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Unconventional { July 18 2002 } Original Source Link: (May no longer be active)
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Unconventional Transactions Boosted Sales
Amid Big Merger, Company Resisted Dot-Com Collapse
By Alec Klein
Washington Post Staff Writer
Thursday, July 18, 2002; Page A01
First of two articles
In October 2000, a critical question confronted America Online Inc. as it sought to clinch the largest merger in U.S. history: Was it feeling the effects of an industry-wide slowdown in advertising?
AOL's president at the time, Robert W. Pittman, offered a resounding answer: "I don't see it, and I don't buy it," he told Wall Street stock analysts and the media.
Other AOL officials were less optimistic. While overall revenue from online ads continued to grow rapidly, internal company projections raised caution about one sector: dot-coms. Failures were accelerating among those Internet start-ups, which represented a significant amount of the company's ad business.
About two weeks before Pittman's declaration on Oct. 18, he and other executives were told in a meeting at Dulles headquarters that AOL faced the risk of losing more than $140 million in ad revenue the following year.
That would equal only about 5 percent of AOL's proceeds from advertising and commerce. AOL projected that most dot-com clients would still be able to pay their bills. But the internal warning came when investors were highly alert to any weakness in online advertising. Just a week before Pittman's public statements, for example, shares of AOL's key competitor, Yahoo Inc., plunged 21 percent after the company reported strong ad growth but acknowledged that the pace could not be sustained. A day before Pittman spoke, AOL shares dropped 17 percent on what analysts described as similar worries.
In such an atmosphere, and with its takeover of Time Warner Inc. imminent, AOL sought to maintain its breakneck growth in advertising and commerce revenue. Besides selling ads on its online service for cash, AOL boosted revenue through a series of unconventional deals from 2000 to 2002, before and after the merger, according to a Washington Post review of hundreds of pages of confidential AOL documents and interviews with current and former company officials and their business partners.
AOL converted legal disputes into ad deals. It negotiated a shift in revenue from one division to another, bolstering its online business. It sold ads on behalf of online auction giant eBay Inc., booking the sale of eBay's ads as AOL's own revenue. AOL bartered ads for computer equipment in a deal with Sun Microsystems Inc. AOL counted stock rights as ad and commerce revenue in a deal with a Las Vegas firm called PurchasePro.com Inc.
AOL also found ways to turn the dot-com collapse to its advantage, renegotiating long-term ad contracts it risked losing into short-term gains that boosted its quarterly revenue.
One AOL executive raised questions internally about some of the deals. Robert O'Connor, then vice president of finance for AOL's advertising division, said he outlined his concerns in a series of meetings last year and this year with Pittman, now in charge of the online division; David M. Colburn, who oversees its business affairs; J. Michael Kelly, chief operating officer of the online division; and other high-ranking company executives.
"Clearly, a lot of what they were living on was revenue that was not of the highest quality," said O'Connor, who resigned in March. "I don't know if they're still in denial, but there were some pretty big business issues they were not willing to face. For nine months, I tried to get these guys out of denial. I tried to take the perfume off the pig."
AOL said the deals were handled properly and the company "maintained a strict and effective system of internal controls." The company said the total revenue represented by all the deals reviewed by The Post was "truly microscopic" -- less than 2 percent of AOL's overall revenue, including subscriber fees -- and therefore immaterial to the company's business.
"The accounting for all of these transactions is appropriate and in accordance with generally accepted accounting principles," wrote Thomas D. Yannucci, a lawyer hired by AOL to respond to The Post's questions. "The disclosures in AOL's financial statements are appropriate and accurate. AOL's statements provide our investors with all appropriate material information about our business."
Further, he wrote, the company's outside auditor, Ernst & Young LLP, found the deals to be in accordance with generally accepted accounting principles. The auditor declined to discuss its review, citing the confidentiality of client matters, but H. Stephen Hurst, an Ernst partner, released a statement at AOL's request saying the firm stands by its original view that the accounting and disclosures were appropriate.
