SAN FRANCISCO - Google Inc.'s decision to sell its crumbling investment in longtime advertising partner AOL is the latest example of how the recession has forced the Internet search leader to sober up and reassess its priorities.
Google's move, disclosed Wednesday by AOL parent Time Warner Inc., could be the first step toward ending a seven-year alliance between two of the web's best-known sites, although both sides said Google will still deliver search results and advertising to AOL. That arrangement is supposed to end until 2011.
But the relationship clearly isn't as important to Google as it once was or it probably wouldn't be seeking to get out of the AOL investment, said UBS analyst Benjamin Schachter.
Google paid US$1 billion to acquire a five per cent stake in AOL in 2006, largely to extend its advertising partnership with the company and keep it out of the hands of rival Microsoft Corp. At the time of the investment, AOL generated nine per cent of Google's revenue.
But Google has become progressively less dependent on AOL as Google extended its ad network to hundreds of thousands of other sites. At the same time, AOL has been steadily losing market share and become a financial albatross.
In the fourth quarter alone, AOL's online advertising revenue sank 18 per cent; during the same period, Google's online ad revenue rose almost 16 per cent. Rival Yahoo Inc. said online ad sales were roughly flat in the quarter, and Microsoft Corp. reported such revenue rose seven per cent.
To account for AOL's eroding value, Google wrote off $726 million of its investment in the fourth quarter -- a setback that led to Google's first quarterly profit decline in its history.
Eric Schmidt, Google's chief executive, indicated the company wasn't worried about the AOL investment in a conference call with analysts two weeks ago. He assured them that the deal with AOL and another decaying investment in Clearwire Corp. "made sense to us then and makes sense to us now and continue to be a strategic part of our overall business philosophy."
But last week, Google sent a letter to Time Warner to trigger an escape clause in the Google-AOL contract. The provision requires New York-based Time Warner to either spin off Google's holdings in an initial public offering or buy back the stake at the current market value.
Google's accounting adjustment indicates it believes its stake is now worth about $274 million, giving AOL a total market value of about $5.5 billion - down from $20 billion at the end of 2005. Time Warner said it's still evaluating how to respond to Google's request.
Google has had the option to back out of the AOL investment since last July. In a statement, the Mountain View, Calif.-based company said it decided to exercise the option now "so we could be in a position to sell our interest when the timing made sense for us."
The decision could have been influenced by the downturn in the online advertising market - the main source of Google's profits. Although Google fared better than analysts expected in the fourth quarter as more frugal consumers searched online for holiday bargains, recent evidence indicates the prices for Internet ads have fallen as people click on them less frequently.
The market trends have prompted many analysts to predict Google's revenue in the first quarter will be lower than the fourth quarter - the first sequential decline in the company's history.
The slowdown already has prompted Google to curb its free-sending ways. The company is serving fewer free meals to its workers, closing some offices, scrapping unpopular services and even has even off 100 job recruitment specialists because it doesn't anticipate hiring as many people this year.
However, Google still has nearly $16 billion in cash and marketable securities, meaning it isn't selling its AOL stake because it needs to raise money.
Schachter thinks Google's management may just see the handwriting on the wall, given that Time Warner is interested in selling AOL. Yahoo Inc. already has discussed taking over AOL, and Microsoft could still enter the fray as it tries to mount a more formidable challenge to Google. And if Yahoo or Microsoft were to buy AOL, Google will probably lose its search advertising partnership with the site too.
