The Math Behind Patch’s Deep Cuts And AOL’s Larger Content Division

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Today AOL confirmed that Patch will close hundreds of its hyperlocal news sites and fire hundreds of its employees. TechCrunch reported the coming staff and site reductions on Thursday.

The move comes as AOL strives to make Patch profitable by the end of the year. To reach that goal, AOL decided to cut fat. This is a financially reasonable decision as many Patch sites did not make money, and only certain markets appear capable of sustaining their own hyper-local news service. (AOL owns TechCrunch.)

That doesn’t lower the human impact of AOL’s decision, which will end employment for hundreds. However, losing money isn’t much of a good business move, and AOL CEO Tim Armstrong promised investors that Patch’s monetary wounds would be stanched come the end of calendar 2013.

In his call to Patch today, according to TechCrunch’s Darrell Etherington, Armstrong stated that Patch employees should not “worry about what [they] read in the press,” because it is “bullshit.” Well, zing, Armstrong, since a goodly number of your own journalists have been covering the decline of Patch, but let’s leave that aside.

What will the financial impact of the Patch firings be for AOL? It’s surprisingly large, once you get into the figures. However, we have a bit of an issue in that AOL doesn’t break out net income for its individual corporate units. However, it does provide “Operating Income Before Depreciation And Amortization,” or OIBDA for its operating divisions. We will have to chart a course between GAAP (generally accepted accounting principles), e.g. whole-company net income and divisional non-GAAP figures, such as OIBDA.

OIBDA is something of a vanity metric, given that it is a looser measure than “Earnings Before Interest, Taxes, Depreciation and Amortization,” or EBITDA, which is a standard method of measuring a company’s financial performance. OIBDA differs from EBITDA, as it employs operating income, and not net income, as its foundation. That grants a looser range for what the final number could be, thus obscuring real performance.

According to AOL’s most recent financial report, the Brand Group, of which Patch is a part, saw its OIBDA loss fall from $15.2 million in the second quarter of 2012 to $1.4 million in the second quarter of 2013. That’s a steep decline that places the Brand Group — on a very non-GAAP basis — near to profitability.

Layoffs at Patch were tipped to total from 200 to 550. Today the number was confirmed in the “hundreds.” Also, the shuttering of 400 websites will lower server, support, and other costs.

Let’s be overly generous and assume a layoff for every site closure, even though the final figure could be higher; initial leaks indicated up to 550 firings based on 300 site closures. The site figure is now higher than expected, implying that staff reductions could be steeper. Our supposed 1:1 ratio implies 400 firings.

We’ll use the standard $100,000 per employee in total cost per year metric that is too parsimonious for technology companies, but fair in this example; editorial employees make less than Silicon Valley developers. However, to ensure that we are not being too negative, let’s take that $100,000 per person figure and bake into it the costs of hosting their relevant Patch website. Thus, we are assuming $100,000 in saved costs — site, staff, etc. — per closed Patch per year.

Four hundred closed sites at $100,000 per means that AOL will save $40,000,000 yearly. We cannot know if that is enough for Patch to reach profitability. AOL also mentioned the partnering of certain sites with external parties. That could lead to other incomes. And, given that we do not have separate Patch financial metrics, it’s difficult to tell if our cost estimates are reasonable. However, we can learn two things from the general scale of the savings — tens of millions, no less than $30 million, and perhaps as much as $60 million depending on how you calculate. First the Brand Group should find profitability on an OIBDA basis, and perhaps on a GAAP basis to boot, once the full cuts are enacted.

Secondly, AOL’s full-company net income (attributable to AOL) in the most recent quarter was $28.5 million. So, the per-year Patch savings should be greater than the company’s entire second-quarter net income. This could greatly increase AOL’s per-share earnings if the savings are in keeping with our estimates. Roughly, assuming AOL earns around $100 million in net income in calendar 2013, the $40 million savings would lead to a, and by god we are calculating roughly here, a 40 percent increase in net income.

From a different angle, having the Brand Group reach profitability would be a nice moment for AOL, as currently the only division of its company that makes money is the old dial-up team. Proving that its massive investments in media (Huffington Post, TechCrunch, Patch) can in fact net it quarterly profit would go a long way to stating that it isn’t simply a business clinging to ascendancy lost by the end of the 90s.

I hope everyone leaving Patch lands on their feet. Godspeed.

Top Image Credit: TechCrunch