AOL officials declined to be interviewed on the record about the transactions.
The Post reviewed a number of AOL's advertising and commerce deals, focusing on several transactions that added up to $270 million. That represented a small portion of AOL's nearly $5 billion in ad and commerce revenue during the period reviewed, July 2000 through March 2002.
Without the unconventional deals, AOL would have fallen short of analysts' estimates of the company's growth in ad revenue (which is reported in a category that also includes revenue from commerce) in three quarters in 2000 and 2001.
Collectively, the deals helped AOL beat Wall Street analysts' expectations for earnings per share -- a crucial profit yardstick for investors -- by a penny per share in two quarters in 2000. At the time, investors punished companies whose earnings were off by even a cent. On the day AOL announced its earnings that October, Apple Computer Inc. said it missed Wall Street's reduced projections for its earnings by one cent, sending its shares down 6 percent a day later.
Revenue Targets
The driving force behind these deals was the powerful business affairs division within AOL, a hard-charging unit of 100 or so deal makers, including many lawyers, who helped negotiate and finalize most of AOL's largest transactions. Inside AOL, the unit was known simply as "BA" and some of its deals were called "BA specials," an allusion to the aggressive ways the division generated revenue.
Former and current AOL employees said company executives were partly motivated to meet revenue targets by the pending $112 billion all-stock acquisition of Time Warner. Even though this merger deal contained no dissolution clause that would be triggered if either partner's stock fell too far, company sources said that some AOL officials feared that if AOL stumbled, Time Warner shareholders could begin clamoring to end it anyway. Time Warner under some circumstances could have backed out of the deal by paying a breakup fee of about $4.4 billion.
"The bubble had clearly burst, but senior management was under enormous pressure to hit the [financial] numbers and close the Time Warner transaction, which would diversify the revenue base and lower the risk profile of the company," said James Patti, a senior manager in AOL's business affairs division at the time.
Patti said he told senior executives he was uncomfortable with some of the transactions pushed by his unit. Shortly after receiving a merit promotion, Patti was laid off in 2001, a move he said he believes was directly related to his refusal to participate.
"I had been asked to paper many of these questionable deals and was unwilling to cooperate, making my concerns known to management," Patti said. "The layoff came exactly one week later. Ultimately, I was happy to leave the company with my integrity and professional ethics intact."
AOL declined to comment on the departures of Patti and O'Connor. It disputes their characterization that it resorted to questionable deals to maintain strong ad revenue growth in the fall of 2000. In its written responses to The Post, AOL said its ad and commerce growth rate was healthy by any measure -- 80 percent higher during the quarter that ended Sept. 30 than a year earlier. It added that failing dot-coms accounted for only a fraction of its overall business and that other, more stable companies were more than making up that revenue.
The company said that Pittman and other executives were accurate in their public statements. During AOL's Oct. 18, 2000, conference call with analysts, Stephen M. Case, then AOL's chairman and chief executive, said, "AOL's advertising growth is right on target." He added: "The current advertising environment benefits us because it will drive a flight to quality." And Kelly, then chief financial officer, called AOL's ad and commerce revenue growth "very healthy" and emphasized, "I can't say that strongly enough."
Some experts who reviewed the deals examined by The Post questioned whether some of the deals were accounted for properly. They also questioned whether investors could have adequately understood AOL's advertising business from the company's statements and other information AOL made available to the public.
"That's the whole purpose of financial statements -- for investors and others to understand the business," said James Cox, a Duke University law professor who is a member of the legal advisory board of the New York Stock Exchange and the National Association of Securities Dealers.
Yannucci, AOL's outside attorney, wrote June 21 that no expert could render a proper judgment on the company's accounting without "a full understanding of the agreements and transactions at issue, as well as their context as part of AOL's overall business."
