MSFT's Call Option on YHOO

Is Yahoo! (YHOO) checkmate?

In one word: yes. And that is why MSFT is all of a sudden in no rush.

1. A company’s Board of Directors does not have to accept a buyout offer, but if it decides to sell, then it has to accept the highest bid. Remember that.
2. Technically, before the Microsoft (MSFT) offer, YHOO had all of the options in the world, they included:
   • merge with Microsoft
   • merge with eBay (EBAY)
   • merge with Viacom (VIA)
   • merge with CBS (CBS)
   • merge with FIM / sell to News Corp. (NWS)
   • sell to AT&T (T)
   • be taken private
   • sell to Google (GOOG)
   • status quo (a $100B market cap by 2010?)

But since MSFT launched its takeover bid, everything changed. In fact, everything crystallized when MSFT removed its bid.

I doubt any of those companies will actually undertake any time to hold talks or conduct due diligence frankly, because MSFT effectively has a right of first refusal. A ROFR gives a party the right but not the obligation to buy an asset at a given price at a given time. In this case, the given price is not set in stone per se, but determined by whatever the best offer will be.

However, by pre-emptively striking with a $31 offer - and letting it be known via the media that it would go to $33 - no one else wants to bother to compete with MSFT.

Any company that wants to buy YHOO has to do so knowing that MSFT will go to $33, and maybe more… even PE firms cannot topple MSFT’s war chest. YHOO can remain independent but shareholders will press it to re-engage in talks with MSFT. In this scenario, MSFT has in fact gotten itself the right, but not the obligation, to acquire YHOO. In derivatives parlance, this means that MSFT has a call option on YHOO.

Where this gets crazy is that a call option usually has a set strike price at a given date (or before, if it’s an American option vs. a European which has a precise date). But MSFT is not even obligated to pay $31. It can technically argue that the time value of money reduces YHOO’s value… and I believe this is why Bill Gates is arguing that YHOO is worth less with each passing day. I do not think it will push for a lower bid, but it will use this argument to ensure that YHOO feel like a $31 bid is an act of good faith.

Continuing with the derivatives / call option analogy, if MSFT holds the call option (the right to buy) and decides to exercise it, then YHOO must sell.

Did MSFT plan all of this? Who knows. But surely YHOO miscalculated everything and heads will and should roll.

No wonder MSFT is in no hurry now.

Just wait for YHOO’s Q2 report which will probably not surpass expectations because Jerry Yang mistakenly pumped up expectations to argue for an independent YHOO. And now, YHOO is anything but independent.

I own 5% of what I owned on Feb 1. I don’t regret not selling it all, I am just very happy I sold what I did.

Those who say Steve Ballmer’s job is on the line are crazy. MSFT is erecting a monument in his honor in Redmond and soon, YHOO HQ.

Comments

[netstockanalyst]

YHOO's Put Option on MSFT:
Your "call option" assertion affording MSFT with a state of complacency omits Yahoo's wildcard (and MSFT's self-imposed death sentence) - and one that potentially will be announced next week: the YHOO/GOOG ad partnership. When this occurs, MSFT has lost the battle for internet dominance and the prized search biz forever. That's right - FOREVER!
So while I agree that Yang breached his fiduciary duty to YHOO shareholders, Ballmer did the same to his own. Post a YHOO/GOOG ad deal, Yang's $38 "put option" will look cheap to MSFT in retrospect - no matter whether YHOO stock is trading at $19 or $29.
Get it?
One more thing: If you take a closer look at the "Redmond monument being erected in Ballmer's honor", it's actually a 24K gold-plated guillotine waiting on deck.

[A737]

What call option contract??? What premium WAS paid for it???

[gatornose]

Not sure I agree with the option analogy. If the value of Yahoo stock
is bid up over $33 then the less likely Yahoo would accept a $33 bid.
Also, if a Google deal does increase revs for Yahoo then $33 is not
impossible. And, if that occurrs it becomes Google and Yahoo against Microsoft. Microsoft doesnt have a chance. I wonder if Microsoft will end up putting their best offer on the table before the stock holders meeting in July, or just hope a Google deal doesn't boost YHOO stock to where it is unreachable.

