Google to Buy 5% Of AOL for $1 Billion

The deal between Google and AOL is a setback for Microsoft, which had been talking with Time Warner since January. Google is the leader in Internet advertising and search, followed by Yahoo and MSN Search, which is a distant third.

For AOL, cutting a deal with Google gives the Northern Virginia firm some badly needed momentum. Once a high-flying Internet service, AOL had come to be seen as an also-ran that depended heavily on the money it made from subscribers who pay $23.90 monthly to connect to the Internet by phone. But as millions of users fled AOL for faster and cheaper Internet services in recent years, the business faced a crisis and began slashing costs. The new partnership with Google could reinvigorate America Online by associating it closely with one of the hottest firms in cyberspace.

The existing arrangement -- under which Google provides text-based ads and free search results on AOL -- will continue, with AOL keeping 80 percent of those ad proceeds and Google taking 20 percent. Businesses pay for such ads, which appear to the right of and above the free Google search results, only when computer users click on them.

As part of the new agreement, AOL also gains the right to sell Google-generated text-based ads that appear on the America Online network of Web sites. Currently, only Google can sell those ads. The change will enable AOL to approach advertisers with more options for reaching customers on the Internet.

In addition, AOL's video service will get brand-name promotion as part of Google's video search service. One source said AOL will also have the right to buy graphic ads that appear alongside the text-based ads Google traditionally has displayed to the right of its free search results.

Google's search results, based on equations that rank them according to relevancy, will not be changed as a result of the new partnership with AOL, sources said.

Google's $1 billion investment for 5 percent of AOL gives the America Online service an "implied value" of $20 billion. The five-year deal gives Time Warner the choice of maintaining its 95 percent ownership stake or spinning off a portion of AOL to shareholders to boost its stock price.

The terms of the final agreement were reached just after 9 p.m. Thursday in Parsons' New York office suite, where he was joined by Google chief Eric E. Schmidt and AOL head Jonathan Miller. Google co-founders Sergey Brin and Larry Page have close relationships with Miller, a factor that helped the deal.

In the end, a proposed joint advertising arrangement between AOL and Microsoft's MSN network proved complex and not as lucrative as the long-term potential of the partnership with Google.

Lawyers for Google and AOL will work out the final details of the new alliance over the weekend, before Time Warner board members, who have given their informal consent to the arrangement already, vote on the transaction.

"Microsoft is probably unhappy and hurt," said a person familiar with the long-running talks who spoke on the condition of anonymity because of the discussions' confidentiality.