Reports: Microsoft and AOL Eye Joint Venture

Microsoft is considering taking a stake in Time Warner's America Online unit, a move that could have significant repercussions in the competitive market of consumer Internet content and services, according to reports published Thursday.

Microsoft and Time Warner are actively discussing such a deal, reports say, although the stage of the negotiations and the nature of a subsequent partnership are being characterized in conflicting ways by different media outlets.

The New York Post, which first reported the possible deal, describes the discussions between Microsoft and Time Warner as "advanced" and involving plans to combine AOL and Microsoft's MSN Internet unit.

Meanwhile, the Wall Street Journal calls the talks "preliminary," and says they are part of a broader discussion about areas in which the companies can collaborate. Areas of collaboration being considered include AOL switching from Google's search engine to MSN's and possibly combining the two groups' advertising sales teams, according to the Journal.

Both the Post and the Journal are basing their reports on unnamed sources.

Time Warner didn't immediately return a call seeking comment. A spokesperson for Microsoft declined to comment.

Background

Although AOL once ruled consumer online services with its subscription-based model, it has been scrambling this year to revamp its business and make it advertising driven, by providing for free most of the services and content for which it previously charged.

By doing this, AOL--which has been steadily losing subscribers over the past two years--is trying to reinvent itself and better compete with Yahoo, which charges for some services but whose revenue is generated primarily from online advertising.

Google, which makes most of its money from online advertising tied to its search engine services, has over the past 18 months been adding nonsearch services to its menu of offerings, such as Web mail, blogging, and instant messaging, and in this way has become a direct competitor to AOL, MSN, and Yahoo.

Meanwhile, Microsoft has been increasing its investment in MSN, building its own search engine, improving the Hotmail Web mail service, refining the Messenger instant messaging service, and creating a blogging/social-networking service, among other moves, as the Redmond, Washington, software giant attempts to better compete against Google and Yahoo.

"At first blush it seems kind of strange, but if you look closely there's a lot of logic there," said Allen Weiner, a Gartner analyst, in an interview.

Currently, Google and Yahoo are the top-tier players in Web portals and online media search and distribution, while AOL and MSN are a notch below. "It doesn't appear that [separately] either MSN or AOL has what it takes to compete with Google and Yahoo," Weiner adds. If AOL and MSN were to merge, the resulting entity could potentially compete head-to-head against Google and Yahoo, he says.

By joining forces, AOL and MSN also could distance themselves from the players in the third tier that are making strong pushes, such as Ask Jeeves, which could significantly boost its services now that it is part of IAC/InterActiveCorp, Weiner says.

"A merged AOL/MSN could escalate to the top tier and also ward off companies emerging from below them, like Ask Jeeves," he says.

Full Integration Needed

However, Weiner cautions that for the companies to derive the full benefits of collaborating, they would need to fully integrate AOL and MSN. "There would be no halfway measure here. It would have to be a joint service," he says.

And then the mere act of fusing AOL and MSN wouldn't guarantee that the resulting group would rise to the level of Google and Yahoo. "Combined they could be extraordinary, but that doesn't [automatically] move them to the upper echelon. It puts them in the right path but not by default," Weiner says.

Joe Wilcox, a Jupiter Research analyst, warns that negotiations between companies go on all the time, and just because Microsoft and AOL may be talking it doesn't mean a concrete deal will result. "We've heard lots of rumors of mergers and acquisitions that never pan out," he said in an interview.

Were MSN and AOL to merge, the two groups would bolster each other in a variety of areas, Wilcox says. For example, MSN has a strong strategy for broadband content, while AOL has the most popular instant messaging service, he says. Likewise, MSN has a strong blogging/social-networking offering with its Spaces service, while AOL has many communities of users around specific interests and services, he says.

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