You can scour all sides of a marked-down Windows Vista box and completely miss the "now with cheaper Yahoo!" sticker. It's there. You just need to keep looking.
Microsoft's (Nasdaq: MSFT ) move to slash retail prices of its latest operating system may not seem to have a material negative impact on the software giant's hostile takeover attempt on Yahoo! (Nasdaq: YHOO ) . A New York Times blog entry even boldly suggests that a desperate Mr. Softy may find itself bidding more for Yahoo! as a result of its dwindling software prospects.
I don't buy it. The more I think about it, the more I believe that the opposite will happen.
Let's start with the obvious reason: Any corporate moves that hose down Microsoft's fundamentals will bring down the value of the current offer on the table.
Microsoft's stock took another haircut on Friday's news. The move is the latest markdown of a cash and stock deal that was originally valued at $31 a share for Yahoo! shareholders.
The initial price snips came several weeks ago from Wall Street's reaction to Microsoft potentially overpaying for Yahoo!. Investors lopped tens of billions in market capitalization off of Microsoft, fearing both the earnings dilution and the wipeout of its dwindling cash balance. It wasn't enough to deter Microsoft from its pursuit. It certainly wasn't enough for Yahoo! to argue that it disagreed with the market's opinion, suggesting that it was worth even more than Microsoft was offering.
Then it was a combination of tech stock weakness and disintegrating values of online companies. Now it's Microsoft with a self-inflicted wound on its gunshot-riddled body.
All roads lead to lower prices
With Microsoft shares closing at $27.20 on Friday, it values the stock half of its buyout offer at $25.86 a share (given that Yahoo! investors would be getting 0.9509 shares of Microsoft for half of their shares). The cash portion sticks true to its original $31 price tag, giving the deal a blended worth of $28.43 per Yahoo! share.
In a nutshell, the cheaper that Microsoft's shares get, the cheaper its buyout price will be. Can't Microsoft sweeten its offer? Can't Yahoo! receive better buyout deals from other bidders?
Those are fair questions, but Yahoo! bulls are unlikely to enjoy the blunt answers. No one appears to be bidding against Microsoft here. The market's reaction to Microsoft's stratospheric offer is enough to scare away any potential suitor. So why would Microsoft go higher if it's the only one with an outstretched bidding card on the auction floor?
Even refreshing its bid to bump the value back to $31 a share is unlikely and unnecessary. Microsoft will be using up all of its cash and short-term investments as part of the original offer, and it's unlikely to become a leveraged company in pursuit of Yahoo!. Raising the stock portion of the deal -- by upping the exchange ratio and making it a bigger percentage of the deal -- would only sink Microsoft's stock even further.
Alternatives to Microhoo
Yahoo! doesn't have to accept Microsoft's offer. If the deal is squashed for good, likely sending Yahoo!'s shares back into the teens, shareholders will revolt quickly. A new regime with fresh ideas will be installed.
At that point, Yahoo! can cash in on its Asian investments by spinning them off to investors or using sales proceeds to go on a shopping spree of its own. With its lofty valuation, nearly every dot-com buy would be accretive to Yahoo!'s bottom line.
That same argument may also cheer Microsoft investors if it turns its attention to cheaper Web plays. Instead of buying Yahoo! at its original offer of 56 times next year's projected profitability, it can turn its attention to more reasonably priced search engines. Google (Nasdaq: GOOG ) and IAC (Nasdaq: IACI ) now trade at earnings multiples in the teens based on next year's market forecasts, even if Google is obviously too big a fish for Microsoft to swallow. Once-pricy content sites like The Knot (Nasdaq: KNOT ) and Bankrate (Nasdaq: RATE ) have been marked down to year-ahead profit multiples in the teens, too. Even if you back out Yahoo!'s Asian investments, these faster-growing companies are trading at roughly half of what Yahoo! is being valued at.
In short, both Microsoft and Yahoo! may be better off as stand-alone companies, doing a little bottom-fishing in higher-margin ad markets that would drum up their moribund online advertising businesses.
Microsoft under the heat lamp
With so many bargains to be had, why is the New York Times' "Bits" technology blog suggesting that Microsoft should pay even more for Yahoo!? The thesis is sound at first. Microsoft has spent the past few fiscal years losing money in its Xbox and MSN businesses. It turned the corner of profitability with its Xbox during the first half of fiscal 2008, but this is still a company that lives and dies by its software stronghold.
That livelihood is being threatened. Dropping the retail price of Vista may seem like a petty move, especially since the bulk of its adopters are buyers of new computers with Vista pre-installed, but it's the first step in the realization process that Microsoft may not be as relevant in five to 10 years as it is today. The Web-based delivery of application and productivity software, in some cases for free, and the growing popularity of open-source operating systems and Web browsers are here to stay.
I get it, but that doesn't tell me why Yahoo! is seen as the only pill in Microsoft's survival kit. Even a speedster like China's Baidu.com (Nasdaq: BIDU ) is now trading at a cheaper forward multiple than what Microsoft is offering for Yahoo!.
This isn't the time for Microsoft to settle down, not when the singles bar is brimming with hotties. Don't worry, Yahoo!. There will be plenty to go around for you, too.
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