May 29, 2003 4:17 PM PDT

Microsoft to pay AOL $750 million

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Microsoft is paying $750 million to AOL Time Warner as part of a wide-ranging settlement that also calls for the companies to jointly cooperate on software distribution and digital media.

As part of the deal announced Thursday, the companies will drop pending litigation, including an antitrust complaint filed by AOL Time Warner's Netscape Communications unit in January 2002 against Microsoft. AOL also agreed to a seven-year royalty-free license of Microsoft's Internet Explorer browser.

"It seemed like an opportunity to do something smart for both companies," AOL Time Warner CEO Richard Parsons said during a conference call with reporters.

Microsoft Chairman Bill Gates added during the call, "It puts any past issues behind us. It extends the technical cooperation we've had with AOL on the browser while increasing cooperation in other areas such as new ways to distribute digital content."

Besides the $750 million payment and AOL's continued use of Internet Explorer, key elements of the pact and its ramifications include:

• AOL receives a long-term, nonexclusive license to use Microsoft's Windows Media 9 software, which offers playback, delivery and rights management for digital media. Considering that AOL has 32 million subscribers worldwide, Microsoft is gaining access to a large portion of the market.

• The companies will explore ways to increase the adoption and distribution of digital media, such as making more digital content available and accessible while protecting copyrights. This is also important for Microsoft, which has been pushing its own format called Windows Media for encoding and protecting music and video files. Gaining Time Warner's confidence could help Microsoft win support from other content and hardware companies.

• AOL will receive a seven-year, royalty-free license to continue using Internet Explorer on its flagship online service. Microsoft will provide beta tests of future Windows versions and allow AOL to participate in tests of its upcoming "Longhorn" operating system at the same time and on the same terms as other software vendors.

• The companies will explore ways for AOL and MSN Messenger to interoperate. Microsoft has sought such access for years, while AOL has advocated walling off its millions of subscribers from competing messaging products.

• Microsoft will expand its support contract with AOL and will allow AOL engineers to work on its Redmond, Wash., campus.


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• Microsoft will help distribute AOL CD-ROMs to PC builders around the world, which could help stabilize AOL's sagging subscription numbers. Under the deal, Microsoft will provide AOL software discs worldwide to "system builders"--smaller PC manufacturers that obtain their Windows discs from authorized Microsoft distributors.

In the first quarter, 55.8 percent of worldwide shipments came from PC makers not among the top five, according to research firm Gartner. Under Thursday's deal, these builders will get AOL discs when they order Windows. "This could be pretty big for AOL," said Roger Kay, an analyst at IDC.

Both companies win
As for the two headline-grabbing elements of the settlement--the $750 million payment and the dropping of the antitrust suit--Microsoft and AOL can each claim to be the winner. AOL can use the funds to pay off some of its $26.3 billion in debt and Microsoft can cross off its to-do list one of many nagging lawsuits.

The company has settled with nine states and the U.S. Department of Justice over claims that Microsoft abused its monopoly power. Two states have appealed that settlement. The Bush administration said this week that it won't help Microsoft in that battle.

Sun Microsystems has its own antitrust case against Microsoft, as does defunct operating system maker Be. A Sun representative declined to comment on the AOL settlement.

"Microsoft has been very pragmatic in putting its antitrust issues behind it," said Rich Gray, an antitrust attorney in Silicon Valley who's tracked Microsoft antitrust battles for years. "What will be interesting is to see if they settle with Sun. That's a bit more of a grudge match."

Jupiter Research analyst Michael Gartenberg said the agreement is a win for both AOL Time Warner and Microsoft.

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"Microsoft gets to put probably the biggest of the antitrust and anticompetitive lawsuits behind it while simultaneously using this as an opportunity to drive things forward like Internet Explorer and Windows Media," he said. "AOL and Netscape are vindicated. They are walking away with a significant amount of cash."

Gartenberg said AOL also benefits from Microsoft's distributing its software, but would lose little through the adoption of Microsoft's media technology. "There is very little downside for them to accept the media technology because it's not a business they are in in the first place."

Gartenberg said it remains to be seen what the deal means for companies that produce media software in competition with Microsoft.

"AOL has not announced any change in its technology architecture," Gartenberg said. "The real question is, in the future, which technologies AOL will opt to use. That will ultimately determine the impact of this deal."

As for AOL's license of Internet Explorer, Gartenberg said the impact will be minimal. "There isn't anyone else in the browser market. I guess the Opera guys are sort of left out."

Despite AOL's seven-year contract to use IE in its flagship service, Parsons was vague about the future of Netscape beyond maintaining it as a subsidiary under AOL. He said AOL is continuing to evaluate Netscape for its value, but pledged AOL's support for IE.

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Gates and Parsons were not specific about the timing of the settlement. Parsons said there was "no magic in the timing," adding that Gates called him six to eight weeks ago to discuss a potential agreement.

The deal comes just weeks after Steve Case ceded his role as chairman of AOL Time Warner. Case said in January that he would step down this month. Case remains on the board of AOL Time Warner.

Despite the deal with Microsoft, AOL will continue to do business with companies such as RealNetworks and others, Parsons said, stressing that the deal with Microsoft is not exclusive. "We'll work with all of the players in the market who are trying to find ways to bring what we produce and create in this company to consumers...in a secure way."

As for instant-messaging interoperability, Gates did not offer any specific timeline for allowing their rival services to communicate. The deal is more of an agreement to hold discussions rather than a technological road map.

"We've created an overall framework for us to have a very focused discussion on IM interoperability," Gates said during the call.

The deal was announced after the stock markets had closed. In after-hours trading, Microsoft shares were down about 13 cents to $24.27 and AOL shares were up 43 cents to $15.29.

 

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