[A737]

There are no rights or obligations, MFST made an unsolicited bid that was NOT accepted, YHOO did not "LIST" themselves as for sale. There is no contract without imagination!!! Another thing, what makes it so clear that no one else could possibly want to merge/acquire YHOO at ANY point. Last time I checked I couldn't pick up many options with a zero premium for them! JMHO

[tresspass]

Search, advertise or die.....

If it was not for their mediocre/counter but imbedded suite of office products, they would be hanging around doing nothing. I liken them to a big Pharma whose patents are due to expire ( who does not thing this is an evolving fait accompli as we speak? ).

Leaner and meaner competitors are out gunning for them and winning----their browser is rapidly being encroached upon by FireFox which only gets better with time. Can anyone say the same for Explorer?
The meat is in products being sold via ads via the internet, period. Yahoo is the strongest second with MSFT a distant 3rd.

The best way for MSFT to leverage it's $$ is to bite the bullet, grab Yahoo before they ink a JV or outright by Google ; they're only hope.

If MSFT does not fo it by the summer I'm outta the damn thing and throw it all at Yahoo and Alibaba Pink...oh yeah, did we forget that in all the ink written, hardly a word is spoken about yhoo's vast asian , money making hand-over-fist internet properties? IMO, one of the 3 legs keeping yhoo's share price in the mid 20's and by the mid 30's come fall.

Check out Alibaba's recent blow out Q which is yet to be tabulated into Yahoo's next earning's report.

The only call I know from this article is the Yahoo calls for July and the slam dunk Octobers.

[709394]

What Yang did was to jack up the earning expectation fictitously in order to convince the shareholders that YHOO worth more than $33. What next? When July comes, Yhoo would probably have to inflat the earning to stop the price from falling.

If Yhoo worth $100B, why didn't the company just say NO WAY in the first place; $37 a share is hardly equate to $100B, or pay $35 to buy back the shares.

After more than 14 years since going public, Yhoo has yet to pay a red cent in dividend, let alone $3 in special dividend. What do you think it's financial situation is? Even Enron paid dividend.

When October comes, Yhoo would fall to $15 and if Msft considers a bid on Yhoo again, $19 would be the price.

[709394]

I don't think people gets it. The software & internet business is about imagination and innovation. Msft runs out of tricks because Gates and Ballmar are hitting the big 50's. So is Yhoo. Yang is being pull by the big 40. Age and experience go hand-in hand but go opposite direction with imagination.

Msft, Yhoo went high flying when Gates and Yang were in their early 20's. So are Goog and Facebook. Goog is much younger, it doesn't need Yhoo. It only sits on the sideline watching Yhoo drop dead. Otherwords, new young guys having tricks coming out everyday and the old guys become obsolete. This is why, Goog lures more online ads within 3 years than Yhoo has built in a whole decade.

In software/internet business, there is no such thing as DON'T TEACH OLD DOG NEW TRICKS. Old dog, no tricks, young dog, tricks are plenty. Tell us one new trick that Yhoo has had in the last 6 years.

What about Msft? Msft runs out of tricks too, but at least it has something contrete to sell.

[CHM97]

Solid thesis.

Any potential bidder/buyer of Yahoo will "underbid" knowing if he gets in a bidding war w/ MSFT he will lose and if MSFT does not want Yhoo there won't be other bidders. Your bid will be the only one at that time.

