole.

per cent of Ad Revenue            Q207
AOL Sites (Display):                   40% 
AOL Sites (Paid Search):             25%
Partner Sites (Network):             25%

We believe that a fair revenue multiple for AOL’s advertising division would be about 5X-7X, comparable to where Yahoo! trades today, or $10-$14 billion–and probably toward the low end (AOL isn’t exactly knocking the cover off the revenue-growth ball).  Based on our estimate of the division’s post-layoff EBITDA, this would be the equivalent of about 20X-25X EBIDTA.