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Analysts Upbeat on AOL Ahead of 9.0 Launch

As America Online gears up for the release of its latest client, "AOL 9.0 Optimized" later this summer, analysts are growing increasingly positive about the ISP's dual strategy of building broadband subscribers while managing the erosion of its dial-up base as online audiences switch to high-speed services.

"AOL has made meaningful progress towards re-establishing its reputation for a cutting edge service offering, including creating and improving the first premium broadband service offering," said Deutsche Bank in a research note this week after a briefing about 9.0.

"Overall, we were encouraged that AOL's new management team has made such progress in a short period of time," the note said.

"While it remains to be seen if consumers will embrace the offering, we believe AOL 9.0 Optimized represents a positive for the division as it aggressively addresses its most pressing issue, churn, which shrunk the subscriber base by 289,000 in the first quarter, and an estimated 350,000 to 500,000 for each of the next three quarters."

During its year-end analyst briefing in December of 2002, AOL executives pledged to build a unique, broadband-focused service filled with original content. The latest version of 9.0, which AOL executives call the most extensive upgrade in the company's history, apparently delivers on that promise.

The 9.0 client "does represent a clarification of strategy around its broadband strategy," said Jed Kolko, principal analyst with Forrester Research.

"A lot of criticism of AOL in the past couple of years was because it wasn't clear whether AOL had a broadband strategy and what it would be," he said. "AOL 9.0 has features that are clearly designed with a broadband user in mind, which is a clear leap from previous versions of AOL."

The new features include more sophisticated parental controls, stronger anti-spam filters, and improved compression and caching techniques that help "optimize" users' surfing speeds by about 30 percent, according to AOL executives who briefed internetnews.com about the 9.0 client.

Among the new parental control features in the 9.0 release is "AOL Cash Card," a Visa-branded credit card for teenagers that includes pre-set spending limits.

AOL said it developed the AOL Cash Card program in partnership with Visa and their popular "Visa Buxx" card. Like the Buxx card, the AOL Visa Buxx Card can be used anywhere Visa is accepted -- both online and offline, AOL said.

Parental Controls in the program let parents set spending limits, track their teen's spending, load additional funds onto the account every month or set up a recurring load schedule to maintain the card as an "allowance." The 9.0 version also provides real-time updates on purchases with the cards, along with transaction histories.

Other new extras, which could also help reduce customer churn, include: an additional 20 MB of storage capacity for subscribers; a new publishing/blogging tool called AOL Journal; greater personalization and customization tools; and even more exclusive content culled from the company's corporate cousins in the Time family of media properties.

New layers of personalization use expanded modules that AOL developers have built into the client, which pipe more content to an even more integrated welcome screen that acts as a "dashboard" where users can check on various communications -- for example e-mail and IM, without having to leave the page.

Forrester's Kolko said improved e-mail and messaging functions in 9.0 could give AOL's narrowband customers who are considering upgrading to broadband a way to maintain a relationship with AOL if they switch to another service provider.

Also, in the past, AOL advertised and marketed a broadband access offering that competed with broadband services provided by cable companies and telcos. "What's different now," Kolko added, "is that the company is now more focused on AOL as an add-on service," and positioning as a potential partner with access providers.

Jessica Reif Cohen, Merrill Lynch's media analyst, has also turned more positive in her outlook for AOL as part of the AOL Time Warner media giant. On Thursday, she upgraded her rating on AOL Time Warner to "buy" from the more negative "neutral" rating she held on the company for most of last year.

"It is clear to us that AOL will not enjoy the same first-mover dominance in the broadband world that it had in the narrowband world. However, we believe that even without that dominant share and influence, AOL can be an important participant in the secularly driven, mass-market broadband adoption; albeit at far less attractive per subscriber economics than narrowband," Cohen wrote in a 46-page research note published Thursday.

"In our view, management has made impressive strides on a number of levels and has accelerated the pace at which it has addressed several key issues." Four months earlier she published a report that questioned whether AOL should be spun from the corporate fold of AOL Time Warner.

AOL, she continued is "strengthening the balance sheet, 'right-sizing' AOL's cost structure and renewing focus on advertising, particularly high growth sponsored-search."

Despite Merrill's expectation that AOL will continue losing subscribers as the online population migrates to high-speed connections, Cohen gave the senior management high marks for managing the migration through cost containment.

Merrill expects a reduction of roughly two million full-paying ($23.90 a month) subscribers in each of the next 5 years for AOL, but that it will continue to hold its 40-50 percent share of a shrinking dial-up market.

It also said it expects AOL to put greater emphasis on its "bring your own access" (BYOA), $14.95 a month service compared to the more pricey broadband access package which averages out to $55 a month -- but that it will continue to make strides in broadband growth given the fullness of the AOL 9.0 client and exclusive features.

Yet, during the third quarter alone, AOL is expected to lose 475,000 more subscribers. Merrill Lynch estimates that AOL will see a decrease of 1.1 million U.S. AOL-branded dial-up subscribers (as opposed to subscribers to its CompuServe offering) during 2003, and an increase of 1.2 million broadband subscribers as well.

"Although we have greater confidence in the AOL division, our constructive view is a function of cost containment rather than revenue enhancement," Cohen wrote.

"We believe that under Don Logan, management can successfully reduce the cost structure to adjust to the changing complexion/economic contribution of AOL's subscriber base."

Merrill estimates that by 2007, AOL's dial-up base will have contracted by 10 million, which will only be modestly offset by gains in its broadband subscriber side.

How AOL plans to manage its way through the continued deterioration in its dial-up base, including the erosion of profit margins it enjoys with narrowband customers compared to broadband customers, is the enduring question for the ISP.

But for now, analysts are giving AOL credit for a significantly improved 9.0 client, and high marks for how it's managed its changes so far.