In a separate letter yesterday, Yannucci added: "We believe such arm-chair speculation about AOL's accounting and financial disclosures by less than fully-informed 'experts,' directly contradicted by the fully-informed views of our outside auditors (Ernst & Young), is not only grossly unfair and unwarranted in light of the exhaustive facts we have presented to you, but is also reckless in the current highly-charged environment."
When the company eventually identified a downward trend in its advertising business, it properly disclosed it in the latter part of 2001, Yannucci wrote.
Shares of AOL Time Warner Inc., as the company was renamed after the merger, have been in retreat ever since, closing at $13.11 yesterday, down 72 percent since the deal was consummated.
Wall Street has begun to question whether the AOL-Time Warner marriage ever made sense -- for Time Warner -- in light of the online unit's weakness. The company still possesses an array of powerful assets, such as HBO, Warner Bros. and Time magazine (a competitor of Newsweek, which is owned by The Washington Post Co.). But now, company officials are struggling to turn around the online unit.
Birth of a Giant
The evolution of AOL from a small online service to a major advertising force began in late 1996.
Facing stiff price competition from other Internet service providers, AOL abandoned the hourly fee that it had been charging customers, replacing it with a flat-rate monthly charge. Users began to spend more time online, taxing AOL's network and eating into its profit margin. AOL set its sights on getting companies to buy ads to promote themselves on its vast online network.
Ad revenue was intended to keep the company growing at a fast clip after the growth of its basic business -- monthly subscriber fees -- began to ebb.
"Advertising was supposed to be the big thing to defray concerns about AOL plateauing," said Michael Bromley, a business development director for AOL consumer devices until he was laid off last year. "On Wall Street, it's not what you make, it's what you're perceived as."
By the fall of 2000, ad and commerce revenue had rocketed from virtually nothing to more than $2 billion a year -- about a third of the company's overall revenue. A prime reason was the emergence of dot-coms initially rich with venture capital and eager to promote themselves.
But the capital now was drying up and the Nasdaq Stock Market was in a free fall. Questions about ad revenue began to emerge on Wall Street just as AOL sought to complete its Time Warner merger.
Several analysts at the time took AOL's reports of a big jump in ad and commerce revenue in the Sept. 30 quarter as a sign of the company's strength in the face of a slowing ad market, and they encouraged investors to buy AOL shares as the merger neared.
In a research note a day after AOL's Oct. 18 conference call, analyst Youssef H. Squali, then of ING Barings LLC, reiterated his "strong buy" rating on AOL's stock. "Solid advertising revenues attest to AOL's hybrid subscription/advertising model, which so far has provided the company with more protection from the dotcom meltdown than other large new media companies," he wrote.
Mary Meeker, an analyst at Morgan Stanley Dean Witter & Co., was also encouraged by AOL's ad and commerce revenue results. "This has developed quickly into AOL's fastest growing revenue stream and a key element of growth going forward," she wrote in a research note a day after AOL released its numbers.
And analyst Christopher Dixon, then of PaineWebber Inc., wrote that AOL's strong ad and commerce revenue "should alleviate some concerns about the health of the Internet advertising environment."
What the analysts failed to note -- or didn't know -- was that many dot-coms no longer had the cash to pay for all the ads they had agreed to buy in their premium-priced long-term contracts with AOL.
At the company's Dulles offices, AOL was already holding weekly emergency meetings to discuss the status of failing dot-com ad deals, company sources said. AOL closely monitored the status of these ad deals, large and small, according to several company documents obtained by The Post.
The AOL documents gave a detailed report, week by week, of the health of the dot-coms, how much they owed AOL, what AOL was doing to get its money, how the dot-coms were responding and how much money AOL reckoned it could lose if the dot-coms didn't pay their bills.
One firm, Living.com, an online furniture business, owed AOL $1.2 million. "They are out of $, wanted to look at new deal but then backed out completely," AOL stated in a confidential summary of dozens of deal restructurings, dated Aug. 18.
