AOL Time Warner's ( AOL) online advertising business has indisputably fallen into a hole. But the ad industry may be more optimistic than buy-siders about how early it can dig itself out.

The difference of opinion is indicative of a larger issue about AOL Time Warner over which investors have to puzzle: When will the advertising market improve again? And when will the company's stock price, bouncing off its low of $23.60, make a corresponding improvement?

Shares in AOL Time Warner, down more than 50% from their 52-week high -- and down 63% from when the America Online-Time Warner merger was announced two years ago -- found the love Friday, rising $1.41, or 5.5%, to trade at $26.86.

Steepness

Exhibit A in the problems that AOL Time Warner faces is the steep decline in advertising and commerce revenue at its AOL division for the fourth quarter of 2001. No longer does the company enjoy the benefits of multiyear marketing deals that dot-coms raced to sign to prove their respectability and boost their stock price.

According to the numbers AOL Time Warner released on Jan. 30, AOL's advertising and commerce revenue for the quarter ended Dec. 31 amounted to $637 million, down 7% from the pro forma figures for the fourth quarter of 2000. (The 2001 number doesn't include the company's AOL Europe operations, whose co-owner, Bertelsmann, AOL Time Warner has agreed to buy out.)

But as far as the business that AOL can drum up outside company walls, the numbers are a lot worse. According to company figures, if one subtracts out the intracompany revenue that AOL posted -- sales it recorded for running ads for AOL Time Warner properties, such as the Harry Potter and Lord of the Rings movies -- AOL recorded only $499 million in advertising and commerce sales, down 27% from the $686 million it recorded one year earlier.

Though that slide isn't anything to cheer about, it could be worse. For example, Yahoo!'s ( YHOO) revenue fell 39% year-over-year in the fourth quarter of 2001. (Not all of that revenue is related to advertising and commerce, but Yahoo! doesn't supply apples-to-apples comparisons for marketing revenue.)

Boosters

And, in fact, conversations with agencies that place advertising online indicate that they're optimistic that AOL can turn things around.

"Looking down the line, I'm pretty bullish on AOL," says Rishad Tobaccowala, executive vice president of Starcom MediaVest Group, the media planning and buying unit of advertising conglomerate Bcom3.

AOL Time Warner, he says, is roughly halfway through a year of transition, going from a dominant online company in a seller's market to one that's learning to be a cross-media-driven company in a buyer's market.

This is a difficult transition for any company, but AOL Time Warner has several things going for it, Tobaccowala says. The company has, he says, "the best conglomeration of offline and online properties of any company," compared to Yahoo! and Microsoft's ( MSFT) MSN.

Though America Online's success has made it arrogant in the past, the company is developing a much more sensitive approach to selling, he says, and has become more "market-driven." AOL knows, he says, that it has to pull off "big, successful ideas" for coordinating offline and online advertising. "They're starting to put people in place to do that," he says.

That's a perception shared by other agency people. AOL's salespeople are "absolutely" more responsive than they've been in the past, says Mark Grimes, CEO of the eyescream interactive agency in Portland, Ore.

Another plus for AOL, says Tobaccowala, is that the company may be able to enable advertising units that are more creative than what they currently permit. And a final advantage is the bond the company has created with young Internet users via its Instant Messenger service.

Crossing Over

Crucial to AOL's success will be the development, says Tobaccowala, of case studies that demonstrate effective implementations of cross-media advertising. Starcom MediaVest, he says, has started working with some of its advertiser clients and AOL to get some of these case studies started, and AOL is no doubt working with other agencies on similar projects. By the end of the year, AOL should have some case studies under its belt, he says.

And other issues remain. Dave Williams, media director of Atlanta-based digital marketing agency 360i, says it's relatively hard for his agency to track advertising it places on AOL; most of his company's business, he says, goes to Yahoo!. ¿

But the outlook for AOL and other AOL Time Warner media properties isn't quite so sunny. ¿

One buy-sider familiar with AOL Time Warner, but with no holdings in the company, is skeptical that the company will be able to replace the revenue it got from cash-vacuuming deals it arranged with dot-coms. ¿

Too Easy?

Others take the long view on an advertising recovery, both positive and negative.

Paul Anthony, investment analyst with Sheets Smith & Associates, a holder of AOL Time Warner stock, says he doesn't know how strong advertising revenue growth will be on the Internet, and his biggest concern about America Online is whether it will develop a market share among broadband customers comparable to the market share it enjoys among dial-up users.

Now resembling a traditional media company, says Anthony, AOL Time Warner will indeed recover, though the recovery might take "a couple years." Says Anthony, "When they do, the stock's going to bounce. And I want to be in there ahead of the game."

Another AOL Time Warner shareholder, who asked not to be identified, says the basic problem facing the stock is that AOL Time Warner is too big to grow quickly in the current weak-economy media environment. Growth could be "huge" for the company, says the buy-sider, but one doesn't know how much lower the company's stock can go, and how long it will take to get growing again.

That's a question mark for all of AOL Time Warner's properties, including the online service. "It's not going to be easy," says Michael Koziol, CEO of Atlanta's Ant Farm Interactive interactive marketing firm, "because it was too easy last time."

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