[Be Real]

MSFT is in big trouble imo. Look how many people are fed up with msft. People are getting rid of IE and going with Firefoz or safari in record numbers. IE sucks IMO. Everything msft puts out has major bugs in it and as soon as the bugs are worked out they sheet can the product and put out a new release...filled with bugs and other issues. Look at the people ragging on Vista....paying all that money to screw up their comp's, only to want to go back to XP....and so many are getting fed up, they are switching to MAC's to avoid msft all together. I myself am fed up with MSFT and I will never buy anything made by msft. If I feel this way, I cant imagine how others feel as not too long ago, I would have NEVER considered buying a mac but, I simply refuse to buy msft products anymore and I will not even use IE anymore on my current XP PC. GOOG is eating MSFT alive. GOOG makes a fortune in the online ad market so they can afford to develop and give away software. MSFT cant!! They cant win in search without yahoo and their business model is in jeapordy IMO, as it will not be too long before MSFT cant even sell software anymore because there are better products available for free and the people defecting away from ANYTHING MSFT is staggering. I always thought MSFT would rule the tech world, but they may have trouble even surviving. The number of people now ANTI-MSFT is amazing and once people decide to abandon anything MSFT, the chance of them going back to msft is very, very slim. Good luck MSFT!! If little ole me is fed up with you and not wanting to use or buy your products, I can only imagine how bad the situation really is for MSFT.

[simenwu]

Totally disagree with 709394. Steve Jobs is an old dog, but still full of tricks.

[jazzharmonicat]

Meanwhile, Microsoft continues to bleed money on its Windows OS, "Vista". Doesn't Microsoft need Yahoo for additional revenue?

[joekim]

I was also getting fed up with Windows XP and Vista. So I went with a variety of Linux, then another, and another. Linux flavors are great for everything other than what a typical business/video game/musician enthusiast needs. Then I bought a Mac with Leopard thinking that this would be the ultimate trouble free operating system. Suffice it to say, that I have learned that there is no perfect OS, and in all honesty (I don't own any MSFT), Windows XP and Vista are truly the most solid and trouble free operating systems available. I believe that Microsoft will continue to dominate in this field because of all the partnerships it has created over the years.

In terms of innovation, Microsoft just has to keep buying a few dozen little start ups every year for a few billion dollars and it will stay fresh.

[bato sa bato]

The only call option I see here is Ballmer's option to call Yang of Yhoo and say O.K. LET'S GET IT OVER WITH AT $35 AND CALL IT A DEAL!!!

[straight_talk_express]

"I own 5% of what I owned on Feb 1."

And then in the next paragraph:

"Those who say Steve Ballmer’s job is on the line are crazy. MSFT is erecting a monument in his honor in Redmond and soon, YHOO HQ."

Wait, why are you selling your stock, exactly?

If you expect me to take you seriously, please don't undermine your own article's credibility within 2 sentences of trying to make an amateurish point.

[vafer2k]

Has to be one of the oddest analysis I've read. Merge with cbs, att, or go private? huh? why not add EMC or Oracle while you're at it. Hey, Cisco got a boat load of cash too. Options, dericatives, puts & calls? Woah there. Keep it simple. It's a great move my MS to bring them to the table. The timing with the upcoming shareholders meetings is perfect. IMO, they meet in the middle at $35.

[testfunction]

Vafer2k has it. MSFT comes back and scoops Yahoo in the 30's. Where is MSFT going to get the same heft? Facebutt ? give me a break. It is annoying.

Ballmer/Gates are in effect teaching by example. They did not want to go hostile with all the attendent risks. Quite the opposite they want a mating. Thus the mating dance.

The key to getting the girl you want is to make HER want it. By the time this deal occurs the granola crunching crowd at YAHOO is going to actually want the deal. They have already made Yang and stock holders say it. Next the employees!

Its said Ballmer and Gates are wicked poker players. I believe it.

[testfunction]

fudge fudge fuged

[bill d]

Non-sensical analogy.
Why has not the price of YHOO gone back to where it was pre MSFT bid(s) ? I don't think it;s because of Yang's predictions.
Apparently the market thinks MSFT will get YHOO at it's current price once it's obvious YHOO won't go any lower.
The investors are beginning to revolt against the board (Yang).
I have some 30 JAN 09 calls in both MSFT & YHOO.
Had a profit in the MSFTs but being inherently greedy I'll wait.