AOL's talks with Netscape fuel battle for cyberspace

News Analysis: US government's case against Microsoft could be undermined by proposed deal between rivals

ALREADY AFIRE with white-hot public offerings from serial newcomers and the continuing saga of Microsoft's anti-trust trial in Washington DC, the internet sector was in the spotlight again yesterday with confirmation that two of the best-known names in cyberspace are in the midst of takeover negotiations.

If consummated, the proposed acquisition of browser pioneer Netscape Communications by the granddaddy of online providers, America Online, would spell a radical realignment of the industry that promises to be one of the main engines of economic growth in the United States and Europe in the next century.

AOL's absorption of Netscape, a company that was only born in 1994, could have especially profound implications for Microsoft and its already embattled founder, Bill Gates. With Sun Microsystems also expected to play a part in the deal, Microsoft could find itself facing a new and significantly more powerful alliance.

A combination of AOL and Netscape could prove especially critical in Europe, where the internet revolution has not yet ripened quite as it has in the US. A newly strengthened AOL would be better placed to battle with Microsoft for dominance in the rich European market.

Both Virginia-based AOL and Netscape, which is headquartered in California's Silicon Valley, confirmed yesterday that takeover talks were under way. They cautioned, however, that hopes for an agreement, involving a pooling of shares, could still fall apart. A final deal was thought be close, however.

Intriguingly, executives from all three of the companies involved, AOL, Netscape and Sun Microsystems, have been called to testify for the US government in the Microsoft monopoly-abuse trial in Washington. While officials with the companies deny the deal would represent an effort to "circle the wagons" around Microsoft, Mr Gates is certain to view it as a dangerous coming-together of his foes.

The implications for the government's lawsuit against Gates could be profound. Yesterday lawyers for Microsoft were already attempting to depict a fusion of AOL and Netscape as an illustration of their central contention: that Microsoft's aggressive business strategies - considered illegal by the government - are no different from those employed by its rivals.

"From a legal standpoint, the proposed deal pulls the rug out from under the government," a leading lawyer for Microsoft, William Neukom, said in court yesterday. He added: "Microsoft's competitors have always had the ability and the resources to change the competitive landscape overnight."

Filed by the federal government and 20 US states, the suit against Microsoft accuses it of illegally abusing its domination in the PC software sector to frustrate its rivals. The company considered to have suffered the worst from Microsoft's bullying is Netscape. Netscape was the darling of Wall Street after the introduction of its Navigator browser in 1996 but has since been significantly enfeebled by Microsoft's aggressive entry into the field with its own Internet Explorer browser.

A deal with AOL and Sun would offer Netscape and its founder, James Barksdale, a dignified way out of its difficulties. According to yesterday's reports, shareholders in Netscape would receive 0.45 of an AOL share for each of their Netscape shares. That would value Netscape at $4bn.

Recently, Netscape has not had the cash to continue its crusade against Microsoft. "This deal would ensure that the fundamental elements of Netscape survive within bigger companies that can drive its technologies forward," remarked David Yoffie of the Harvard Business School.

"Netscape is a company that has been struggling financially for at least the past three quarters," said Jim Bladerston of Zona Research. "AOL is riding in as the cavalry to rescue them."

AOL was founded in 1985 by Steve Case, initially as an online chat room service for Apple Computer loyalists. Last year, it swallowed its main online competitor, CompuServe, and it boasts 14 million subscribers around the world. If it completes this deal, it will gain customers from Netscape's Navigator browser and its popular web site, or internet portal, Netcenter.

Analysts believe that by digesting Netscape, America Online, which until now has mainly aimed itself at the consumer market, would be better positioned to take on Yahoo!, which operates its own worldwide web portal that has a much stronger base among business users.

Sun Microsystems, headed by Scott McNealy and the inventor of Java, the software language that represents the main threat to Microsoft's Windows hegemony, already has a long-standing relationship with Netscape. As a third partner in the proposed agreement, Sun would distribute software developed by Netscape that runs the server computers that power company web sites. Many of those computers are made by Sun and operate with the Java language.

Netscape's portal page, Netcenter, has been showing particular promise in the European market. Commenting on the implications of its digestion by AOL, William Field of Spectrum Strategy Consultants, noted: "AOL is aiming at Europe and the other non-US markets to catch the next wave of internet growth. Microsoft and its partners are second to none, but AOL- Netscape would be tough competition."

The stakes in this battle are huge. In the race to establish popular worldwide web portals, or gateways, for both business and private consumers, AOL and Microsoft are looking to harness what are expected to be huge revenues from burgeoning commerce over the internet. A recent study found, for example, that nearly half of all PC-owners in the US will do some of their Christmas shopping via cyberspace this season, most of them for the first time.