AOL Dips While Time Warner Surges After $125 Billion Merger Deal

Updated from 7:18 a.m. EST

In a departure from the morning hullabaloo, America Online (AOL Quote) shares took a downturn this afternoon as news settled in about the Internet service provider's plan to add Time Warner (TWX Quote) to its growing list of acquisitions in a $125 billion stock swap.

Shares of AOL were down 13/16, or 1%, to 72 15/16 in late trading Monday.

Meanwhile, shares of acquiree Time Warner soared 28 3/16, or 44%, to 92 15/16. (AOL settled down 2 3/4, or 4%, to 71, while Time Warner ended up 25, or 39%, to 89 3/4.)

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"This is very complicated deal," said Tom Burnett, founder of Merger Insight, who does not rate or underwrite either company. "It's going to take a year to pan out. There's no reason to buy either stock this year."

"It could lead to a blizzard of competing announcements entertainment, media, newspapers and advertising," said Burnett. "They're all going to be impacted by this."

Other media companies were following Time Warner's lead, as investors cheered the arrival of much-talked about "convergence" between old media content and the new medium of the Net. News Corp. (NWS Quote) was up 6 3/8, or 17%, to 44 1/8. Viacom (VIA Quote) was up 6 1/2, or 12%, to 60 3/8. And Seagram's (VO Quote) was up 5 9/16, or 11%, to 54 3/16. In European action, media companies rallied to higher closes. (News Corp. finished up 7 1/4, or 19%, to 45, Viacom closed up 5 5/8, or 10%, to 59 1/2 and Seagram's settled up 5 3/8, or 11%, to 54.)

"It's going to send others scrambling," said Bob Turner, chief investment officer of Turner Funds. On the Internet side, he said, this is an issue that Yahoo! (YHOO Quote) is going to have to think about. "These guys don't stand still."

"Our viewpoint is that is that it is very positive for AOL in the long term," said Bob Turner. His large-cap funds hold 1.2 million shares, or 3%, of AOL and 350,000, or 1%, shares in Time Warner.

In a press conference this afternoon, Time Warner chairman and chief executive officer Gerald Levin, who will be the chief executive of the new company, to be called AOL Time Warner, said he thought it was better to buy an Internet presence than to continue to build one, even at these valuations.

"Internet capitalizations ... I accept," Levin said. "Some people may have trouble with their valuations, but I find their future cash flow so significant."

Levin's belief in the Net valuations matters, because while Time Warner is bringing 80% of the cash flow to the table in the new deal, it will only represent 45% of the newly formed company. And Time Warner arguably holds the larger stable of identifiable brands, including CNN, Warner Bros., Time-Warner Cable and a host of magazines, including Fortune, Money, InStyle, People and Sports Illustrated.

AOL sports among its proprieties ICQ, AOL MovieFone, Netscape, not to mention its AOL service and Compuserve, which together enjoy 22 million subscribers.

Media companies weren't the only subject of Wall Street chatter today.

AT&T (T Quote) was pulled into the fray as investors speculated that it would make a good partner for the new entity. Sanford Bernstein analyst Ted Jacobs said a deal with the communications giant would make sense, as the phone carrier has been seeking ways to send more services across its wires. AT&T was trading up about 3% to near 51.

Investors had seen earlier versions of a similar strategy when CBS(CBS Quote) agreed to combine with Viacom, and Disney (DIS Quote) bought Infoseek.

Analysts close to both media and Internet sides of the deal expect the pace of these sorts of deals to accelerate.

Under the agreement, Time Warner shareholders will receive 1.5 shares of AOL Time Warner for each share of Time Warner stock they own. America Online shareholders will receive one share of AOL Time Warner stock for each share of America Online stock they own. When complete, America Online's shareholders will own 55% and Time Warner's shareholders will own 45% of the new company. The stock will be traded under the symbol AOL on the New York Stock Exchange.

The merger is expected to be accretive to AOL's earnings and, pending regulatory approval, is expected to close by the end of the year.

AOL's Bob Pittman, who will be co-chief operating officer of the new group, said he had never seen a series of commercial arrangements and management team assembled so quickly.

AOL chairman Stephen Case was named chairman of the merged company, while Levin, chief executive of Time Warner, will be the chief executive.

"This strategic combination with AOL accelerates the digital transformation of Time Warner by giving our creative and content businesses the widest possible canvas," Levin said.

He hinted that some top mangers in both companies might become causualties in the process. The integration between the two companies is "definitely a people risk," he said. But, Levin said, a lot of time was spent on the social issues and they found the companies to be very similar.

Time Warner's array of magazines, music labels and cable networks will be stretched over AOL's over 22 million registered users.

Media mogul Ted Turner, vice chairman of Time Warner with 9% of outstanding shares, voted in favor of the merger. Turner will become vice chairman of AOL Time Warner, according to the companies' combined statement Monday.

"When you've got Turner, Case and Levin, it would be a task to get all these guys to play cards in the same room," Burnett of Merger Insight observed.

The new company will be an important new broadband distribution platform for America Online's interactive services and drive subscriber growth through cross-marketing with Time Warner's brands, AOL and Time Warner said.

(Yahoo! closed up 28 13/16, or 7%, to 436 1/16, AT&T ended up 1 1/2, or 3%, to 50 13/16, CBS finished up 4 1/16, or 7%, to 62 1/16, and Disney closed up 4 13/16, or 15%, to 35 13/16.)