Thanks for nothing, Yahoo!
Here I was preparing a nice analysis on the merits of Yahoo! going private when low and behold, after bottoming out at $31 billion in market value (or $22.65 per share) last week, the stock has bounced back 14% in a few days to nearly $26 and a nice round $36 billion (all right, so it’s not such a round number).
It’s been a rough week or two. Money magician Jim “Can I Get a Booyah?” Cramer come out and suggests that Yahoo! would pop a few bucks (from $24 to $28) if Chairman and CEO Terry Semel gets canned. Well, sir, since the stock is halfway there can Mr. Semel stick around? I am all for bringing in someone who lives and breathes the Web but you might as well keep Terry Semel as Chairman and CEO… but who am I to argue with Mr. Cramer?
Indeed, it’s been a rough few weeks. Who am I kidding? It’s been a rough year: with Yahoo’s stock down from $45 to $25. That’s a lot of your market capitalization evaporated from your coffers.
And it’s not like Yahoo!’s main competitor Google has also been stuck in neutral: Google is gaining market share, acquiring flavour du jour startups and beating the Street’s numbers (ironically, it does not even give guidance), all of which make Yahoo! look like the ugly stepsister than no one wants to take to the prom. Worst off, even if you wanted to get directions to the prom, you’d be using Google Maps and not Yahoo! Maps. Like I said, it’s been a rough year.
Get a Grip!
Of course, once you take a deep breath, take a step back and take a deep breath, you realize that things are not so dire: in other words, get off the ledge, get back in and close that window!
The Stock Market is Always Right (Is it?)
Truth is that Yahoo! is still technically the best positioned company online. I say technically because it’s not what I think, it’s what the Street thinks.
Yes, Google is growing faster and could even go on to overtake Microsoft in terms of market valuation, but those are two technology companies and trade as such.
Yahoo! is an online media company and a great, diversified one at that. It offers tremendous upside, especially at these levels. Google’s risk level is so high (remember “Infoscape will be a trillion dollar company?”) that it better double over and over again to justify getting my investment dollars.
Anyway, the recent surge in the company stock is good news for shareholders. I have personally owned the share for a while now, have sat on juicy gains only to see those disappear. I was going to buy more when it hit $23 but I thought that I have enough in the stock, so I decided against that because I am busy investing in a new startup and I have to be somewhat more prudent. This isn’t Ben Affleck sitting at a poker table not knowing what to do with his latest film paycheck (though that does describe me last year!)
I did tell a lot of people to consider buying it because at $30 billion market value, it’s a screaming buy!
Private Equity
Before the latest issue of Business Week landed in my mailbox (yes, I still subscribe to some magazines) and questioned many of the practices of the private equity business, I began to wonder if Yahoo! would be a good target for an LBO (click here for MetaMojo.com’s search result for leveraged buyout).
Forget that private capital is getting a black eye for some of the industry’s tactics. That is part of the system: the same way that VCs partied hard, crashed and some got burned after the dot com bubble and are now recovering and doing very well, private investors are hamming it up these days and will invariably come back down to earth. But despite the excesses the question remains:
Should Yahoo! Go Private?
Note that some (many) companies go private only to go public down the road, sometimes very quickly, sometimes many years later.
But there is clearly an argument for Yahoo! to consider it.
1. Wall Street and Investors are Impatient
The main reason why Yahoo! should consider going private is to avoid having to put up with Wall Street and investors who seem to demonstrate an extremely short time horizon.
This is a very basic example of what I mean: a smart investor buys Yahoo! on July 20th and sells it on October 11th.
What’s that saying: sell in May, go away? In other words, if you are going to buy a stock in the summer, when so many people are on vacation, at least hold it into Q4… and if that stock is Yahoo!, who gets a lot of dollars in Q4 when media buyers try to spend all of their budgeted ad dollars, sell it in January, not October!
Alas, I certainly do not want to try to dispense financial advice to super successful private and public investors… but this is the kind of near term expectations that some shareholders have for Yahoo! - and I would figure that it distracts Yahoo! from continuing to grow the business over time.
2. Google Factor
Google does not give guidance, Wall Street sets it internally for them, yet Google has a tendency to crush the estimates. This drives Google’s stock up. Despite the fact that Yahoo! is a more mature company in terms of operating years and is a media and not technology company, Wall Street has no choice but to benchmark Yahoo! to Google, by doing so, Yahoo! will be perpetually discounted unfairly.
It’s bad enough worrying about your own business, but doubling up the fear factor because of what Mountain View is up to only adds to the challenge. Sometimes, it’s good to look at your competition, but my philosophy is “learn from your neighbor but compete with yourself.” Unfortunately, with Google growing its lead in search and launching products to eat away at MSFT or Yahoo!, Yahoo!’s brass and employees cannot feel but get flustered for nothing.
