Last week, I published a post (in response to a suggestion from a Yahoo! (YHOO) "Plan B" supporter) focusing on the recent sale of Overture Japan KK by Yahoo! to Yahoo! Japan. I complained that the sale price of just over $13 million was way too low for a company that did $395 million last year.
I was contacted by Yahoo!'s Investor Relations [IR] team the next day. I signed an earlier NDA with Yahoo! (due to previous discussions I've had with them this year) which prevents me from disclosing information they reveal to me which isn't public. Therefore, I want to respect that, but I did speak with them last week and had an opportunity to further press my case that they share more information to shareholders. They attempted to better explain the deal to me. Obviously, they believe this is a good deal for shareholders and they made their case for it. However, I -- and shareholders -- need more information from the company before coming to a conclusion.
So I call upon Yahoo! to share more information on this deal publicly -- even before the Q3 earnings call -- so that all shareholders can review it. The way this transaction has happened -- with only a release to date from Yahoo! Japan and no public comment from Yahoo! since then -- creates questions in the minds of shareholders that Yahoo! shouldn't allow to linger.
There was nothing in Yahoo!'s last 10-Q on the Overture Japan sale because the deal hadn't closed yet. The only public comments to date on this subject came from Blake Jorgensen during the last earning call. Here is a summary of those comments:
Let me spend a moment on our pending deal with Yahoo! Japan. We've been working towards transferring ownership of the sales operations of Overture KK in Japan to Yahoo! Japan. We're excited about this transaction because it should allow us better alignment of search and display advertising sales in Japan, making the business more competitive and essentially securing a favorable and very long-term revenue stream to Yahoo!.
The terms are not yet final, but once the deal closes, you will see several changes in our financial statements. We will no longer pay TAC to Yahoo! Japan and they will instead pay us a service fee, which we expect will be included in our marketing services revenue. As a result of the transaction, our GAAP revenue is expected to be between $200 million and $250 million lower in the back half of 2007 and TAC will come down commensurately.
Revenue ex-TAC will decrease modestly under the new structure as the new service fees will largely offset the lost affiliate revenue. The impact to operating cash flow is expected to be broadly neutral near term, but accretive for both companies long term, versus our prior arrangement. The transaction is structured to deliver value through a long-term service fee arrangement with only a very nominal upfront payment to us.
So, given only these details of the transaction (which are here), my questions as a Yahoo! shareholder to Blake are as follows:
- Why did Yahoo! do this deal in the first place? How are Yahoo! shareholders better off today versus prior to August 31st (when the deal was announced)? Better "alignment" sounds great, but why can't you get people aligned when they work in very close proximity in the same Tokyo neighborhood? Yahoo! Japan office is in Roppongi Hills Mori Tower, 10-1, Roppongi 6-chome, Minato-ku, Tokyo and Overture Japan's office is in 4-3-1, Toranomon, Minato-ku, Tokyo (in other words, the same Minato neighborhood). Beyond alignment, and given that Yahoo! received the "very nominal" $13 million for Overture Japan and that Yahoo!'s go-forward "revenue ex-TAC will decrease under this new structure," why do this deal? How are Yahoo! shareholders better off?
- Was Yahoo! at Risk of Losing the Paid Search Business for Yahoo! Japan? The only reason I can imagine for doing this deal from the Yahoo! perspective is the risk that they might lose the "favorable and very long-term" business from Yahoo! Japan. However, if that's true, how could Yahoo! have let itself get into that position in the first place? It seems inconceivable that Yahoo! -- when it was first negotiating an agreement with Softbank 10 years ago to set up Yahoo! Japan -- would allow Softbank (or Yahoo! Japan) to turf out Yahoo! in the future in favor of using a competitor for some services. In Yahoo!'s defense, the company didn't compete with Google 10 years ago and didn't have any idea that paid search would be as big an area as it is. Perhaps it is possible that Yahoo! Japan had this "out card" and decided to play hardball with Yahoo! If this is true, it raises questions about how Overture Japan's relationship was set up in the first place with Yahoo! Japan after Yahoo! acquired Overture in 2003.
- Is there a difference between "transferring ownership of the sales operation of Overture Japan KK to Yahoo! Japan" and selling Overture Japan KK to Yahoo! Japan for US$13 million? Blake's language specifically doesn't state that this is a sale. However, if Yahoo! has transferred ownership of the sales operation to Yahoo! Japan, what's left of Overture Japan KK? Isn't this a de facto sale? If it is a sale, how does Yahoo! justify this "very nominal" sales price of $13 million for a $395 million a year business?
- How does this deal in and of itself create more cash-flow for Yahoo! and Yahoo! Japan in the long-term? The language above from Blake implies that Yahoo!'s near-term revenue ex-TAC will take a hit, although cash flow will be "broadly neutral." Yet, both companies are supposed to see the deal be long-term accretive for cash flow. This deal appears to be about moving around how revenue, costs, and marketing service fees are reported from an accounting perspective, but I haven't yet seen such a deal between two JV partners which in and of itself made more money (or cash flow) to be shared between the partners than what existed before the deal. If this is the case here, how does the deal create more cash flow for both long-term?
- How are Revenue and TAC calculated between Yahoo! and Yahoo! Japan? As of March 31st, 2007, Yahoo! Japan had a trailing 6 months of revenue of $945 million (or about $1.9 billion annualized). Yahoo! recognizes 34% of this revenue itself on a trailing basis (as per its ownership stake in Yahoo! Japan) -- or $642 million of the annualized amount. That's roughly 10% of Yahoo!'s overall annual revenues. Yahoo! Japan reports TAC of about 28% of its revenues of $529 million of the earlier annualized amount. More light needs to be shed on how these two companies calculate revenues and costs both ways through their JV and what is changing under this new agreement. Blake's comments suggest that Yahoo!'s revenues ex-TAC will decrease from this deal, but that Yahoo! Japan will increase its service fees to Yahoo! He also says that affiliate revenue to Yahoo! will decrease. Can we get some more details on how all of this will actually play out? Is Yahoo! Japan -- in addition to sharing 34% of its revenues with Yahoo! -- also paying Yahoo! a fee for use of Overture Japan, which is additional revenue to Yahoo!? If so, how significant is this to Yahoo!? Is this the revenue that will now become the "service fee" under this new agreement reported as "marketing services revenue" by Yahoo!? Until we really understand what is happening under the terms of the deal, it's difficult for a Yahoo! shareholder to judge the benefits or negatives of the deal.
Disclosure: Author holds a long position in YHOO