SAN FRANCISCO — AOL has a new buddy: Bebo.
After several months of negotiation, Time Warner Inc.'s AOL agreed Thursday to buy the social networking site for $850 million, part of its bold strategy to grab a greater share of online advertising.
Analysts say it's a potentially powerful pairing if AOL succeeds where others have struggled, in making money from the growing Internet phenomenon of social networking.
That could prove daunting if the economic downturn takes a big bite out of online advertising dollars. Speaking at a Bear Stearns Cos. conference Monday, Time Warner Chief Executive Jeff Bewkes said AOL's advertising had slowed.
The deal makes a potential AOL pair-up with Yahoo Inc. less likely, analysts said. In an attempt to fend off a takeover bid from Microsoft Corp., Yahoo has had discussions with AOL about a joint venture or outright purchase.
There has been speculation for years that Time Warner would sell or spin off the troubled Internet unit.
The all-cash deal is a windfall for Bebo Inc.'s husband-and-wife founders, Michael and Xochi Birch, who in just three years turned the company into a popular destination for teens as well as major advertisers. The couple will leave Bebo, which they launched in their San Francisco living room and is their sixth start-up.
Now Bebo's challenge will be to reinvigorate AOL, the Internet pioneer that rose to prominence in the early 1990s with a similar focus on becoming an online hangout. Another innovation, its instant-message product, has remained popular even as the company aged and its fortunes sagged.
By combining its instant-messaging communities -- AIM and ICQ -- with Bebo, AOL hopes to attract more users and drive more traffic to its sites while jump-starting sluggish advertising growth.
"We feel we can get back into the leadership position in social media and community, which is our heritage at AOL," said David Liu, senior vice president of social media and messaging.
Time and again, AOL has sought to restore its former glory. Facing competition from Internet search giants Google Inc., Yahoo and Microsoft, AOL has shelled out nearly $1 billion for companies to create an online advertising network that sells ads on its own properties and across the Web.
Now, AOL wants to establish a beachhead in social networking.
"AOL was in danger of becoming your father's Oldsmobile," said Anthony Valencia, an analyst for TCW Group in Los Angeles. "This acquisition is designed to prevent that."
Yet, other companies enamored of social networking are finding it difficult to turn these hangouts into moneymakers. During its fourth-quarter earnings call Jan. 31, Google said it was having a harder time generating ad revenue from social networking. Google has a partnership with MySpace Inc., the leading social network, which News Corp. purchased in 2005 for $580 million.
Last year, Microsoft paid $240 million for a tiny stake in the No. 2 social-networking site, Facebook Inc., giving the Palo Alto-based company an eye-popping $15-billion valuation.
AOL Chief Executive Randy Falco defended Bebo's purchase price, which apparently was too rich for others. Analysts speculated that Bebo, which is privately held and does not disclose financial details, was on track to generate about $50 million in revenue this year. Bebo entertained bids from other major Internet and media companies before saying yes to AOL.
"It's a way for AOL to get some skin in the game," said Jupiter Research analyst David Card. EMarketer predicts that $4.1 billion will be spent worldwide on social network advertising by 2011, up from $480 million in 2006.
Falco called the Bebo deal "game-changing" for AOL. With 40 million users, Bebo is the top social networking site in Britain but trails Facebook and MySpace in the United States. In January 2008, Bebo had 22.4 million unique visitors worldwide who averaged more than 3 1/2 hours on the site during the month, according to ComScore Inc.
As at other social-networking sites, Bebo members interact by posting personal information, uploading photos and commenting on one another's profiles. It distinguished itself by partnering with major media players such as MTV and CBS and by producing such popular original series as "KateModern," the sequel to interactive drama lonelygirl15, which boasted sponsors such as Gillette and Microsoft's MSN.
Bebo also hired former Google executive Joanna Shields to grow the business. Discussions with AOL got underway after Shields gave a presentation last October to Time Warner executives that impressed AOL's chief operating officer, Ron Grant. Shields will stay on board as president of the 100-employee company.
The Birches -- Michael, 37, and Xochi, 36 -- are among the Internet's most recent success stories. Married for 14 years with two kids and another on the way, they stand alongside the creators of video-sharing site YouTube Inc., which sold to Google for $1.65 billion, and Facebook founder Mark Zuckerberg. The pair will cash out a majority stake in Bebo. Venture capital firm, Balderton Capital, which put in $15 million for a 15.7% stake, will pocket about $140 million.
Whether AOL can stage a comeback is another question. "Bebo has the potential of becoming a valuable asset to AOL if AOL manages it well and executes well," said Gartner Group analyst Ray Valdes. "It's unclear if they will be able to."