Everything Warren Buffett says about stock prices and the stock market is true. But let’s think back of another great man who had an eye for talent: Vince Lombardi.
“You never win a game unless you beat the guy in front of you. The score on the board doesn’t mean a thing. That’s for the fans.” Read more.
3. Short Term vs. Long Term Focus Hurts Yahoo!
On the day than Yahoo! announced its most recent quarterly results, Terry Semel said that its advertisers were finally playing with Panama, the Google-inspired search platform that will allow Yahoo! to narrow the variance between Google’s monetization rate and its own (and also incidentally cure Polio, bring peace to Israelis and Palestinians, shed light on who killed JFK and whose local search capacilities will pinpoint where Osama bin Laden is hiding).
But, did anyone pause and ask: what went on within Yahoo! walls to hit that “milestone” (of allowing advertisers to finally interact with Panama on the day the Q3 results were released). I’ve worked at small startups and large corporations to know that to hit one milestone, you have to let go of others (unfortunately).
How many other more important projects got delayed or set aside? Sure, I know what you are thinking: Panama is super important. Right. It is. Tell me about it in Q2 2007, when CFO Sue Decker says “it might impact the financials.”
4. Generating a Lot of Cash Flow
Yahoo! generates a lot of cash each year. It will continue to generate a lot of cash, probably even more so that Google (for every dollar of revenue it generates).
Two reasons for this:
a) Google is younger in its company life cycle and will hire a lot of experienced and expensive talent. When Google set off on its expansion for world [wide web] domination, it was coming off the dot com bubble bursting. So it had a lot of talented but suddenly risk-averse engineers, programmers and business types who welcomed the stability of a Kleiner Perkins/Sequoia funded startup (to read on my post on a potential Sequoia “conspiracy” in the Google - Youtube deal, click here). Not anymore! Even though Google’s stock can go gangbusters, most savvy would-be employees would probably ask for a lot more salary than they would otherwise because Google has already gone up plenty since its pre-IPO price levels.
b) Google being a technology company must maintain a high reinvestment rate, especially when Steve Ballmer comes out and says that the Redmond behemoth Microsoft will spend $7.5 billion in R&D this upcoming year. How can Google not spend that much? If it does, it will hurt its margins, but if it does not, maybe investors will panick and think MSFT will catch them up in search, off which Google derives 99.9% of its revenues.
For these and many reasons, Yahoo! can improve its margins over time, and so long as we care about profits and not revenue alone in computing valuations, Yahoo! should catch up to Google in terms of profitability even on lower revenue.
But this is meaningless because anything Yahoo! touches turns to soot while Google launches a product that will soon disappear from the radar (Base anyone?) and the Street celebrates.
5. Private Capital
We know the stats: there is a lot of private capital to go around. Yahoo! can get any terms on any deal. The best part is that Yahoo! employees sit and watch Google stock rise and its employees options fall in the money. I would assume that many Yahoo! employees have seen their paper wealth go down, and not up. Any private offer would have to be sweetened to include a nice premium.
6. Debt Remains Cheap
Debt remains cheap. Sure, interest rates have gone up since the practically 0% levels of a few years ago, but debt is not expensive and could help Yahoo! grow off the radar without having to please Wall Street.
7. Current Restrictions
Yahoo! is contemplating buying Facebook, not because Facebook is a must-have company, but because Yahoo! feels it needs to hurl a hail marry to excite Wall Street. I have nothing but mad props to give to Mark Zuckerberg for what he has done at Facebook, but as a Yahoo! shareholder, I am a tad concerned about culture issues should Yahoo! acquire them.
Everyone boasts that Yahoo! has deep pockets and can pull off the Facebook deal without a problem.
Really? I’ve read many people say that a $1 billion price tag for Facebook is something Yahoo! can afford. Yeah, Mojo Supreme can afford a $10,000 piece of must-have software many-times-over, but I’m not quite convinced it’s the best way to spend our capital right now.
Yahoo! is worth $35 billion, with some $2-3 billion in cash and equivalents. Buying Facebook for $1 billion represents 3% of its market cap.
Google is worth $130 billion, with some $10 billion in cash and equivalents. Buying YouTube for $1.65 billion (in stock) represented 1.2% of its market value, and in the days leading up to the deal, fueled by rumors, Google’s market cap rose by $10 billion. That deal has already paid off for itself, especially when you consider that Google will pay MySpace’s acquiring company News Corporation’s Fox Interactive Media $900 million after it paid a “paltry” $580 million for MySpace’s parent Intermix.