AOL's conclusion: "Not solvable."
The company was right: Living.com shut down that month.
In another internal document, AOL stated that BigEdge.com, an online sporting goods retailer, "Demanded restructuring conversation with 3 options (including terminating deal outright)."
AOL figured its upcoming payment of $500,000 "may be in jeopardy."
BigEdge.com was a part of MVP.com, another struggling firm whose domain name, trademark and certain assets were sold off to SportsLine.com in January 2001.
There were dozens of other shaky deals of various sizes. They added up. AOL faced the risk of losing $23.2 million in revenue in the quarter ended Sept. 30, 2000, according to an internal company memo summarizing the situation.
Early Warnings
In September, other internal company documents obtained by The Post said that AOL was "at risk" to lose more than $108 million in ad revenue in fiscal 2001, from July 2000 to June 2001, with most of that jeopardized revenue coming from dot-coms. In early October, O'Connor, the AOL advertising executive, said he briefed Pittman and other company executives about the weakness of AOL's dot-com advertisers two weeks before Pittman's October 2000 comments. O'Connor said he told them that the company risked losing more than $140 million in ad revenue in calendar year 2001.
AOL said that just because ad revenue was identified as "at risk" did not necessarily mean the company would fail to collect it. Yannucci, AOL's attorney, did not respond to The Post's question about how much dot-com revenue was lost in that period. He wrote that "one would hope" O'Connor's estimate was "a worst-case assessment."
Cox, the Duke professor, said he believed that AOL should have been more forthcoming about the dot-com restructurings. It appears that a significant part of AOL's ad business was in jeopardy and it should have said so publicly, Cox said. "They have an obligation to disclose what is happening to the present client base," he said.
AOL said it had no obligation to make such disclosures, asserting the amounts were too small. "It should be beyond reasonable dispute that these amounts do not remotely represent a material percentage of AOL's advertising and commerce revenues for these quarters," AOL's attorney wrote.
But Doug Carmichael, a professor of accounting and director of the Center for Integrity in Financial Reporting at the City University of New York's Baruch College, disagreed. In accordance with Securities and Exchange Commission requirements, he said, AOL should have disclosed "significant negative trends" that company officials knew about. "And certainly," Carmichael said, "the problems with dot-coms were material to them."
AOL sources who were familiar with these dot-com deals said the company considered taking the struggling firms to court to get them to pay for the ads that they had agreed to buy. But the sources said AOL determined that such a strategy wouldn't be fruitful because the public filings would show some weakness in its business.
So AOL advertising officials went to work. They strove to convert some of the risk to AOL's long-term ad contracts into a short-term gain, by getting one-time payments from clients who could no longer meet their obligations. That helped put off the day when the dot-com advertising swoon would be apparent in the company's quarterly results.
In some instances, AOL said in its written response to The Post, it would renegotiate a struggling dot-com's ad deal to shorten the term of the contract. The dot-com would pay AOL a fee for breaking the deal early, and that fee would be incorporated into the new, shorter-term ad deal, effectively creating a balloon payment. AOL would count all of the revenue, including the fee for renegotiating a shorter-term deal, as ad revenue.
AOL said it accounted for the deals properly. Amounts "earned by AOL under these types of long-term advertising agreements have always been advertising revenues and the restructurings do not change the character of those revenues, only the time frame over which they are measured and the amount that should be recognized," wrote Yannucci, AOL's attorney, in a letter to The Post.
From July 2000 through March 2001, AOL said, it booked $56 million from dot-com deals that were terminated or restructured, about 3 percent of its $2.1 billion in overall ad and commerce revenue during that time. In each quarterly earnings report during the period, the terminated and restructured deals ranged from 1.5 to 4.4 percent of AOL's advertising and commerce revenue.
