Microsoft and Yahoo: Playing Chicken?
It's oddly quiet on the Microsoft-Yahoo! battlefront. Perhaps too quiet. More than two weeks after the software giant launched its unsolicited stock-and-cash bid (BusinessWeek.com, 2/1/08), worth about $42 billion currently, the two companies seem at a standstill. The companies could be talking behind the scenes trying to get a deal done. But just as likely, each could be waiting for the other side to blink.
Those close to Microsoft (MSFT) argue that it's Yahoo's turn to make a move. In Redmond's best-case scenario, Yahoo's board would capitulate and agree to a negotiated combination. Yahoo (YHOO) executives, though, seem unwilling to make a deal, especially at Microsoft's offer price, which represented a 62% premium over Yahoo's pre-offer stock price.
Since the original $31-a-share offer was made public, analysts and investors have frequently said they expect Microsoft to boost its bid, perhaps to about $35 a share. Some think the offer could climb north of $40 a share. The logic goes that a cash-rich, debt-free Microsoft needs to get the deal done soon as part of its effort to narrow Google's lead in the online advertising market.
For Microsoft, Hostile Could Be Cheaper
But there's at least some reason to think that Microsoft won't offer a penny more, particularly if Yahoo doesn't try to negotiate a deal. "There's nothing that's gone on other than us stating that we think it's a fair offer," Microsoft Chairman Bill Gates said in an interview with the Associated Press, published Feb. 19. "They should take a hard look at it." Should Yahoo continue to resist, Microsoft would likely launch an exchange offer to buy Yahoo's shares and nominate a slate of directors who would take control of Yahoo's board and back Microsoft's overture. The nominees would be voted on at the next annual meeting, sometime in June. Many analysts say Microsoft would probably prevail in this scenario as well, given the sorry recent performance of Yahoo shares.
While not inexpensive, the cost of a proxy fight pales next to the price of raising the offer. The math is pretty simple. Mergers-and-acquisitions experts say Microsoft would likely need to spend an additional $20 million to $30 million on lawyers and solicitation firm fees to fight the battle. Compare that to the price tag of upping the bid; for every dollar the offer is increased, the cost to Microsoft and its shareholders rises by roughly $1.4 billion. That's one reason why Microsoft could make this fight much nastier, perhaps as soon as this week.
There's clearly a danger in going hostile. Microsoft runs the risk of alienating an already doubtful Yahoo workforce, nervous about what Microsoft's bid means for the fate of the company. That would likely speed the drain of top talent that's leaving the company instead of waiting for the inevitable. What's more, taking matters to shareholders puts off by at least four months consummation of a transaction that's already likely to face a regulatory gauntlet in the U.S. and abroad (BusinessWeek.com, 2/4/08). All of which gives Google a gaping opening to gain ground on its two distracted rivals.
Yahoo: How to Hold Out?
While some shareholders would like Yahoo to act quickly, others clearly believe that Microsoft would prefer to pony up a few more dollars a share than take the trouble to go hostile. There seems little doubt that Yahoo eventually will need to negotiate. But there's not much harm for now in making Microsoft sweat. Microsoft CEO Steven Ballmer will take Yahoo CEO Jerry Yang's phone call whenever he chooses to dial. And that's true even after Microsoft launches a proxy fight, if it goes that route.
With that time, Yahoo will likely continue to troll for counteroffers like the recent negotiations with News Corp. (NWS). Reports suggest that the media giant would spin off its Internet properties, including MySpace, to Yahoo for, perhaps, 20% of the company, along with a possible cash infusion from private equity investors (BusinessWeek.com, 2/14/08). That deal might value Yahoo at about $50 billion, well above Microsoft's current bid.
As part of that deal, or separately, other reports say Yahoo has considered having Google (GOOG) take over its search ad operation. For Yahoo, the benefits include a cash boost as Google pays for the right to handle ad placement and other search-related functions, and reduced costs after jettisoning its own search ad operations. But putting that much control of the search market in Google's hands likely wouldn't pass regulatory muster in the U.S. and Europe.
Of course, few analysts believe that deal, or any other, could match Microsoft's current bid in terms of value to shareholders. But that's not really the point for Yahoo. As long as it has some time to maneuver, it will keep looking if only to ratchet up the pressure on Microsoft to increase its bid.
Indeed, both sides feel pressure. Some frustrated Yahoo shareholders are pushing the company to do the Microsoft deal, even if it means taking Microsoft's first and only offer. "I want to cash out, hopefully at $40, definitely at $36, and maybe even at $31," Eric Jackson, a Florida management consultant who is trying to organize shareholders to influence the board, wrote on his blog Feb. 15. "We don't want to crouch down in our airline seats, with our hands clamped behind our necks, preparing to drop back down to $18 and say, 'Alright guys, go to it, and get this puppy to $50 as quick as you can.'"
Moreover, many Yahoo shareholders also hold Microsoft stock, in some case much more of the latter. So they could be wary of Microsoft offering up too much more money; that might cost them in the long run, should Microsoft's shares decline on concern it's overpaying. And the deal starts to become dilutive to Microsoft shareholders at the price reaches into the mid-30s, analysts say. According to a new report from financial risk management firm RiskMetrics Group (RMG), the overlap in holdings implies that Microsoft ultimately will net Yahoo, but only at a somewhat higher price.
Pushing Microsoft is Bill Miller, a legendary fund manager whose Legg Mason (LM) firm owns 9% of Yahoo's stock. Miller recently told his investors that he estimates Yahoo's value at $40 a share. He encouraged Microsoft to sweeten its offer. That may be all the more necessary because Microsoft's stock has dropped, reducing the value of its bid to about $29 a share. With Yahoo's stock hovering around $30 this week, investors appear to be betting that Microsoft will raise its bid at least a little.
But that may only happen if Microsoft blinks first.