Business: Time Warner Spins off AOL

Mourning the death of one of its own is perhaps the entertainment industry's most time-honored traditions. In one cherished tribal ritual, Variety and The Hollywood Reporter—those old-school bibles of trade news and gossip—reap a financial windfall as movie studios, TV networks and top showbiz suits rush to place full-page memorials to the departed. There were no such memorials last week, however, as one of entertainment industry's most influential organizing principles was laid quietly to rest. After an agonizing and prolonged decline, the long-suffering Vertically Integrated Media Conglomerate (1989-2009) passed away.

It's an idea that was born when Time Inc. merged with Warner Communications Corp. in 1989, to form Time Warner. It endured as the industry's prevailing business model for nearly a generation, spawning such clones and mongrel breeds as Viacom, News Corp and GE's NBC Universal. The vertically integrated media conglomerate was—or was supposed to be—many amazing things, giving a handful of companies unprecedented power over the media—and the chance to earn outsized profits in the process. But its defining characteristic was its sheer size, earning it a fitting nickname: Big Media.

But the theory behind the strategy relied on more than size. Housed under one roof, a single Big Media entity would control the means of producing and distributing media content, from magazine and books to television shows and movies, from cartoons and theme parks to sports franchises and the cable networks that carry the games to recorded music labels and music publishers. In Time Warner’s prototype of the model, it would control everything from the first letter of a Time magazine story or Warner Books novel to the last alphabet of the credits at the end of a Warner Brothers flick or HBO series based on the magazine story or the book division's fiction. For a time, Time Warner boasted a wide array of media assets: the World Championship Wrestling league and the Atlanta Braves; CNN and Six Flags theme parks; the sitcom "Friends" and hourlong drama "ER"; the BET cable channel and InStyle magazine.

No more. On April 29, in a filing with the Securities and Exchange Commission, Time Warner CEO Jeff Bewkes officially announced the death of Big Media. Having sliced off Warner Music Group a few years ago and Time Warner Cable this year, Bewkes notified the SEC that he intended to soon spin off AOL—its greatest expansionary effort to achieve media greatness, a move that proved lethal. And now, even the corporate namesake, the magazine company Time Inc., has a funereal atmosphere about it.

The entertainment industry is only the latest in which the idea of vertical integration failed to live up to its promise. Consider the experiences of the auto industry. Henry Ford was a huge believer in the concept. His River Rouge plant, which once built the Model A, had its own electricity plant and its own mill for turning iron ore into steel; the vast majority of the components that went into its cars were made on-site. Over time, however, this soup-to-nuts strategy came to be seen as inefficient: companies could obtain better prices and more flexibility by dealing with a competing band of outside suppliers. Over time, once-vertically-integrated companies like Ford and General Motors have spun off their internal supply division to form standalone companies, in an attempt to try to create the flexible, leaner supply chains created by Honda and Toyota.

But the idea still held appeal when Warner Communications' CEO Steve Ross met Time Inc.'s Richard Munro in the late 1980s and first talked about combining their empires. Their resulting corporate combination would herald an era of business self-sufficiency, maximum efficiency and communications advancements of epic proportion—in theory, that is. Ross, who died in 1992, left it to Gerald Levin to implement the vision.

That deal set off a mating frenzy among media tycoons. There was Sumner Redstone's Viacom— family of media extremities that at one time or another included MTV, Paramount, Blockbuster, CBS broadcast, Infinity and Westinghouse radio chains. The Viacom family of assets began crumbling years ago. Meanwhile, the ravenous Rupert Murdoch put together a global empire that ranged from the Fox empire (studio, cable news and broadcast TV) to satellite broadcasting and MySpace. GE spawned an industrial variant, having acquired first NBC and later Universal, that was copied by Matsushita, which wooed MCA Universal in the 1990s, and soon abandoned the marriage. Edgar Bronfman Jr.'s Seagram conceived of an entertainment empire, and combined PolyGram, MCA Universal and USA Networks, which staggered into the arms of the French water company, Vivendi, which in turn got drenched in Hollywood before GE snared its showbiz operations.

