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You can't blame America Online Chairman Steve Case for being a little gloomy these days. After all, ever since he announced that TWX
) last Jan. 10, AOL's stock price has dropped nearly 50%. Ever the chipper salesman, Case stuck to the upbeat script at a Dec. 5 appearance before investors at the UBS Warburg media conference at New York's Grand Hyatt. Wearing a navy coat and speckled tie, Case extolled the same earnings goals and spouted the typical rhetoric about a "fundamental convergence of industries" that he has since the deal's original announcement.
But the usual spunkiness wasn't there. He appeared tense and steered clear of saying anything about the Federal Trade Commission, which has sidelined the deal until it's convinced that one company owning such a big chunk of Time Warner cable systems across the country won't stifle competition in the broadband Internet market. Fumed one exec at the conference: "We're very confused about what's going on with a very complicated merger."
SYNCHRONIZED SHARES. The confusion certainly has taken its toll. AOL's market capitalization has slipped from $190 billion on New Year's Day, 2000, to $100 billion. Its shares closed at $44 on Dec. 7. Time Warner, meanwhile, finished the day at $67 a share, roughly where the stock traded Jan. 1 and in the days preceding the merger announcement.
But Case may soon get some Christmas cheer. Sources close to the situation say the FTC is near agreement on terms that could allow the merger to go through. An announcement could come as early as next week. And with AOL's stock so low, investors might want to take a look. Actually, Time Warner might be worth a look, too. Usually, stocks involved in merger talks trade in tandem. If one goes up or down, so does the other.
Still, AOL's stock is really the one to watch. Its market decline seems due in large part to prolonged uncertainty over the deal. No matter what the timing, most institutional investors aren't really worried about the deal being blocked, and nearly all seem bullish about the prospects of the merged company. "We've reduced our exposure in both stocks," says Dreyfus Funds senior portfolio manager Tim Ghriskey. "But we're not about to dump them. There's too much to gain once the merger goes through."
MELTDOWN BENEFICIARY? Adds Janus portfolio manager John Schreiber: "We haven't decreased our position in either stock. In fact, I think if you look at our most recent filings, you'd see that we've increased our position in both." AOL and Time Warner are two of Janus' largest fund holdings.
The fact is, AOL hasn't suffered all that much from the dot-com meltdown. Case is expected to announce a strong fourth-quarter-earnings report even as PC sales decline and Internet advertising slows. The Net malaise may actually help AOL as advertisers are likely to concentrate on its dominant position, Case said.
Indeed, AOL's monthly membership continues to grow, in part because of the so-called AOL Anywhere campaign. The company is spending heavily to move into Web services outside the traditional dial-up PC market, delivered via wireless-communication handsets and interactive television. In addition to broadband-cable service, these mobile and interactive platforms appear to be driving a healthy share of AOL's growth. "One thing that's important to recognize on the valuation of AOL is that it's much more secure and grounded in actual financials than any other Internet company," says one analyst.
HOLDING STEADY. Then there's Time Warner. Many analysts tend to lump it in with other media conglomerates, such as Disney (FOX
), and Viacom (VIA
). But while Disney and Fox have taken hits in the market this year, Viacom and Time Warner have held very steady. Whether that's a testament to Time Warner's position in the media business or its perceived advantage in merging with AOL doesn't really matter. The fact is, it has done a better job than some rivals at deflecting fears of an advertising slowdown next year.
Of course, the stocks could fall farther if the negotiations drag on. But that seems unlikely, because Time Warner appears to have fulfilled a critical condition of the merger: an accord allowing a competing Internet service provider to sell service over Time Warner's cable lines. Earthlink (ELNK
) signed a revenue-sharing deal with Time Warner last month that may well appease regulators.
Even if the conventional wisdome is wrong and the FTC and Justice Dept. try to block the merger, most experts don't think the government would have a very strong case. AOL and Time Warner operate in different industries. Their convergence may spark an awesome concentration of power in the emerging broadband Internet market, but that market is still in its infancy. So the government would have to base its case on what it perceives as the likely future outcome -- rather than on clear legal precedent.
LAYING LOW. Meanwhile, AOL and Time Warner could step up their PR campaign for the merger. With the delicate negotiations to think about, Case clearly has been laying low to avoid antagonizing the FTC. Competitors Microsoft and Disney, meanwhile, have been free in voicing their opposition to the merger. That has hurt AOL in the court of public opinion, but it probably won't affect the deal's legal prospects. "One would hope that the Justice Dept. knows better than to take advice from Microsoft on questions about competition," Schreiber says.
A George W. Bush Administration also would likely favor the merger -- or at least not try to block it. He has, after all, signaled that he favors less government oversight in merger reviews.
But who needs Bush? The merger may be done well before the next inauguration -- whenever that is. Near the conclusion of his speech before UBS Warburg, Case sighed after a question about the timing of the deal. But he reassured the restless crowd: "That date is going to be here pretty soon." A few minutes later, he mused like a kid hoping for a special gift from Santa this Christmas: "Wouldn't that be nice if it were done by Dec. 31." With strong fundamentals in place and depressed stock prices, a combined AOL-Time Warner may be creating a holiday-season opportunity for investors also.
Shook covers the financial markets for BW Online in New York Edited by Thane Peterson
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