Bank of America / Merrill Lynch Propose New Scenario for 'MicroHOO' Deal

Includes: MSFT, YHOO
by: TMT Analyst

In a new twist on the Yahoo-Microsoft (NASDAQ:YHOO) (NASDAQ:MSFT) saga, analysts at Bank of America (NYSE:BAC) / Merrill Lynch are proposing that Microsoft contribute their online services business and cash ($12bn-$21bn) to Yahoo in exchange for a 49% stake in the combined entity, with an option to increase its stake to above 50%. Under that scenario, they value the combined entity at $26bn to $41bn, with Yahoo shareholders receiving an estimated $14.20-$22.50 per share, including an immediate cash dividend of $4.60-$7.60 per share.

The firm’s rationale is that Microsoft’s online business is best left in the hands of a company with a core competence in Internet advertising, allowing Microsoft to focus on its core competence of software.

The immediate value to Yahoo’s shareholders would be a potential 5% to 65% upside to the share price and an immediate cash infusion. In addition, the combined entity would generate revenue synergies and consolidate Internet advertising share to two players, effectively reducing competition in the space.

For Microsoft’s shareholders, the benefit would be removal of an asset that is a drag on operating income and EPS and a higher valuation for the stub business if all goes well. Further, the analysts believe that the combined entity would lower integration and operational risks compared to a full acquisition, leaving room for management to acquire the remaining 51% at a later date when the combined entity reaches critical mass and is squarely profitable.

While this is a noble attempt at presenting an alternative to the MicroHOO drama that has gone on for the past year, I do not believe that it has legs for the sole reason that Microsoft is unlikely to agree to shed its online assets. Microsoft would want to hold onto those assets for competitive purposes with Google (NASDAQ:GOOG), for its cloud computing efforts, and for strategic purposes regarding the desktop. Further, management has indicated their willingness to continue to invest heavily in the online services business, thus, following this alternative would be a pointed departure from their strategic plans. Plus, I continue to believe that the best option for Microsoft is a full acquisition of Yahoo. However, the work by these analysts was solid.