Eventually, as the pattern of restructuring dot-com contracts repeated itself quarter after quarter, AOL reported the trend in the latter part of 2001. In its Nov. 14 SEC filing it said: "The growth in advertising and commerce revenues was driven by a general increase in advertising sales, including amounts earned in connection with the settlement of certain advertising contracts."
By the December quarter that year, online advertising had swung from growth to contraction, decreasing by 7 percent over the same period a year earlier.
24dogs.com
In September 2000, AOL found another way to boost ad sales: from a legal dispute.
The origins of the legal case reach back to 1992, far removed from AOL, when MovieFone Inc., an online ticketing firm, and a former subsidiary of Wembley PLC, a big British entertainment company, set up a joint venture to develop hardware and services for automated movie-ticketing sales, according to U.S. legal filings and British public documents. The parties had a falling-out, the matter went to arbitration, and three years later MovieFone won an award against the former Wembley subsidiary.
When AOL purchased MovieFone a year later in 1999, it inherited the $22.8 million arbitration award, plus interest, which had not yet been paid.
AOL said it would have been costly to litigate with an overseas company. So AOL in September 2000 offered an alternative: Buy $23.8 million in online ads instead. That would also save the British firm money -- requiring Wembley to spend $3 million less than the arbitration award, including interest, according to sources familiar with the negotiations and confidential company documents summarizing the deal.
But AOL had to move fast, the sources said. The company was short of its targeted advertising and commerce revenue for the Sept. 30, 2000, quarter ending just days away.
The British wondered what they had to advertise to AOL's users. Wembley was in the gambling business, operating greyhound race tracks in such places as Rhode Island and Colorado.
AOL's answer: 24dogs.com.
Wembley was preparing to launch 24dogs.com, an online greyhound-racing Web site. Still under construction, the Web site would allow gamblers to check the odds and place a bet on a dog.
AOL suggested it could run ads for the Web site. The British mulled the offer. But with the quarter closing fast, AOL could not afford to wait.
To book the revenue in the quarter, AOL needed to run the ads before Sept. 30 to conform with accounting rules. So, without Wembley's knowledge, AOL employees lifted art work -- a picture of a racing greyhound -- off the British company's 24dogs.com Web site, created banner and button ads out of it and started running them, said AOL sources familiar with the matter.
The greyhound banner and button ads ran on various AOL sites, including Spinner.com, its online radio service, the sources said. AOL ran as many as three or four Wembley ads on a single Web page.
The number of greyhound ads, however, got to be a little too much, even for some at AOL, the sources said. A Spinner official on the West Coast called an AOL official in Dulles, and complained, "Dude, my home page looks like a dog site," according to a source familiar with the conversation.
Within about an hour of posting the greyhound ads, Wembley's unfinished Web site crashed from an overload of customer traffic from AOL, sources said.
AOL got its deal. Wembley agreed to buy $23.8 million in AOL ads. The terms of the deal allowed AOL to dictate -- at its own "discretion" -- when and where the Wembley ads would run through AOL's vast network. Such a provision meant that Wembley's ads could have appeared at any time or place -- not necessarily targeting its core audience.
Wembley confirmed that it reached a confidential agreement with AOL but declined to discuss any of the specifics.
According to a copy of the Sept. 26, 2000, confidential settlement between the companies, AOL and Wembley released each other from all claims. It stipulated that "AOL will promote various Wembley USA websites with 1 billion [ad] impressions to run at AOL's discretion. Such promotion is: a) a good faith gesture by AOL to expeditiously and amicably settle the arbitration matter, and b) a way to demonstrate the potential of AOL's interactive properties to drive traffic to Wembley USA websites."
AOL ran enough ads to book $16.4 million in that quarter. In the same three-month period ended Sept. 30, 2000, AOL converted another unresolved legal action into ad revenue, a $13 million deal with Ticketmaster, a majority-owned unit of USA Interactive Inc., according to internal company documents and sources.
