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Marshall Hargrave, stockpucker (439 clicks)
Long/short equity, deep value, special situations, growth
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Starboard Says Cut Costs And Spin Off Yahoo! Japan Mar. 16, 2015 4:06 PM ET | About: Yahoo! Inc. (YHOO), Includes: AOL, BABA, FB by: Marshall Hargrave Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More...)The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.
Summary
•Starboard put out another letter to Yahoo last week, this one being over 4,000 words.
•The activist lays out various plans for short-term “fixes,” but there’s still no clear path for long-term value creation.
•In the short-term there could still be an opportunity, however, assuming you properly manage the Alibaba position.
Jeff Smith, Starboard Value founder, was busy last weekend. Busy penning letters. Last week he sent a letter to Staples (NASDAQ:SPLS) and also found time to send a letter over to Marissa Mayer and Yahoo (NASDAQ:YHOO).
It's not a few paragraph letter saying, "Hey Marissa, why not spinoff Yahoo! Japan?" It's a 4,000 plus word letter. The key point is that Starboard isn't happy that Yahoo's stock price has fallen after the announced spin-off of Alibaba (NYSE:BABA) shares.
One thing that Starboard doesn't touch on is a merger with AOL (NYSE:AOL). That's a big hit to our thesis, taking out a key backstop. Putting two struggling businesses together and cutting overhead is a theme of Starboards (think: Staples and Office Depot). The key is that Yahoo and AOL together would be more formidable foes against Facebook (NASDAQ:FB) and Google (NASDAQ:GOOG) (NASDAQ:GOOGL) in the war for advertising dollars.
Recall that Starboard dumped 90% of its AOL shares last quarter. But kept its 0.8% stake in Yahoo.
But back to Starboard's gripes. Its thesis involves spinning off Yahoo! Japan, cutting costs, buying back shares and monetizing its real estate and intellectual property portfolio. If Yahoo does everything Starboard wants, the activist fund thinks that it could unlock $11.70 per share in value - or roughly 27% upside to the current stock price. But there's a lot to be done there.
And the Yahoo! Japan spinoff, or exploring of options, won't come until the Alibaba spinoff later this year, but let's focus on what Yahoo can get started on.
The positives and doable
One interesting point is that Yahoo doesn't need to hold $5bn or so in cash; rather, it can return the majority, up to $4bn, to shareholders. Assuming it isn't planning on wasting that cash on unfruitful acquisitions. On a $40bn market cap, that's fairly significant.
Cutting costs is another thing that seems logical, where the idea is that Yahoo doesn't need the majority of its staff. The company is bringing in less than $400k per employee in revenue, while the likes of Facebook is pulling in $1.6mm in revenue per employee. Yet, the fundamental issue is that cost cuts are a short-term fix, not a long-term one, which would include a clearer plan for growing the stop line.
Wait and see
In early March, we noted that we were playing wait and see with Yahoo. This comes as there's no quick fix for its operating costs, and monetizing Yahoo! Japan will be more complicated than the Alibaba spinoff - with Softbank's Masa Son having a say in the future Yahoo! Japan.
Its core business is pulling down a billion a year in operating cash flow. But the valuation story is well told. There's plenty of sum of the parts valuations out there that show that the market is valuing Yahoo's core business at virtually $0.
Clearly, somebody's wrong.
We went through the analysis earlier this month on shorting Alibaba and going long Yahoo in a trade to capitalize on the market's inefficiency, assuming there's some value still left in its core business.
Yet, looking at the market's inefficiency another way; is Alibaba grossly overvalued?
Valuing Yahoo! Japan at $7bn and $4.5bn after tax (assumed 35% tax rate), using its $7bn in cash, and valuing its core business at $4bn; all that yields a total value of $15.5bn. With a $41bn market cap, its Alibaba stake is worth just over $27 a share. Meaning that Alibaba's theoretical value is $155 billion, or right at $70 share. In that case, Alibaba is overvalued by 20% or so.
Is that really so unreasonable? At $70 a share, Alibaba would still be trading at 14.5x forward sales.
There's 101 ways to slice this. Earlier this month, we noted:
“The handling of Yahoo Japan will prove tricky, but it takes just a little to go right to make this an interesting story. Masa Son is a dealmaker and will have a say in what happens to his Yahoo Japan, even if it means buying the stake from Yahoo. Yahoo's core business, while it's debatable of the exact amount, still has some value.
Yet, Starboard appears to be reaching a bit in its recent letter, trying to squeeze value from all places (including IP portfolios and real estate). It's not an easy fix at Yahoo. It's unclear how it manages to grow the top line, where we thought a merger with AOL would be the easiest avenue. We don't see how cost cuts alone afford Yahoo's core business a 5.5x EV/EBITDA multiple, as Starboard suggests. We need some revenue growth to justify this. And then there's the idea that perhaps Alibaba isn't the great ecommerce giant everyone thought. If you're going to play the Yahoo SOTP/special situation story, do so with an Alibaba short.
Previous Starboard - Yahoo coverage:
Jan. 16, What Mayer should do next
Jan. 28, Digging through the Yahoo - Alibaba rubble
Mar. 3, Playing wait-and-see
Source: Starboard Says Cut Costs And Spin Off Yahoo! Japan
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