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Microsoft’s ultimatum expires on April 26th.  If no deal is struck by that date, they are threatening to take their offer to Yahoo’s shareholders and go hostile.    Is it a bluff or a promise? Only a few insiders know for sure.  But before that game of chicken can lead to an incident, two pivotal dates will first pass on the acquisition calendar: April 17th and April 22.  What happens on those two fateful April days may have a more significant impact on what happens next than just about anything else.

April 17th is the day of Google’s earnings announcement.  On the second date, Yahoo will announce results of their own.  Combined, information revealed from the pair of earnings releases will serve as a barometer for the Internet economy.  The numbers will give insight into the state of internet advertising.  They’ll show how far apart the two competitors (Google and Yahoo) are.  They’ll also set a benchmark for measuring the achievements of Yahoo’s management since Jerry Yang and Sue Decker took over.

Will forecasts prove accurate and allow Yahoo to say “Our plans are on track?”

Will that, in turn, empower shareholders to be courageous and keep their trust (and money) behind Yahoo management?

Or, will it be the alternative:   Will the numbers falter and support Microsoft’s more dire view of the economic climate?

And will that in turn lead to some form of capitulation? An acceptance of the offer?

Analysts and observers are weighing in on recently exchanged letters and trying to read between the lines.

• Piper Jaffray’s Gene Munster recently issued a note saying that a majority of 20 institutional investors polled favor the current deal to none at all.

•Cowen & Co analyst Walter Pritchard has written that the “letter set in a motion a process that is most likely to result in a transaction at or below the current bid price.”

• Legg Mason’s Bill Miller, whose firm is Yahoo’s second largest shareholder, is saying “Microsoft blundered” with the threat.

For all the insights, until those fateful April days (or another buyer(s) steps in as sometimes rumored), it’s all tea leaves and crystal balls.  Until the numbers hit, nobody knows.

There is only thing at this point that is even fairly certain:  a hostile takeover is most likely to harm all involved.

 

••  THE HISTORICAL CASE AGAINST GOING HOSTILE  ••
Hostile takeovers aren’t always bad.  The threat of them alone can often be a positive incentive to encourage managers to focus on the interests of shareholders.   

In this deal, the key point to remember is that hostile takeovers are rare in technology industries.  Between 2001 and 2005 there were more than 1400 M&A deals in the sector.  Only two major transactions (Oracle/Peoplesoft and HP/Compaq), linger in memory for the proxy fights that ensued.

(Note: HP/Compaq was not in fact a hostile takeover.  Management from both companies supported the deal but dissident shareholders disapproved and fought to block it)

This infrequency of hostile deals in Tech is no accident.  Technology businesses are heavily reliant on intellectual capital (the quality of staff in particular).  In buying Yahoo, for example, Microsoft isn’t just buying the brand, the web traffic or advertising services. They’re buying the teams that manage and build those assets.  

The uncertainties and confusion caused by a hostile offer can damage morale, increase staff attrition and decrease operational focus.   Already Yahoo has seen some staff depart.  The more prolonged a takeover fight is, the more difficult it will be to retain staff or operate effectively.  (A similar dynamic influence customers too.   A prolonged battle risks leaving them confused and uncertain about the quality (or longevity) of services they are considering buying. )

Evidence of these dynamics is evident in recent deals:

The most prominent hostile takeover in Tech was Oracle’s acquisition of Peoplesoft.  That deal took 18 months to resolve.  To get it done Oracle had to raise their initial offer from $16 to $21.  Along the way, both companies lost customers and staff. 

HP’s acquisition of Compaq is another deal of note.  It began as a friendly merger but board member Walter Packard concluded sacrificing a high margin business (printers) to acquire a low margin business (computers) was a bad decision.  With the help of the Hewlett family, he waged a nasty proxy fight to block the transaction.   It took HP 8 months and a few days in Court to close the deal.  Along the way, customers and staff were lost at both companies.

Even though both deals were consummated in the end, the baggage from the acquisition took a chunk from all involved.

•• THE SHAREHOLDER CASE  AGAINST THE DEAL GOING HOSTILE ••
As shown in the chart, 74% of Yahoo’s stock (and 82% of the float) is currently held by Institutions and Mutual Funds. Apart from regulatory approval, these shareholders will largely make the final call approving or denying any deal.

What is not widely reported is that a large portion of those shareholders are significant holders of both companies’ stock.  In fact, as detailed by the yellow lines in the graphic that follows, Microsoft’s five largest institutional investors (who hold 14.84 percent of the company) are also among Yahoo’s top seven shareholders.  (These  investors own 20.22 percent of Yahoo). 

Playing both sides of the fence puts these institutions in an interesting position. If Microsoft increases their bid price, their Microsoft holdings will drop in value and their Yahoo positions increase; effectively, a hedge. A decreased offer price will have a similar result in reverse. Either of those scenarios is manageable.   A hostile takeover, however, stands to damage both equity positions. 

The best case for these major stockholders would be a slight price increase ($1 to $4 a share) and a quick, friendly resolution.

•• THE LONG AND SHORT OF THE DEAL  ••
Microsoft and Yahoo are surely aware of both the Oracle/Peoplesoft deal and other hostile deals in the history of the Technology industry.  They’re absolutely aware of the potential consequences. 

Given a Microsoft acquisition of Yahoo is aimed to build a better Google competitor from the start, and given that a truly prolonged hostile battle will diminish the capacity to compete in the near term (for the companies together or alone)  it’s a fair question to ask if either side has the stomach for that risk.

 Additionally, given the overlapping shareholders, and the potential detriment to all, it’s similarly fair to ask if going hostile really is “in the best interests of the shareholders.”

Concrete numbers will make things more clear.   Earnings will bring a dose of factual reality.  Two days in April will be the fulcrum, the point on which whatever will come next will hinge. 

 

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