New Merger Talks Put More Pressure on Amazon.com

Amazon.com, a dominant brand in the infant electronic commerce industry, faces a war on two fronts now that N2K Inc. and CDnow Inc. announced they are in merger talks one day after German media giant Bertelsmann and Barnes & Noble Inc. agreed to an online partnership.

On Wednesday, New York-based N2K and CDnow of Jenkintown, Pa., acknowledged news reports that they were in negotiations, which could result in a company with nearly half of all online music sales. That deal, along with the agreement announced Tuesday by Bertelsmann to purchase a 50% stake in barnesandnoble.com, marks a maturing of online retail as competitors gird themselves to tackle Amazon.com.

“It’s like all the small kids on the playground ganging up on the bully,” said Bill Burnham, senior analyst with Credit Suisse First Boston.

Amazon.com has a customer base of about 3.5 million, by far the largest of any online retailer. In comparison, even though N2K and CDnow together have about 45% of the online music retail industry, they have only 1 million combined users and at least some of those are likely to overlap, according to research firm Jupiter Communications.

And the bulked-up competition does not diminish one of Amazon.com’s primary assets, and the currency of choice in online commerce: the brand.

“We’re talking about the brand business more than anything else,” said Michael Sullivan-Trainor, an analyst with Framingham, Mass.-based International Data Corp. “It’s a battle of deep pockets, and [e-commerce firms] are just merging to get deeper pockets. If they put their mind to it, and their money to it, they can do what the Internet market demands, which is spend a lot of money on marketing and technology.”

Amazon.com stock fell 14%, or $14.88, to $93.44 in heavy trading on Nasdaq on a day when the stocks of many Internet commerce companies plunged by double-digit percentage points on news that Sportsline.com would report lower-than-expected earnings. While CDnow stock enjoyed a small gain on the news of the merger discussions, from $7.94 to $8.13, investors felt it was even better news for N2K, which is considered the weaker brand, and they boosted the stock 22% from $4.50 to $5.50. Both trade on Nasdaq.

While it may seem like Amazon.com faces a war in stereo, neither deal threatens Amazon.com’s tremendous brand strength, at least in the U.S.

In Europe, however, where the nascent online retail industry remains up for grabs and Amazon.com has not gained a strong foothold, Bertelsmann will likely provide barnesandnoble.com an upper hand, said Nicole Vanderbilt, a Jupiter analyst.

Many believe that Bertelsmann bought into barnesandnoble.com cheaply, paying $200 million for half of the venture. Even after Amazon.com’s stock drop, the Seattle-based newcomer is still valued at more than 11 times that of barnesandnoble.com, based on the price Bertelsmann is paying for its half.

“Barnesandnoble.com has every bit of potential to be successful as Amazon,” Sullivan-Trainor said. “The only thing that can screw them up is a failure of continued investment by the parent company.”

The offline retail world offers some analogies to how the recent deals will play a role in the evolution of the online one.

The brick-and-mortar stores of Borders Group Inc. and Barnes & Noble have shown that people will go to a book store to buy music, leading some to believe that Amazon.com can do the same online.

Traditional music stores, however, have not been as successful selling books, hinting that CDnow and N2K might have trouble if they were to decide to branch out.

“It might not be as easy to make that transition into another product, particularly when they’re integrating their operations with each other,” Vanderbilt said.

Amazon.com, however, is faced with the challenge of broadening its strategy of using books as a Trojan horse to sell other products, which offer more promising growth and margins than books.

Also, even though traditional bookstores have had some success selling music and software, Borders and Barnes & Noble derive the vast majority of their revenue from books.

It’s unclear whether consolidations of other retailers in other media segments are to come. Movie video sales online have yet to really take off, although players such as Reel.com Inc. and BigStar Entertainment Inc. have begun to emerge, and online software sales have been diffused over numerous retailers.

* STRONG QUARTER: Yahoo’s earnings far exceed the expectations of analysts. C2