Yahoo's Way Out

Based on weekend reports, Yahoo's board is preparing to reject Microsoft's offer, calling it too low for the Internet company's real value. If this were poker, someone might say that Yahoo raised on a bluff. But I don't think so. Yahoo has made a risky play that exposes Microsoft's weak hand.

Microsoft will have to go into debt to buy Yahoo—at least $10 billion by reasonable estimates, assuming the deal is half cash and half stock and Microsoft wants to leave some operating capital in the bank. That debt is the weakness in Microsoft's offer. A year ago—even a month ago—the debt wouldn't have been much of a problem. But there's a huge credit crunch going on in the United States right now that got a whole lot worse in just the past week.

Banks are seeing real problems in areas such as LBO, or leveraged buyout, debt that along with problems with commercial mortgages and bonds is putting a real squeeze on credit. I'm sure Microsoft is a good credit risk, but there still has to be money to lend. And Microsoft might look like a whole lot less of a good risk should the company have to borrow more to buy Yahoo.

Some Wall Street analysts project that Yahoo's board might hold out for $35 to $40 share, which could add as much $10 billion to $12 billion to Microsoft's offer of $31 a share. The high end would put the purchase closer to $60 billion, with a third—or more—coming from new Microsoft debt. During normal times, Microsoft could easily borrow that much money. But the U.S. is struggling against an economic crisis. Credit is too tight. Banks can't lend what they don't have.

Even if Microsoft tapped rich lenders, the premium price paid for Yahoo, whose value plunged about $20 billion in the months leading up to the unsolicited offer, would be risky. There is too much product overlap, too many cross-company cultural problems and too many potential integration issues. The more Microsoft has to finance, the harder the deal will be to justify to potential lenders.

Yahoo has few options. No white knight can be found, and shareholder revolt (e.g., lawsuits) is near certainty. But rejection for a better offer could actually hold back a successful Microsoft takeover.

Problem: Yahoo could be devastated by a protracted hostile takeover, even one that fails, or by a free-falling share price if Wall Street reacts badly to any rejection of the Microsoft offer.

Yahoo needs that white knight. Last week, Global Equities Research analyst Trip Chowdhry speculated that Microsoft made the bid to thwart an Amazon-Yahoo merger. I'm doubtful, but I do see Amazon as being a much better fit with Yahoo. A whole lot better. Amazon would have its own problems buying Yahoo, but strategically and technologically, the companies are highly complementary.

Their data centers would complement and extend the other's. Amazon's retail strategy would actually resonate with Yahoo's advertising strategy, and both companies are highly committed to multichannel approaches. There is very little product or services overlap, yet lots of mutual benefit. Amazon wouldn't have the same integration issues as Microsoft because of data center and platform commonalities with Yahoo and because of so little overlap.

Oh, and Google would face in Amazon-Yahoo (Amazoo?) much stiffer competition than Microhoo. Amazoo would have to work out channel conflict, perhaps, with other retailers using search and advertising services. Or Amazoo could evolve into something different—a cross between Amazon, Facebook and Google.

Today, we'll know if Yahoo raises Microsoft. Maybe Microsoft could win if the game were table stakes. But Yahoo's raise could buy time Microsoft doesn't have to waste.

Related Posts:

• Yahoo Poised to Reject Microsoft Bid, Google Watch, Feb. 9, 2008
• The Real Reasons Microsoft Wants to Buy Yahoo, Microsoft Watch, Feb. 6, 2008
• It's No Flickr of Hope, Microsoft Watch, Feb. 4, 2008
• Yahoo Music Is a Real Problem, Microsoft Watch, Feb. 4, 2008
• Yahoo Bid Reveals Microsoft's Fatal Flaw, Microsoft Watch, Feb. 4, 2008
• Google Fires FUD Volley at Microsoft over Yahoo Bid, Google Watch, Feb. 3, 2008
• Microhoo: The Worst Deal of the Internet Age, Google Watch, Feb. 2, 2008
• Is Yahoo Worth the Risk?, Microsoft Watch, Feb. 1, 2008
• How a Yahoo Merger Could Screw Up Microsoft, Microsoft Watch, Feb. 1, 2008
• There's No Must in Microsoft's Yahoo Bid, Microsoft Watch, Feb. 1, 2008
• Why Did Microsoft Yell Yahoo Today?, Microsoft Watch, Feb. 1, 2008
• Blodget Bludgeons Windows Live to Death, Microsoft Watch, Oct. 8, 2007
• Will Microsoft Yell Yahoo?, Microsoft Watch, May 4, 2007