Anyway, if anyone thinks that these two acquisitions are equal in potential “Pepto Bismol” factor, they need to take Finance 101 and Organizational Behavior.
When Yahoo! bought Deli.cio.us, founder Joshua Schachter accepted a buyout of anywhere in the $10-30M range (judging by Wikipedia’s entry, so this might be wrong) and gladly relocated from Manhattan to a cubicle at Yahoo!’s headquarters on the West Coast. That’s integration that would make management consultants blush.
Yahoo! + Facebook will be a nightmare. I think that Jerry Yang and David Filo might put up with a lot and Yahoo! has certainly (since Flickr’s acquisition and integration) learned to keep things “as is” after they buy a property, but something tells me that Mark Zuckerberg would not be too happy a camper within Yahoo! As a shareholder, I’d caution Yahoo! management to be realistic about this integration matter.
I can think of many ways for Yahoo! to spend $1 billion in both accretive and growth generating acquisitions. Facebook can be both helpful to its P&L and market share and all, but it comes at a major risk.
8. IPO in 4 years?
The main reason why going private is not all that bad of an idea is that the Internet advertising business is growing very quickly, and indeed, Yahoo! remains very well positioned to grow in it. But, the public investors do not seem to care.
Note that a couple of months ago, some suggested taking MSFT private. That would be nearly impossible. But take Yahoo! private today and take it public in four years and you can easily double your investment:
9. Analysis
Let’s look at the numbers:
US Revenues
If US online advertising becomes a $25 to $32 billion industry (eMarketer projects the former, Morgan Stanley the latter). For simplicity’s sake, we’ll say the US online advertising industry will generate $30 billion in 2010.
Even with search getting 40% of that figure and Yahoo! trailing Google, Yahoo! will easily be able to earn anywhere from 15 to 30% of the total pie in the US (It will get 18% this year).
At 15% of a $30 billion online US ad industry, Yahoo!’s revenues will be $4.5B in the US alone. That’s just in America, and that’s at the lower range of 15%. If Yahoo! can a) make up market share in search and b) maintain/grow its lead in display, video and other formats of online advertising, it can generate 30%, that’s $9 billion. Google will generate 25% in 2006 of the total US ad industry and that’s just off search.
That’s in 2010, four years from now, when anything is possible. Google today logged in 25% of US online ad fueled largey by search alone. So for Yahoo! to go from a market share in search of 30% to 35% (for example) and improve monetization through Panama, then it is not inconceivable for it to hit 25% or 30% of US advertising dollars if its display/banners and video grows (forget all subscription revenues).
International Revenues
And, that’s just the US. In Q2, Yahoo! international revenues grew 38% globally versus 27% domestically in the US. I always project online revenues to be 1 to 1 for US versus international. So you can double those numbers by two:
Yahoo! could be generating revenues of $9 to $18 billion in 2010; its profit margin was 24% and 36% in 2004 and 2005 respectively.
Say it can maintain margins of 25% (hey, they won’t be hiring as aggressively as Google and there is only so much purple paint out there), this means that it can be generating profits of $2.5 to $5 billion per year, at a P/E of 25 (it’s now at 33 today), that’s a market cap of $62.5 billion to $125 billion in 2010, or an average of $93.75 billion.
With those kinds of revenues and margins, it will have more than $10 billion in cash, so a market cap of just over $100 billion.
Right now, Yahoo! is worth $36 billion.
Update:
A reader emailed me saying: “Ash, no stock, no currency to buy companies.”
And that changes from now how?
Consider a few things: Yahoo!’s days of buying companies for billions are in my opinion over. Facebook (if it happens) might be an exception showing how (somewhat unreasonably) desperate Mountain View seems to be, but Yahoo!’s most recent acquisitions like Del.icio.us and Flickr were for millions, not billions.
Regardless, if Yahoo! does go private (it won’t, we’re just pontificating), it will have sufficient billions - raised through debt - to acquire companies if need be.
My reason for pointing out the Facebook deal (which is caught in neutral) is that at $30 billion, Yahoo! does not have the high-flying stock to incenticize anyone to accept stock as easily as Google does (whose stock has grown from $85 to $485 in 3 years). Mind you, a conservative investor will realize that it’s more likely for Google to fall and Yahoo! to rise; a speculator would probably bet that Google can continue to increase in valuation, especially after looking at MSFT, a company that has gone down in value despite increasing revenues and profits.
Disclosure: I own shares in Yahoo! but that does not mean that you should too. There is really no way to ensure that Yahoo! will be worth $36 billion by 2010, let alone anything higher.
For more crazy valuations, email me at ash[at]mojosupreme.com.
Subscribe:
