Last Friday, Yahoo announced it was putting itself up for sale through a “leaked” memo. As an investor, my first thought always is, can I profit from such an announcement? Potential profit is the difference between the current price per share of 13.42, to one’s fundamental evaluation, X. X= valuation/shares outstanding, which is 1.26 billion. If I believe X is greater than the current pps, I will buy. So how does one appropriately value Yahoo!? I argue that one should take an asset based approach, where the business is equal to the sum of its parts. Each segment has to be adjusted to fair market value, what someone is willing to pay. Below is a simplified version of my valuation.
1) 43% primary equity interests in Alibaba. Recently valued at 32b, which = 13.76 billion
2) 35% equity interest in Yahoo! Japan (4689:JP). Market Cap is 1.324 trillion Yen, which = 17.35B USD. 35%= 6.07b
3) Core. 7x ttm eps. 7x (.881 eps x 1.26b shares outstanding) = 7.77b (Revenue is supposed to decrease this year, but increase 12% annually next 5 years.)
4) Total cash= 2.55 b
1+2+3+4= 30.15 billion.
X= 30.15b/ 1.26b
I will assign 30% variance, or 7.17 of 23.9. Therefore, potential buyout price per share could range from 16.73-31.07. Issues include taxes, foreign entities, hostile third parties, valuations, board incompetence, etc.
Yahoo's core is on the decline, which is verified in its 2nd quarter earnings release. Relevance is dwindling. However, it still enjoys phenomenal traffic and brand recognition, and is in an attractive sector. Regardless of one’s feelings, a company is worth whatever someone is willing to pay. Its 43% primary stake in the Alibaba group is seductive. Think eBay and more on steroids with mind boggling growth and unlimited potential. Yahoo Japan, Yahoo core, and cash are all just kickers. With the timeline remaining foggy and an incompetent board, risks are aplenty. The manner in which it is sold, as a whole, or in parts, also remains unclear.
Ultimately, this case is the definition of a calculated risk. The share price should continue to appreciate. Technically, since bottoming out August 8th, it has been in a bullish upward ascent. Fundamentally, Yahoo! is improving through the increasing valuations of foreign assets. The core business is declining, but still earning over 1 billion per annum. My price target is $24, per the reasons above. I see minimal downside risk at current price of 13.42 if the board acts swiftly and within the best interests of its shareholders. Yahoo! has screwed this one up before, and can’t afford to again. The repercussions of another failure could be apocalyptic. I think the board finally understands the magnitude of the issue and will act accordingly. The bottom end of my model, sans board insanity, is 17 per share, the median 24, and high 31. All are above the current price, so I will accumulate a larger position. The price may go down in the short term due to bad publicity or macroeconomic events, but in the end, shareholders will realize a $17-31 price per share, most likely in the 17-24 range.
I think the winner/ loser will be Microsoft (MSFT). Microsoft offered 44.6 billion dollars three years ago and remain desperate to keep up with Google (GOOG) and Apple (AAPL). This would be a bold, well perceived move, within their business vision. At that time, they offered Yahoo a 60% premium on its share price. Coincidentally, approximately 60% premium now is $24, my estimate. Look for a deal before earnings, 10/18/11. The memo was a manipulated event, read in between the lines.
Disclosure: I am long YHOO, via calls.