Yahoo (YHOO) has been surrounded by drama for months. Its upper management has been a virtual revolving door. In Mid-2011, former CEO Carol Bartz was fired. Next, founder Jerry Yang resigned in January. Finally, Yahoo chairman Roy Bostock announced his resignation, which will be effective after Yahoo's annual shareholder meeting this year.
Yahoo has also had to endure some game-changing strategy shifts recently. The company went from being in a position to bid for Hulu, the video content streaming company owned jointly by News Corp (NWSA), Walt Disney (DIS), Comcast (CMCSA) and the private equity firm Providence Equity Partners, to withdrawing that bid. There were talks of the company going private and a lot of speculation that the company would be bought by Chinese Internet company Alibaba, if not someone else. Yahoo even began releasing its financial information to potential buyers - a move that Reuters called "a sign the troubled Internet giant is ready to put itself on the block."
Hedge fund manager Dan Loeb got involved in the third quarter 2011 after he initiated a stake in Yahoo for his fund Third Point. Loeb became the largest shareholder outside the company after his fund increased its stake in Yahoo by 17% during the fourth quarter 2011, bringing Loeb's stake in the company to roughly 6%. Richard Perry's Perry Capital held a significant stake in the company at the end of the fourth quarter as well.
Dan Loeb was one of the main catalysts for Yahoo's recent changes in management, even trying to instill himself and three others he had picked for the job on the board. His idea was to build "a powerful strategic planning committee that would promptly but thoughtfully map out a plan to take full advantage of the Company's valuable assets and stop its painful decay," but he was met with a fair amount of resistance from Yahoo's current board - enough so that Loeb has said he will engage in a proxy fight.
With everything going on with Yahoo, it is hard tell at face value whether the company is a good investment. We see quite a few reasons to think that it is.
First, we see significant value in Yahoo's Asian assets. As of December 2011, Yahoo had 35% stake in Yahoo Japan and 42% interest in Alibaba. Last year, Yahoo generated total net income of $1.05 billion, with about $268 million attributable to Alibaba and another $1.11 million attributable to Yahoo Japan. If Yahoo sells its Asian assets and is left with Yahoo.com and its other US assets, analysts believe the company's intrinsic value would be about $11 per share, versus its current price of about $15 per share. If the value of its Asian assets was added to that, the company would be worth about $20 per share.
In other words, if Yahoo sells its Asian assets, it would be a very cheap stock. In fact, the company is currently taking actions to evaluate a restructuring of its Asian assets to unlock some of that value. Yahoo has already been restructuring its Asian business over the past couple of years presumably toward this end.
In addition to its restructuring plans in Asia, we also like Yahoo for its search/advertising deal with Microsoft Corp (MSFT). According to the agreement, Microsoft will power Yahoo's search results and advertising, while Yahoo will sell premium search inventory. The agreement was reached in 2009. It was a bit disappointing at the beginning, but we think Yahoo will benefit from the deal over the long term, both financially and operationally. It will enable Yahoo to focus on and invest in its core businesses. Moreover, Microsoft has already promised certain related revenues into 2013.
Yahoo might not be a stock for dividend lovers, as the company does not pay dividends, but it does other things that benefit its shareholders, such as its share repurchase program. The company bought back $1.8 billion worth of its stocks in 2006 and another $1.6 billion in 2007, boosting its EPS. During the recession brought by the financial crisis in 2008, Yahoo was cautious about its balance sheet and its share repurchase program, reducing its share repurchase in 2008 and 2009 by $79 million and $113 million respectively. But it increased the amount back to the previous level in 2010 and 2011.
Yahoo bought back $1.7 billion of its stocks in 2010 and $1.6 billion in 2011. The company still has about $600 million remaining under the existing authorization of $3 billion announced in June 2010. As of December 2011, Yahoo had about $2.5 billion in cash and marketable securities and no debt, which indicates that the company has the ability to continue repurchasing its shares.
The company has a forward price to earnings ratio of 16.72, versus 26.80 for its peers. It also has a high gross profit margin at 81.30% and stable earnings per share. Yahoo is also extremely liquid. It has a quick ratio of 2.57. On the downside, Yahoo's gross profit margin is trailing the industry average at 22.30%. Also, its net operating cash flow growth rate is fairly short of its industry, weighing in at 6.99% versus 10.69% for its peers. Plus, its share price fell almost 9 percent last year while the market remained roughly level.
All in all, we think that there are enough positives surrounding Yahoo to make it a buy. We think that Loeb's influence is positive on the company and we are excited to see what is in store for the future.
Note: This article is written by Guan Wang and edited by Meena Krishnamsetty.
Disclosure: I am long MSFT.
