Yahoo YHOO
May 01, 2015 - 5:51pm EST by
byronval
2015 2016
Price: 42.50 EPS 0 0
Shares Out. (in M): 948 P/E 0 0
Market Cap (in $M): 40,000 P/FCF 0 0
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT 0 0

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  • Sum Of The Parts (SOTP)
  • Arbitrage
  • Stub

Description

Yahoo presents a compelling opportunity to create the stub and capture 13% arb-like returns in 5-6 months generating a fully hedged IRR of ~30%.

The sum-of-the-parts math is displayed below. Current Yahoo share price is $42.40. On an undiscounted, tax-free basis Yahoo has assets totaling $47.18 – NOT including the core business.

The table at the right shows the SOP with realistic discount assumptions. I assign a 10% discount to the BABA stake because I expect that to be the outside limit of where SpinCo trades versus BABA. SpinCo will be a large, liquid entity greater than $30bn and should not trade at a greater than 10% discount to BABA, as I expect the ultimate upstream merger by BABA can be executed at a 5% discount.  SpinCo shareholders should not accept any discount above that given how liquid the entity will be.

I think that a 20% discount is reasonable for YJ. Yahoo management announced hiring financial advisors to assess alternatives for Yahoo Japan and from the tax diligence I have done, I believe that they can replicate the tax efficient BABA transaction. Therefore, I think the 20% is conservative but will keep it there until management explicitly announces its intentions.

A 10% discount is assigned to existing cash and $6bn to the core business. Each $1b of value in the core operations equates to roughly $1/share. I believe that with patent value and significant cost cutting potential, $6bn is a reasonable value, but you can plug in your own estimate if you disagree. There is upside to that number. Once Yahoo spins off BABA, attention will shift to the core and management will have to generate sources of value. They have already telegraphed patent assets in their 1Q14 call. I believe there is upside to the $6bn value.

At these adjusted values, the SOP for Yahoo is $47.78 – which is 13% upside from today’s price. We expect that the BABA spin will be executed by October at which point value should be realized.

In a very competitive market, this appears to be one of the more interesting trades I have come across. Interestingly, the spread has opened up by 4-5% in the last few weeks which makes this a nice entry point.

Risks include management making value destructive acquisitions and pursuing a growth strategy over one of cost rationalization. My view is that the risks for a large acquisition are diminished as public/activist pressure will make that a very uncomfortable route for a management team focused on reputation. Additionally, management has committed to an incremental $2bn buyback.

 

Sum-of-Parts: undiscounted and adjusted 

  Value per/share % of Val                Disc. Value per/share % of Value dsdds
BABA 31,159 $32.86 78%   90% 28,043 $29.57 70%  
JPY  8,123 $8.57 20%   80% 6,499 $6.85 16%  
BABA+JPY 39,282 $41.42 98%     34,542 $36.42 86%  
                   
Net Cash 5,463 $5.76 14%   90% 4,773 $5.03 12%  
TOTAL  44,745 $47.18 111%     39,314 $41.46 98%  
YHOO Current 40,200 $42.39       40,200 $42.39    
Implied Value to Core -4,544 -$4.79       886 $0.93    
                   
Core Business 6,000 $6.33 15%     6,000 $6.33 15%  
TOTAL VALUE 50,745 $53.51 126%     45,314 $47.78 113%  
                   
I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.

Catalyst

BABA Spin, YJ decision, rationalization, IP monetization 

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    Description

    Yahoo presents a compelling opportunity to create the stub and capture 13% arb-like returns in 5-6 months generating a fully hedged IRR of ~30%.

    The sum-of-the-parts math is displayed below. Current Yahoo share price is $42.40. On an undiscounted, tax-free basis Yahoo has assets totaling $47.18 – NOT including the core business.

    The table at the right shows the SOP with realistic discount assumptions. I assign a 10% discount to the BABA stake because I expect that to be the outside limit of where SpinCo trades versus BABA. SpinCo will be a large, liquid entity greater than $30bn and should not trade at a greater than 10% discount to BABA, as I expect the ultimate upstream merger by BABA can be executed at a 5% discount.  SpinCo shareholders should not accept any discount above that given how liquid the entity will be.

    I think that a 20% discount is reasonable for YJ. Yahoo management announced hiring financial advisors to assess alternatives for Yahoo Japan and from the tax diligence I have done, I believe that they can replicate the tax efficient BABA transaction. Therefore, I think the 20% is conservative but will keep it there until management explicitly announces its intentions.

    A 10% discount is assigned to existing cash and $6bn to the core business. Each $1b of value in the core operations equates to roughly $1/share. I believe that with patent value and significant cost cutting potential, $6bn is a reasonable value, but you can plug in your own estimate if you disagree. There is upside to that number. Once Yahoo spins off BABA, attention will shift to the core and management will have to generate sources of value. They have already telegraphed patent assets in their 1Q14 call. I believe there is upside to the $6bn value.

    At these adjusted values, the SOP for Yahoo is $47.78 – which is 13% upside from today’s price. We expect that the BABA spin will be executed by October at which point value should be realized.

    In a very competitive market, this appears to be one of the more interesting trades I have come across. Interestingly, the spread has opened up by 4-5% in the last few weeks which makes this a nice entry point.

    Risks include management making value destructive acquisitions and pursuing a growth strategy over one of cost rationalization. My view is that the risks for a large acquisition are diminished as public/activist pressure will make that a very uncomfortable route for a management team focused on reputation. Additionally, management has committed to an incremental $2bn buyback.

     

    Sum-of-Parts: undiscounted and adjusted 

      Value per/share % of Val                Disc. Value per/share % of Value dsdds
    BABA 31,159 $32.86 78%   90% 28,043 $29.57 70%  
    JPY  8,123 $8.57 20%   80% 6,499 $6.85 16%  
    BABA+JPY 39,282 $41.42 98%     34,542 $36.42 86%  
                       
    Net Cash 5,463 $5.76 14%   90% 4,773 $5.03 12%  
    TOTAL  44,745 $47.18 111%     39,314 $41.46 98%  
    YHOO Current 40,200 $42.39       40,200 $42.39    
    Implied Value to Core -4,544 -$4.79       886 $0.93    
                       
    Core Business 6,000 $6.33 15%     6,000 $6.33 15%  
    TOTAL VALUE 50,745 $53.51 126%     45,314 $47.78 113%  
                       
    I do not hold a position with the issuer such as employment, directorship, or consultancy.
    I and/or others I advise do not hold a material investment in the issuer's securities.

    Catalyst

    BABA Spin, YJ decision, rationalization, IP monetization 

    Messages


    SubjectPotential IRS change on spinoff rules
    Entry05/19/2015 04:33 PM
    MemberBiffins

    Apparently IRS is ticked off that everyone's doing tax-free spinoffs so they are looking to change the rules.

    If YHOO gets hit by a 25% tax on BABA stake, downside to NAV is $10. Stock moved $3 on the announcement. 

    Anyone have a view here?


    SubjectRe: Potential IRS change on spinoff rules
    Entry05/19/2015 04:57 PM
    Membersocratesplus

    at some point when the spinoff's assets are mostly publicly traded shares and only a relatively small amount of an operating business, the irs will start refusing to rule on what they will view as corporate bailouts.

    this is tax policy governed by reading the wsj headlines, similar to irs sudden reversal on offshore inversions.  i could go on about ad hoc nature of obama administration governance, but perhaps i'll leave it at that.  

    best question to ask is who is yhoo's lobbyist?


    SubjectTaxes?
    Entry05/20/2015 07:37 AM
    Memberalum88

    Assuming these IRS rumors are real why would YHOO have to pay 38% taxes on their BABA stake as opposed to 20% capital gains? Understand this is the rate they have mentioned (and what they paid on the IPO proceeds) but just trying to figure out why that is the case. Any good answers? 


    SubjectRe: Taxes?
    Entry05/20/2015 08:39 AM
    Memberalum88

    Just kidding....For C corps cap gains are treated as ordinary income 


    SubjectRe: Potential IRS change on spinoff rules
    Entry05/27/2015 05:54 PM
    Membersocratesplus

    this is a tough row to hoe under section 355.  ghc and brk did a deal involving a stock redemption tax free recently but there are various reasons why on those facts they could do it and the structure you suggest re yhoo won't fly.  

    without getting into tax/regs section citations etc, see eg http://www.washingtonpost.com/business/economy/how-warren-buffett-and-don-graham-are-saving-675-million-in-taxes/2014/04/10/2636dd60-c0ec-11e3-bcec-b71ee10e9bc3_story.html


    SubjectRe: Re: Re: Re: Re: Re: Re: Potential IRS change on spinoff rules
    Entry05/28/2015 03:22 PM
    Membertyler939

    Probably a stupid question, but can they structure the spin off as cash plus all of Yahoo ex-BABA, or would that be ruled to be a constructive spin off of BABA?


    SubjectRe: Re: Re: Re: Re: Re: Re: Re: Potential IRS change on spinoff rules
    Entry05/28/2015 03:47 PM
    Membersocratesplus

    short answer, if the current spin is denied a private letter ruling by irs, i dont see any structuring amendments for awhile.  at some point baba and yahoo could do a ghc/brk deal, which makes sense since the low basis baba stock can be redeemed by baba without tax consequences. 

    but the takeaway is irs wont look kindly on any restructuring soon after any denial.

    you might see yhoo try to do an offshore transaction using a foreign controlled subsidiary that owns the baba stake. gains realized in a tax haven. but again, i would think that there will be a decent time interval involved.


    SubjectYahoo To Engage Bidders For The Core Business While Pursuing Core Spin-Off
    Entry02/02/2016 05:16 PM
    MemberValueGuy

    From the Yahoo 4Q15A earnings press release:

    Separating our Alibaba stake from our operating business continues to be a primary focus, and our most direct path to value maximization. In addition to continuing work on the reverse spin, which we've discussed previously, we will engage on qualified strategic proposals."

    https://info.yahoo.com/press-center/article/yahoo-improve-profitability-accelerate-growth-213000875.html

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