Ticketmaster declined to comment.
Several accounting experts took issue with the Wembley deal, saying money from an arbitration award owed to a company that AOL acquired should have been booked as something other than ad revenue.
"To say that was $23.8 million in ad revenue, I have to question that," said Walter P. Schuetze, the chief accountant at the SEC from 1992 to 1995 and the chief accountant of its enforcement division from 1997 to 2000. "That's pulling white rabbits out of black hats."
AOL said it booked the Wembley and Ticketmaster deals appropriately. "It is entirely common and appropriate to resolve litigation by creating or amending a business relationship -- even if that litigation has reached the point of a judgment," said AOL's attorney. ". . . Such resolutions are one way in which unproductive disputes are turned into productive, and hopefully continuing, business relationships."
After AOL and Wembley signed the ad deal, sources said a handful of business affairs officials gathered in a vice president's office at AOL and celebrated by blaring a popular song on a personal computer: "Who Let the Dogs Out."
After the Merger
When AOL closed its merger with Time Warner on Jan. 11, 2001, it quickly began touting the combined company's synergies, or its ability to generate growth in all areas of the business by cross-promoting properties and leveraging deals made by one unit across others.
One example involved a deal between AOL's Time Warner Cable division and the Golf Channel, a majority-owned unit of cable giant Comcast Corp.
According to sources familiar with the deal, the Golf Channel agreed in June 2001 to pay $200 million over five years to have its sports programming carried on Time Warner Cable, the nation's second-largest cable television provider. But once the deal was essentially in place, the online unit weighed in, asking Time Warner Cable to share a piece of the Golf Channel deal, the sources said.
Complying, Time Warner Cable told the Golf Channel to spend about $15 million of the $200 million transaction for advertising on AOL's online unit, according to sources.
Cable companies often use such negotiations to extract concessions out of programmers. AOL sources said the Golf Channel had few options -- if it wanted to be carried on Time Warner Cable. "We told them where and when" the ads ran, said a source familiar with the deal. "They didn't have a choice."
Golf Channel spokesman Dan Higgins confirmed his company agreed to buy the online ads because it wanted the cable deal.
"When you're trying to negotiate long-term deals with them [cable companies], there are certain things that matter to them," said Higgins, who would not discuss details of the negotiations. "If they want the money to go to certain places, as long as it's in line for us . . . you come to a deal that both can live with." He called the agreement "mutually beneficial."
Higgins said that while AOL stipulated that the Golf Channel buy online ads as part of the cable agreement, it benefited the Golf Channel. "AOL reaches a lot of people," he said. "From a branding perspective, it's good for us."
The $15 million ad deal also helped AOL's online division report better numbers in its third quarter, ended Sept. 30, 2001.
Yannucci, AOL's attorney, wrote that "it was perfectly sensible to advertise the Golf Channel on AOL."
Enter EBay
On July 25, 2001, AOL found another way to generate ad dollars, this time through an agreement with eBay, the giant online auction site.
AOL was not only an advertising medium for other companies, it also served as an advertising broker, selling ads for other companies that lacked AOL's expertise and sales force. AOL agreed to serve in this capacity for eBay, hoping to sell a big chunk of the auction site's ad space, according to AOL's confidential executive summary of the deal. AOL said it was able to bundle advertising for different Web sites and offer package deals to advertisers.
In the eBay deal, AOL did not simply take the customary commission of an ad rep. AOL counted all of the eBay revenue as if it were AOL's own.
"AOL recognizes all revenue generated from eBay inventory sales on a topline basis," AOL said in its internal documents.
When asked about the financial arrangement, AOL declined to make any documents available but confirmed that it booked the sale of eBay's ads as AOL's own revenue, which it maintained is the proper accounting method. AOL said it booked $80 million in revenue in 2000 and 2001 and $15 million in the first quarter of 2002, the gross amounts from selling eBay's ads.