So what was Big Media's legacy? What did it contribute, positive and negative, to humankind? It's bad form, of course, to speak ill of the departed, but the model has left mostly a negative mark on the media landscape and corporate America. Consider this list of dubious contributions:

MOGULDOM: More than any other industry, Big Media established the prototype of the modern mogul, perhaps corporate America's most damaging form of management and leadership in history. Two prime examples: Sumner Redstone, who bashes his daughter in public, and Gerald Levin, the overreaching visionary behind the AOL transaction. The idea of the celebrity business executive—outsize personalities with jet-setting lifestyles, fantastic salaries, a sense of corporate omnipotence and entitlement—mushroomed across all sorts of industries in the last two decades, but in many ways its genesis was in Hollywood.

SYNERGY: The idea that combining one asset with an identical, similar or dissimilar asset would equal three proved to be the most overhyped concept widely embraced by American business.

DIMINISHED VOICES: With Big Media controlling the medium (cable television, broadcast networks, radio chains and satellite television) and the message (TV shows, movies and programming networks), the independent producer became all but extinct.

EBITDA: This acronym—it stands for Earnings Before Interest, Taxes, Depreciation and Amortization—became a key metric in the industry and a justification for awarding sky-high valuations to companies that, after these costs were accounted for, had very little to show in the way of profits. The metric was largely sold to Wall Street by the media industry (and specifically the financial-media wizard John Malone), and it may one day be looked upon as the precursor to the slick financial exotica that almost crashed the global economy.

The list of benefits, while grievously short, had a huge impact on society:

WIRED BROADBAND: As one of the largest and perhaps the most innovative cable operator in the early to mid-1990s, Time Warner was a powerful leader in the development of the hybrid pipeline of coaxial cable-fiber optics that ultimately morphed into cable broadband. Time Warner's former CEO Gerald Levin famously referred to it as the "information superhighway," and he commissioned a groundbreaking demonstration version of it in Orlando, Fla., in the mid-1990s.

DIGITAL VIDEO DISCS (DVD): The home-entertainment format ushered in the greatest gold rush in the annals of show-business history. Consumer-electronic giants controlled much of the digital-disc technology. But Time Warner, with strategic partner Toshiba, ended up pushing breakthrough innovations and a new approach to marketing that transformed industry economics. Warren Leiberfarb, Warner Brothers' former home-entertainment chief, is widely cited as the "Father of the DVD," having cajoled, pushed and bludgeoned three industries—Hollywood, retailers and electronics makers—to embrace a single DVD format and shift to consumer sales, rather than rentals, which had been the model for videocassettes. The financial results were breathtaking. From the introduction of DVD in 1997 to 2008, Hollywood studios reaped $104 billion—mostly in sales, but also rentals—of DVDs in the U.S. alone, according to Screen Digest Ltd., a London-based global media-information company. U.S. consumers spent a total of about $158 billion on purchases and rentals. During the same 12 years, studios collected another $103 billion in sales and rental income from the rest of the world, while consumers spent a total of about $220 billion, according to Screen Digest. With the largest library of films and TV shows and as results of royalty payments, Time Warner garnered enormous sums. Alas, it was all squandered in the 2000 AOL deal, which all but killed the company.

After its various spinoffs, Time Warner will be left as a more sharply focused, purebred content company. It will be comprised of filmed entertainment and news brands, including HBO, TNT, Warner Bros. Studios and CNN. Basically, it will represent a corporate reincarnation of its original form, back in the days before Time and Warner became intimate. Arguably, Time Warner's future looks brighter after Bewkes's moves, but shareholders have paid the price: its stock has languished for nearly a decade since investors soured on the AOL deal. R.I.P., Time Warner.

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