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FSA Case: American OnlineName Avantika Gupta Alok Dhawal Harsh Misra Deepthi Arumalla Ravi Jewani

e: American OnlineRoll No 2008a19 2008b28 2008c 2008a36

Prior to 1995, why was America online (AOL) so successful in the commercial onlin

The reasons for the success of AOL were manifold. Not only was it a pioneer in many new o retain and capture customers. The following are a few reasons for the 4 million users it ha 1. AOL found ways to coordinate its pricing and compete on nonprice dimensions, such as inno 2. It also had the first mover advantage.

AOL followed the differentiation strategy. This strategy gave AOL added benefits in becoming the market leader prior to 1995. AOL f

Supply a unique product or service at a cost that was easy to understand by the c Superior product variety : AOL offered a lot of added services to the customers. Superior customer service Investment in brand image

American online was a leader in the development of new mass medium that encompassed 1. Online services 2. Internet 3. Multimedia and other interactive tecnologies

AOL generated revenues from the following means: 1. Consumers : Through membership fees and usage per month 2. Content Providers 3. Merchandisers : Through advertising, commissions on merchandise sales and other trans 4. Other Businesses: Through sale of network and production services.

AOL pursued continuous investment in the following to position itself as a leader in the de 1. Growth of its existing online service and related businesses. 2. Ability to provide a full range of interactive services. 3. Technological flexibility.

The strategies that AOL followed were: 1. AOLs rate structure was the easiest for the customers to understand and anticipate. Thu in an environment when the other service providers had complex rate structures. 2. AOL invested in specialized retention programs including regularly scheduled online even and new features and the addition of new content, services and software programs. 3. AOL ventured into various Direct Marketing and Co-Marketing efforts to attract and retain software with their computer products, facilitating easy trial use by the customers. 4. AOL had entered into a number of joint ventures. They made sure that the newest stars o the entrepreneurs 20% of the revenue but in return demanded exclusive contracts with the Thus the content available on AOL was not available anywhere else. This attracted new as w

commercial online industry relative to its competitors CompuServe and Prodigy?

neer in many new offerings to the customers, it also pursued aggressive marketing to million users it had by the end of October 1995 ensions, such as innovation or brand image.

rior to 1995. AOL followed the following principles to become a differentiator.

nderstand by the customer and at the same time the customer was ready to pay premium.. o the customers.

that encompassed

sales and other transactions

s a leader in the development of mass medium for interactive services:

d and anticipate. Thus customers did not feel cheated when dealing with AOL structures. cheduled online events and conferences, online promotion of upcoming events re programs. to attract and retain customers. The co-marketing companies bundled the AOL customers. at the newest stars of cyberspace entered into contracts with them. AOL paid ve contracts with them. is attracted new as well as existing customers to AOL.

premium..

As of 1995, what are the key changes taking place in the commercial online industr

The commercial online industry was undergoing a change during 1995. The various facts about the in 1. Online consumer service industry represented $1.1 billion revenues in 1994 and the reve 2. Market leaders AOL, CompuServe and Prodigy served 8.5million of the existing subscribe as middlemen till now. 3. Microsoft with MSN allowed all the content providers to be their own publisher. They char rest to the content owners. 4. The coming up of the World Wide Web posed a major threat to AOL's customer base. He everyone with a computer was his/her own publisher. 5. Content providers were becoming increasingly interested in these alternate distribution c earn higher revenues 6. Products by different players were becoming more or less identical. Hence, bra the earlier years now mattered less.

These changes led to the following consequences on AOL's prospects: 1. The online services and Internet markets become highly competitive. The existing comp service providers such as long distance and regional telephone companies, had enhanced t various media companies, had entered or announced plans to enter the online services and The competitive environment required the following: a. Additional pricing programs and increased spending on marketing, content pro b. It would limit AOLs opportunities to enter into and/or renew agreements with c c. It would limit the ability of AOL to grow its subscriber base; and result in increa d. the costs to acquire customers would go higher and the price which customers e. The oligopoly would end soon due to the arrival of additional distribution avenu f. The proprietary services and contents will move to the Web sites. The Web will 2. There will be a reduction in profits due to the following reasons: a. The customer retention will become costlier and customers will switch compani problem in funding its growth and also will have to cut its prices to retain its custo b.The alternative of getting higher revenues and greater control over their produ MSN and the business of AOL will shrink. c. The company will have the pressure of increasing the stake of the original cont d. The cost of operations of the company will increase due to higher investments other product development costs. e. The margins that the company had wil shrink. This makes the condition of AOL

cial online industry? How are they likely to affect AOLs future prospects?

us facts about the industry at this time were: in 1994 and the revenues were expected to grow by 30% to $1.4billion in 1995 he existing subscribers amongst themselves. This oligopoly had very successfully acted publisher. They charged only 30% from the site owners as commission and passed the

s customer base. Here the role of middlemen was shrunk further. On the internet

ternate distribution channels which gave them greater control over their products and

entical. Hence, brand name and services which were important to the customers in

. The existing competitors and the new enterants like MSN, and Internet nies, had enhanced their service offerings. Internet directory services and e online services and Internet markets, resulting in greater competition for AOL.

arketing, content procurement and product development. w agreements with content providers and distribution partners ; and result in increased attrition in the Company's subscriber base ice which customers pay for services would go lower. nal distribution avenues for the subscribers. b sites. The Web will enable everybody with a computer to be his own publisher.

s will switch companies and hence, AOL will have ces to retain its customers ntrol over their product will allure content providers to move to the Web and

e of the original content owner as far as the original revenues are concerned. higher investments in technology and heavy advertising and the increase in

the condition of AOL serious as it has a huge deferred customer acquisition costs balance in its books. As the fu

n its books. As the future becomes riskier and the companys business will be more competitive.

Was AOLs policy to capitalize subscriber acquisition costs justified prior to 1995?

AOLs biggest expenditure was the cost of attracting new subscribers and maximize custom 1. Separate registration numbers and passwords were issued to customers that could be us They cost more than $40 per new subscriber in 1994. A one time cost from which revenue/v 2. AOL aggressively marketed its online service both directly and indirectly. The company a 3. To retain new subscribers and increase customer loyalty & satisfaction, AOL invested in s

The noteable accounting procedures followed by AOL were as follows: a. AOL's amortization period for subscriber acquisition costs was about 15 months. It was ex such aggressive accounting was attributed to the bundling & direct mail marketing which ha b. During September 1995, the company modified the components of subscriber acquisition acquisition costs as incurred.

Analysis a. It is not advisable for AOL to capitalize the marketing costs because in 1995 there were n Web was being established. This would definitely impact the sales of the company and wou b. Instead of amortizing the Acquisition Costs for 15 months, if we treat it as an expense, we the Income statement shows a loss for the period. CompuServe, on the other hand,did not c c. Capitalizing the expenditure for 2 years contained an implicit assumption that the custom for the coming two years. This was unlikely with the online industry as it was in its growth s had acquired most of its customers in the last 36 months, to anticipate that they would rem d. Through these steps the management wanted to improve their earnings position so that e. If these costs were not amortized over the years, their cash flows from operating activitie

As per accounting principles, capitalization for marketing expenditures was allowed. Compu Prior to 1995, when AOL was writing off the marketing expense in 15 months looked justifie

ied prior to 1995?

s and maximize customer subscription life. omers that could be used to generate a new AOL account. st from which revenue/value can be generated in the coming years, could be capitalize