AOL (NASDAQ:AOL) declared its Q3 2013 results on November 5. It reported 6% year-over-year growth in total revenues to $561.3 million, driven by increases across advertising revenue lines. While AOL saw 3% growth in search and contextual advertising revenues for the quarter, display ads revenues grew by 5%. The growth in advertising revenues was further buoyed by a 32% year-over-year increase in third party network revenues. However, core subscription revenues continued to decline as revenues fell by 7% year over year to $161.6 million.
In our pre-earnings article, we had stated that we are closely following AOL’s programmatic advertising platform for revenue growth and that it is a key driver for AOL going ahead.  Much of the revenue growth for AOL came from the increasing use of its programmatic platform across the third party network. Furthermore, the focus on premium video content lifted AOL’s display ad revenue, and we think the company can see higher valuations if it can sustain a high growth rate in the display ad segment.
Programmatic Platform Boosts Third Party Display Ad Revenues
According to our estimates, the third party display ad division constitutes approximately 30% of AOL’s value. In the third quarter, revenues from third party display ads grew by 32% to $150 million. AOL is aggressively developing its programmatic ads platform to sell more ads on third party sites. This strategy paid off as AOL’s programmatic platform was the chief contributor to growth in third party display ad revenues. The company not only reported growth in the number of ads sold through the programmatic platform but also an increase in revenue per page view.
We believe that a strong programmatic platform will be a key driver in bolstering AOL’s revenues further by closely matching an advertiser’s ads with relevant content inventory. With relevant ads displayed across content, AOL can continue to charge higher revenue per page view (RPM) to advertisers. Currently, we expect revenue per page view to grow from $3.90 to $5.00 by the end of our forecast period. However, if RPM were to increase to $6.00 by the end of our forecast period, our price estimate would increase by 5%.
Video Content Bolsters Display Ad Revenues
According to our estimates, the display ad division constitutes approximately 30% of AOL’s value. The key drivers for this division are unique visitor count, revenue per page view (RPM) and page view per unique visitor. In line with our expectation, display ad revenues grew by 5% year over year to $141.9 million.
The primary reasons for this growth were increases in the number of video ads sold on AOL’s properties, unique user count and revenue per ad impression related to videos.  The company not only served over 3.5 billion video ads but also increased the number of videos in its library by over 90% year over year to 800,000. The improvement in video offerings translated into overall growth in the number of unique visitors across AOL properties, which grew 4% year over year to 115 million. As a result, AOL was able to serve more ads to its users during the quarter.
Furthermore, AOL continues to improve user engagement by offering premium video content across its properties. It signed new premium content providers such as ESPN, TMZ, and Conde Nast during the quarter. User engagement is important for AOL’s overall financial health as it not only increases the unique visitor count but also drives page views and RPM across properties. We currently forecast that the RPM on AOL properties will increase from $3.00 to $3.40 by the end our forecast period.
Cost Cutting Measures Stabilize Margins
AOL also embarked on cost cutting measures at the end of Q2 to rein in costs. These measures were a success as the company reported 19% year-on-year improvement in operating income before depreciation and amortization (OIBDA) margins to $119 million. AOL stated that it will continue to focus on eliminating non-core activities in the coming quarters, which should lead to a further reduction in corporate expenses. It increased its OIBDA guidance to $465 million for 2013.
We currently have a $34 price estimate for AOL, which is approximately 25% below the current market price.Notes: