A decade ago, Chinese internet company Sohu.com (SOHU 1.50%) spun off its Changyou.com video gaming arm in an IPO of the latter. Last year, with Sohu struggling to report a profit, the company reversed course and proposed to reabsorb its subsidiary (although it will be technically a "private" company).
Today, that merger became official -- and Sohu stock is up 21.2% as of 3 p.m. EDT.
Why such a big jump? In an upgrade announced yesterday, investment banker Citigroup explained the significance of Sohu's move: "Changyou will become a private company wholly owned directly and indirectly by Sohu," said TheFly.com in a recap of Citi's note upgrading Sohu shares. This arrangement will benefit both companies, and in Sohu's case, the benefit could be significant, inasmuch as it will no longer have to "deduct the non-controlling interest stake" in Changyou from its earnings.
Citi predicts this move will improve Sohu's own reported profits, making Sohu stock look less expensive as a consequence.
At a market cap of only $308 million, historically free-cash-flow-positive Sohu stock hardly looks expensive as things stand already. Although I'd prefer to see how the financials end up looking after this deal is effective before rendering a final verdict, at first glance, the incorporation of Changyou and its even more robust free cash flow into Sohu's business looks like a plus for shareholders in the latter.