Several weeks ago, when America Online, Inc. agreed to shell out $3.5 million (US$) to settle charges that it violated financial reporting rules by deferring advertising costs rather than showing them as expenses, the news barely made a blip on most media radar screens.
The minor drama dates back to 1996, when AOL found itself at a critical crossroads. Microsoft Corp. had launched MSN the year before, and the new service was backed by the financial strength and branding of the world’s largest software company. What’s more, all new computers that were loaded with the Windows operating system came bundled with MSN.
To counter this full-court press by Microsoft, AOL CEO Steve Case made what most analysts consider a brilliant move by flooding America’s mailboxes with computer disks and a special offer to enlist new subscribers.
When all was said and done, AOL pumped $385 million into the program that year, and it was a smashing success. Not only did the saturation tactic beat off the fire-breathing Microsoft dragon, but it also pushed the online service’s subscription base into the stratosphere.
The only problem with the $385 million subscription-building expenditure, according to the Securities and Exchange Commission (SEC), is that AOL conveniently decided to show it as an asset on its balance sheet.
Profits Would Have Been Losses
Furthermore, if not for the improper accounting, the world’s largest online service would have shown a net loss rather than profits for six of eight quarters in its fiscal years beginning October 1, 1994, and October 1, 1995.
“This [enforcement] action reflects [the SEC’s] close scrutiny of accounting practices in the technology industry to make certain that the financial disclosure of companies in this area reflects present reality, not hopes about the future,” SEC Enforcement Director Richard Walker said in a statement.
While AOL — which now has more than 20 million subscribers — neither admitted nor denied the allegations in settling the case, it did agree to restate its financial results from 1995 to 1997 to reflect the change. The company noted, however, that it had stopped using the accounting practice in question more than 3 1/2 years ago.
But one has to wonder. If AOL had not used such creative accounting practices, would the online giant have survived long enough to become the media giant that is now slated to merge with Time Warner later this year?
Would stockholders have abandoned AOL’s ship en masse — as they have recently with such e-tailers as CDNow and Value America — if AOL had been bleeding red instead of showing a profit those quarters?
We will never know the answer to the question, of course. But we do know one thing for certain: The whole AOL cooking-the-books saga, including its peaceful resolution, seems to shine a light into a dark corner of Steve Case’s universe. While his shrewd moves and cool demeanor have certainly won him a number of admirers — including myself — Mr. Case plays to win, just like some of his more vilified peers.