Patience is a virtue. At least where AOL Time Warner (AOL) is concerned.

The media and entertainment conglomerate, stung by a swarm of bad news buzzing out of its online operations, has drawn the interest of value-oriented investors as its stock has fallen 75% over the past year and a half.

But as AOL Time Warner's third-quarter earnings release approaches, these value-seekers say they're not expecting their long-term faith in the company to pay off anytime soon.

"A year or two from now, they'll have the AOL situation resolved," says John C. Thompson, portfolio manager at Thompson Plumb & Associates. "They'll have the earnings of the AOL unit improved based on cost cuts, and we think the rest of the company's strength will shine through.

"I don't know when that will be, but at some point that'll happen," Thompson continues. Thompson Plumb bought the bulk of its AOL shares in the second quarter of the year, when the stock traded as high as the low $20s before sliding into the low teens. It closed Tuesday at $13.50.

Scaling Back

Slated to release results for the Sept. 30 quarter after Wednesday's close, AOL Time Warner has spent the past year repeatedly scaling back the high expectations executives originally set in January 2000, a year before the merger of America Online and Time Warner was completed.

Consolidating
AOL at lower levels

Most recently, the company said in early September that advertising and commerce revenue for the AOL unit

will fall short of the company's prior guidance in April -- guidance that itself

was revised downward from the 2002 guidance that the conglomerate offered back in January.

As it stands, AOL Time Warner says its expects full-year revenue growth in the range of 5% to 8%, and full-year growth in earnings before interest, taxes, depreciation and amortization -- a common bottom-line yardstick for media companies -- at the low end of a 5% to 9% range.

For the AOL unit specifically, the company's revised 2002 forecast is for advertising and commerce revenues in the neighborhood of $1.6 billion to $1.7 billion, and AOL EBITDA in a range of $1.7 billion to $1.8 billion.

As for the third quarter, AOL expects year-over-year companywide revenue growth in the midsingle digits and an EBITDA percentage decline in the low-single digits. Analysts surveyed by Thomson Financial/First Call expect third-quarter revenue of $9.93 billion and cash earnings per share -- AOL Time Warner's favored statistic of pretax income excluding noncash amortization but including cash paid for taxes -- of 18 cents. The corresponding pro forma figures for the third quarter of 2001 are revenue of $9.43 billion and cash EPS of 24 cents.

Grime and Punishment

As Thompson, the portfolio manager, surveys the situation, Wall Street is punishing AOL Time Warner disproportionately for problems at the online unit -- in particular, questions about past revenue accounting at AOL and the company's declining advertising and commerce revenue.

"It's really important to analyze the relevance of the accounting concerns -- not from a right/wrong judicial standpoint, but from a materiality standpoint," he says. "I agree with

SEC

regulators for pursuing the matters they're pursuing. I just disagree with the market's interpretation of its value to the stock."

Furthermore, advertising revenue companywide seems to be improving, and AOL has somewhat less exposure to the advertising business than other media conglomerates, says Thompson. As for online advertising, he says, "

Yahoo!

(YHOO)

has been improving lately, and we don't see why AOL's wouldn't bottom out at some point and trend higher from there."

AOL is only 20% of the company's business, says Thompson, "but AOL gets 95% of the press." At $13 per share, AOL Time Warner is "a real bargain," says Thompson, "and I think it's worth mid-$20s."

Few Fans

Meanwhile, Bill Fries, portfolio manager of the

(TVAFX) - Get Report

Thornburg Value fund, acknowledges that fans of AOL Time Warner are relatively few. "It's become a hate stock among portfolio managers," he says.

Like Thompson, Fries terms his investment in AOL Time Warner a valuation call, though he grants that at an average price of $21 per share, he got into the stock too early.

"But I think the basic franchises that are embodied in the Time Warner businesses are as solid as ever," Fries says. "The economy continues to improve slowly, and advertising revenue for the industry and for the Time Warner businesses continues to be healthy."

In addition, says Fries, the online unit has begun to make long-overdue improvements in the user experience. And if the company is able to maintain its online subscriber base, advertisers will eventually return. AOL does risk losing subscribers as they make the transition to broadband Internet connections, says Fries, but he sees at least two ways AOL is able to defend itself in this area: the loyalty of multiple AOL users, particularly youngsters, in households, and AOL's recently announced carriage agreement with

Comcast

(CMCSK)

.

On Wednesday's earnings call, Fries says he'll be paying close attention to AOL Time Warner's companywide subscriber trends, as well as whether the company has developed a sensitivity to spending money in areas that aren't productive.

Fries says he's hopeful that he can make a profit on the stock within a year. "But it certainly has been painful," he says.