and other Internet companies may be stumbling, but it will be tough for them to trip up
AOL, the nation's largest online service, has built much of its growth in recent years on advertising and e-commerce deals it has cut with companies that want access to the people who use its various online properties and services. But as some of the Internet companies working with AOL raise financial red flags, AOL's chief financial officer and people outside the company say they think the online giant is well-protected against customers who might be unable to pay off.
The problems confronting AOL's relationship with drkoop.com in particular were confirmed after the market closed Tuesday, when drkoop.com said that it would no longer make cash payments to AOL to cover a multiyear agreement to be featured on the online service. Instead, as part of a modified agreement, AOL will be taking a 10% stake in drkoop.com.
"It's been an issue we've been focused on for a number of years," says AOL CFO Mike Kelly. "This isn't a new concept for us."
"I'm fairly confident that AOL has always taken into consideration the possibility that some aspects of the deals they sign will not be fully implemented," adds Derek Brown, Internet research analyst with
Last month, in a
Securities and Exchange Commission
filing, drkoop.com said that if it didn't receive additional financing in 2000, it might not be able to make payments due AOL and Disney's
Internet operation. As of Dec. 31, the company said it had $35.7 million of cash on hand, and would have to pay $38 million in 2000 to AOL and GO.com -- $24.3 million of that to AOL -- to cover deals in which drkoop.com was featured on both portals. When originally announced last summer, the drkoop.com deal was valued at $89 million for AOL over four years.
"They realize that not every deal is going to be carried out through the end of the terms," says Brown, who has no rating on AOL, with which his firm has no investment banking relationship. "Coupled with that, AOL remains the premier marketing platform. Because of that, there's a fairly long line of potential customers knocking on the company's door."
It's unclear what other companies, if any, might encounter difficulty making payments to AOL, or whether other multiyear deals might be worth less to AOL than investors or the company have thought they would.
Last month, for example, auditors at
issued a "going concern" letter, indicating that it wasn't clear the company had enough money to finance operations over the coming year. The firm, which has deals with AOL, AOL's
subsidiary and other portals, said last month it had to pay at least $10.9 million over the year for various marketing agreements. But the company said it was receiving $21 million in cash from
after their deal to acquire CDNow was called off, and CDNow had an additional $10 million it could borrow under a loan commitment. CDNow's agreements with AOL expire by the end of August, and CDNow has said it has enough money to last until mid-September.
In addition, it's possible that other multiyear distribution deals may not make as much money for AOL as envisioned. In February 1999, for example, the
credit card division of
announced a five-year deal with AOL valued at "up to $500 million." Whether AOL will get the full value of that is unclear; in a recent financial statement, First USA -- which markets elsewhere on the Net in addition to AOL -- said it experienced a "rapid earnings decline" in the second half of 1999, partly because of "a rise in account attrition." Neither AOL nor Bank One would comment on the status of the five-year deal.
Kelly says that AOL tries to protect itself against payment problems when it structures contracts, taking into account the potential partner's history, its probability for success and the overall financial condition of the firm. "For those that we're worried about," he says, "we always want
to get cash ahead of what the next quarter's revenue
from that company is."
Every quarter, says Kelly, AOL goes through its backlog of deals to reassess the remaining revenue it expects to garner from its different partners. "We selectively prune out anyone in backlog we have concerns about."
Over the two years that Kelly has been CFO, he says, the company has not significantly changed the percent of revenue backlog that it has written off in a quarter, though it does figure that amount into the revenue backlog figure it announces each quarter.
As of March 31, the company said it had a $2.7 billion backlog of advertising and commerce revenue, up from $2.4 billion as of Dec. 31. Revenue from advertising, commerce and other sources amounted to $557 million in the third fiscal quarter ended March 31, up 103% from the comparable figure of $275 million one year earlier.