AOL, Microsoft Form Broad Alliance in Online Services

WASHINGTON — Ending a bitter rivalry, America Online Inc. and Microsoft Corp. on Tuesday surprised the online world with a broad marketing and distribution alliance that could prove to be a major threat to Netscape Communications Corp. and other Internet upstarts.

America Online will incorporate Microsoft’s Internet Explorer--a “browser” for the multimedia portion of the Internet known as the World Wide Web--into the basic AOL software package. In return, Microsoft has agreed to build direct access to America Online into a new version of its flagship Windows 95 personal computer operating system.

The agreement means that America Online, which with 5 million subscribers has emerged as the dominant online services company, will be offering the Microsoft browser as its primary option for customers who want to peruse the Web.

Although AOL on Monday agreed to offer Netscape’s competing browser, customers who want Netscape will have to make an extra effort to retrieve it online, whereas the Microsoft browser will be built into AOL’s PC software.

Meanwhile, by offering America Online software as part of Windows 95, Microsoft is formally throwing in the towel on its effort to build the Microsoft Network into a dominant online player. The deal comes less than a year after America Online Chairman Steve Case joined with CompuServe Inc., Prodigy Services Co. and other online services to pressure the federal government to block Microsoft from bundling the Microsoft Network with Windows 95.

Case had complained bitterly that Windows 95, which controls the basic operating functions of personal computers, gave prominent placement to the Microsoft Network icon on the computer screen while hiding and sometimes even disabling other online access programs.

The Justice Department last summer launched an investigation of the allegations, and department spokeswoman Gina Talmona said Tuesday that the investigation was continuing. But Microsoft Chairman Bill Gates and America Online’s antitrust lawyer, Simon Lazarus III, said they had not heard from the agency for months.

Case of AOL said the deal with Microsoft will level the playing field, even though future versions of Windows 95 will still display the Microsoft Network icon more prominently than that of AOL or any other online service.

“Microsoft will become our primary technology partner in this Internet space,” Case said. “This addresses the principal concern we raise” about consumers having a choice of online services.

Although Gates said Tuesday that there is “no significant financial impact” from the agreement “in terms of money flowing in either direction,” the pact could ultimately save America Online millions of dollars in marketing costs, analysts said.

That’s because AOL will no longer have to pay PC manufacturers millions of dollars in “bounty” fees for pre-installing online access software with new machines, since they will automatically be included with the Windows 95 operating system.

Industry analysts applauded the deal, and investors sent AOL shares up $7.125 to $55.50 on Nasdaq.

Netscape, under increasing pressure from Microsoft, put the best face on Tuesday’s announcement.

“What’s really going on is that consumer online services have embraced the Internet,” said Mike Homer, Netscape Communications marketing vice president. “Both Microsoft and we have known all along that AOL was likely to provide both of our browsers. Microsoft is providing theirs for free, so why wouldn’t AOL offer it? We believe that when customers are given the choice, they’ll choose Netscape.”

Tuesday’s agreement caps a recent flurry of deals made by America Online aimed at expanding its online franchise. In addition to the Netscape deal, AOL said Monday that it would make its content available to customers of AT&T; Corp.’s new Internet access service.

Times staff writer Julie Pitta contributed to this report.