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CDNow, Columbia House terminate merger deal

The online retailer and music club end their merger agreement, just months after signing a deal.

Online music retailer CDNow and music club Columbia House have terminated their merger agreement, just months after signing a deal.

Backed by owners Time Warner and Sony, the companies agreed to merge last July. Seen at the time as a way to bring the mail-order music giant into the world of e-commerce, the merger was also expected to further the sale of music downloads online.

The deal called for Time Warner and Sony to each own 37 percent of the new company, with CDNow's shareholders owning the remaining 26 percent. Scott Flanders was named as the combined firm?s new chief executive in September in hopes of reviving CDNow's sagging stock price.

The companies today announced that instead of merging, Time Warner and Sony will commit $51 million to CDNow. The companies said that $21 million will be earmarked for an equity stake, while the remaining $30 million will be converted from a short-term loan into long-term convertible debt.

CDNow also announced that it has hired investment bank Allen & Co. to help the company explore ways to reduce its operating expenses and expand its business.

The companies did not disclose a reason for the breakup in their statement. But increased competition from heavyweights such as have kept investors skeptical. CDNow's stock has slid from its high of $39.25 to around $8.25 today.

According to Bloomberg, CDNow chief executive Jason Olim said the company picked the wrong partner for its merger.

"It didn't make financial sense any more," Olim told Bloomberg. "The cash position and debt levels at Columbia House were not what we envisioned when we agreed to merge in July. It became clear to all of us that Columbia House was the wrong vehicle."

One source from a company involved with the merger said the reasons go beyond Columbia House's finances, however.

Separate from Columbia House's finances, Sony and Time Warner were concerned that CDNow's growth was being overshadowed by Amazon, the 800-pound gorilla of e-commerce, the source said. In addition, Time Warner's pending mulitbillion-dollar merger with America Online changed the media giant's "strategic outlook," which left CDNow out of the picture, the source added.

CDNow was No. 1 among the top 20 online retailers in February, with more than 1 million unique buyers, according to Internet research firm PC Data Online., which has led the online retail ranking since June, had 984,000 unique buyers last month, PC Data said.

CDNow said it has more than 3.2 million customers. During the fourth quarter, sales more than doubled to $53.1 million, while customer traffic almost tripled.

Bloomberg contributed to this report.