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To: Impristine who wrote (38494)	2/7/1999 11:15:00 AM
From: Glenn D. Rudolph	Respond to of 164684

15 Don't Analyze Gross Margins In A Vacuum As investors consider the likely path that gross margin will take over the next few quarters, we think it is important to remember the relationship between gross margin and sales and marketing expenditures. For our part, we're happy to trade in a few basis points in gross margins for a few hundred in S&M (that's been the trend so far, anyway, though it was reversed in the December quarter), because high usage (which necessarily puts pressure on gross margins) has the very real benefit of decreasing churn (the theory being that AOL users get hooked and grow stickier with greater time online). As history has taught us with this name, even small decreases in churn can have remarkably positive effects on the amount of marketing dollars that (don't) need be spent in a quarter. After all, it's much more costly to sign up a former AOL user than a new one (it could run as high as two times as costly). So as management attempts to balance the opposing forces of usage, gross margins, and overall profitability, remember that marketing plays an important role here too. We Continue To Base Our Price Target On A Series Of Valuation Measures We're aware that we're going to elicit a chorus of groans out there when we approach such a prickly topic as valuations, but we'll plow head-long into the breach nevertheless. Our current price target of $200 reflects the outcome of many different methodologies, including a P/E approach (100Xs FY01 EPS of $2.08), a discounted earnings approach (using a 12% discount rate on FY01 EPS of $2.27 and applying a 100Xs multiple to those discounted earnings), and a discounted subscriber value approach (100Xs the net present value of the per-subscriber profits for AOL's 2001 subscriber base). Each of these valuation methodologies has its weaknesses (and all are based on comparable market multiples for AOL's Internet Blue Chip peer group: YHOO, AMZN, EBAY, ATHM), but in aggregate give us comfort that, as AOL realizes the economic opportunity of “owning” a large and demographically diverse subscriber base and a global brand. Remember also that the model is about to undergo serious changes when Netscape is added in, with the bias on revenue and earnings most certainly upward, which would cause these numbers (and valuations) to ultimately prove conservative. For a more detailed analysis of the metrics we have used, please contact your SG Cowen salesperson or call us directly and we'll fax or email them to you. We Wouldn't Be Surprised To See The Stock Consolidate A Bit In Time. If So, We'd Be Buyers Though the history of the stock suggests it may consolidate (or even give up a few points) over the next few trading sessions, and some investors may view the ad/commerce revenue number as less that perhaps they were hoping, we suspect that the stock split (inexplicably, of course) may give this S&P index heavyweight some nice staying power. Because we're still trying to stay focused on the trees and not the forest on this one, we're keeping our Strong Buy rating, though it's possible that the stock could consolidate. If it's aggressive, we'd be buyers, looking to build positions. And though there is plenty that could go wrong on the execution front and the prospect of looming competition from Yahoo! and the rest of the portal players remains, we're reiterating our Strong Buy rating and $200 price target. We continue to believe that AOL should be a core technology holding. Move Over Mail , Now You've Got Tickets AOL announced its acquisition of MovieFone in all stock transaction valued at approximately $388 million (the exact amount of AOL shares for each MovieFone share will be in the range of 0.1670 to 0.2259). MovieFone will be a real