By Gillian Wee and Crayton Harrison
Nov. 20 (Bloomberg) -- Yahoo! Inc., facing dimming prospects for a takeover by Microsoft Corp., is continuing discussions to buy Time Warner Inc.'s AOL business, people familiar with the matter said.
Yahoo and Time Warner executives have met in the past few weeks and continue to negotiate over terms, said two people familiar with the situation. Time Warner would hand over AOL's advertising business to Yahoo in exchange for a stake in the combined company, said the people, who declined to be named because the talks aren't public.
A deal would bolster Yahoo's position in the market for so- called display advertising and add subscribers for services such as e-mail and instant messaging. Yahoo and AOL would need to cut as many as 3,000 jobs for the deal to pay off, said Jeff Lindsay, an analyst at Sanford C. Bernstein in New York.
``It's difficult and high-risk -- a merger between companies in similar activities but with very different cultures,'' Lindsay said. ``It's not the best deal by far.''
Differences remain between the two sides and an agreement may not materialize, two other people familiar with the discussions said.
Microsoft Chief Executive Officer Steve Ballmer said yesterday that acquisition talks with Yahoo are ``done,'' contributing to a 21 percent decline in Yahoo's shares. Still, Ballmer said yesterday that a partnership between the companies in the Web-search market is an ``interesting possibility.''
Yang to Depart
Yahoo, owner of the second most popular U.S. search engine, said this week that CEO Jerry Yang will stand down, after the company rejected a $47.5 billion offer from Microsoft and an Internet-search partnership with Google Inc. fell apart.
Keith Cocozza, a Time Warner spokesman, and Kim Rubey, a spokeswoman for Yahoo, both declined to comment.
Yahoo, based in Sunnyvale, California, fell 19 cents, or 2.1 percent, to $8.95 at 4 p.m. New York time in Nasdaq Stock Market trading, reaching the lowest level since February 2003. Time Warner, based in New York, lost $1.07, or 13 percent, to $7.07 on the New York Stock Exchange, its biggest one-day decline in more than five years.
Needham & Co. raised its rating today on Yahoo shares to ``buy'' from ``hold.'' The stock has reached a low point, and Yahoo's investments in advertising technology and a revamped home page could be positive for the shares in the next three to nine months, said Mark May, a Needham analyst, in a research note. A new agreement with Microsoft could also lift shares, he said.
Yahoo's market value fell to $12.7 billion yesterday, less than a third of Microsoft's highest bid. Microsoft, the largest software maker, may still swoop in and negotiate directly with Yahoo's board now that Yang is out of the picture, Youssef Squali, an analyst at Jefferies & Co. in New York, said this week in a note.
Cost Savings
AOL got 6.5 percent of the $21.1 billion online ad market last year, making it the fourth-biggest seller, just behind Microsoft, according to research firm EMarketer Inc. in New York. Yahoo had 16 percent, and Google led with 28 percent.
Yahoo and AOL combined could save as much as $300 million to $500 million a year with workforce reductions and real estate savings, said Sachin Shah, an analyst with ICAP Corporates LLC in Jersey City, New Jersey.
A transaction that values AOL at about $6 billion would make sense for Yahoo, assuming AOL can continue to receive payments from its Internet-search partnership with Google, Lindsay said. Google agreed to pay $1 billion for 5 percent of AOL in 2005 and extended a 2002 accord that lets AOL use Google's search engine and receive a slice of revenue from ads that appear next to the results.
``If the price is low and they can keep Google, this thing is a moderate to fair deal,'' Lindsay said.
AOL Declines
While Yahoo would gain a bigger share of the market for display ads, which include banners and videos, those promotions aren't as lucrative as the sponsored links that appear next to Internet-search results. Display ads may also be more vulnerable in a recession as marketers seek promotions that are more targeted at specific users.
AOL's online ad revenue slipped 6 percent last quarter, while Yahoo's net sales grew 3 percent. Time Warner, the world's largest media company, anticipates ad revenue at AOL will drop for the rest of the year because of shrinking sales from display ads that appear on Web sites and its third-party ad network.
``AOL has been an overhang on Time Warner,'' said Chris Marangi, an analyst at Gamco Investors Inc. in Rye, New York, which managed $26 billion as of Sept. 30, including Time Warner and Yahoo shares. ``Investors are hoping that by some time next year, Time Warner will be a pure-play content company.''
Instant Messaging
AOL ranks third among e-mail providers, accounting for 8.8 percent of time spent on such services in September, according to ComScore Inc., a research firm in Reston, Virginia. Yahoo led with 41 percent, while Microsoft had 30 percent.
AOL would also help Yahoo expand in instant messaging, where Microsoft accounted for two-thirds of users' time in September, according to ComScore. Yahoo had 22 percent, and AOL had 10 percent with its AOL Instant Messenger and ICQ programs.
For Time Warner, selling AOL would help CEO Jeffrey Bewkes focus on expanding cable networks and films. The company plans to separate Time Warner Cable Inc. next year because it no longer needs an in-house distributor.
Google backed out of an agreement to sell ads alongside Yahoo's search results this month after U.S. regulators threatened a lawsuit to block the deal. Yahoo had sought Google's help to broaden the amount of ads shown, forecasting operating cash flow of up to $450 million from the pact.
To contact the reporters on this story: Gillian Wee in New York at gwee3@bloomberg.netCrayton Harrison in Dallas at tharrison5@bloomberg.net
Last Updated: November 20, 2008 16:16 EST