With this accounting, AOL was able to report a larger amount of ad and commerce revenue. (The gross sales didn't change AOL's net income, because AOL counted the payments it forwarded to eBay -- minus its broker's fee -- as an expense elsewhere in its books.)
Under accounting standards, there are several factors to consider in determining which party can book the gross revenue from a transaction.
One way an agent can book the gross amount of revenue from the sale of a merchant's goods is if the agent first acquires the goods and then resells them to another party, accounting experts said.
Such is the case with Priceline.com Inc., for example, which buys airline tickets from the airlines before reselling them to customers. But AOL did not buy eBay's advertising inventory.
AOL said it was appropriate for it to book eBay's revenue as AOL's own in part because the advertiser contracted directly with AOL, AOL set the price and received payment directly from the advertiser. AOL said eBay's accounting for the deal -- booking only the net payments -- shows that the company also viewed AOL as a principal.
Several accounting experts, however, said that those factors may not be sufficient for AOL to properly book eBay's ad sales as AOL's own ad revenue. They said the appropriate accounting largely hinged on the amount of financial risk AOL assumed in the transaction.
An internal company document shows that AOL carried no financial penalty if it did not sell eBay's ads, and AOL confirmed this. According to the document, AOL had a nonbinding, informal commitment to reach certain ad sales targets for eBay over two quarters.
In the document, AOL projected it might have to pay eBay $40 million to $45 million in the second half of 2001 "if AOL makes ad purchases on eBay to reach the targets." AOL did not respond to The Post's question about how much of that amount it paid eBay. AOL said that another factor that showed it was the principal in the deal was that it shared "credit risk" with eBay. AOL would not explain how it shared that risk.
Several experts said that sharing the credit risk may not be enough for AOL to be considered the principal in the transaction and properly book all of eBay's revenue as its own.
If AOL had been contractually obligated to pay eBay for the full price of the ads when an advertiser failed to pay, then AOL could have been considered the principal and booked eBay's revenue, these experts said. But in its letter, AOL said it was not contractually obligated in this way.
"It seems to me AOL is not taking any of the normal risks of a merchant and, therefore, the situation seems more similar to the agent model where you should only book the margin or the net rather than the gross," said Bala Dharan, a Rice University accounting professor.
Michael Sutton, the SEC's chief accountant from 1995 to 1998, said, "This sounds more like an agency relationship than a principal relationship." An agent should book a commission, he said, not the gross sale, as AOL did.
O'Connor, the AOL executive who left the company in March, said he told company officials he was concerned that the accounting might lead to an SEC investigation.
AOL, however, said that taking all the aspects of the deal into consideration, it was reasonable to conclude that it was the principal in the transaction and it rejected the experts' opinions, saying they didn't have all the information to make the proper determination. Ernst & Young, AOL's outside auditor, reviewed the transaction and confirmed its accounting.
The company also said the amounts of money involved were a fraction of the total ad and commerce revenue and not material to the company's business.
AOL's ad-repping deal continued into 2002. In exchange for the arrangement, according to sources and documents, eBay also agreed to extend from four to five years an agreement to buy ad space on AOL's service, a deal worth an additional $18.8 million, AOL confidential documents show. EBay declined to comment on the specifics of its business dealings with AOL.
Several accounting and legal experts said the way AOL treated the eBay deal and other transactions raised broader questions about how the company was explaining its business to the public.
As with other conglomerates, AOL has been under mounting scrutiny as investors have lost confidence in corporate America's books. AOL is now being pushed by Wall Street to disclose more about how it earns its revenue and accounts for its expenses.
Accounting experts said a public company has a fundamental obligation to do its best to offer a fully formed picture of its operations. Did AOL provide enough information when it began to identify weakness in its dot-com advertising business?
Dharan, the Rice University professor, said the company did not. "They were representing something to investors," he said, "that was different from what was going on inside."
© 2002 The Washington Post Company
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