Alibaba Proceeds Not a Cure-All for Yahoo
Yahoo’s lack of opportunities to invest the proceeds from Alibaba’s IPO and pressure in the firm’s core business don’t make a compelling case, says Morningstar’s Rick Summer.
Commentary
We have erred on the side of caution in the past with respect to Yahoo's ability to realize value from its holding in Alibaba Group (BABA), which is set to price on the evening of Sept. 18. We believe Yahoo has primarily been a vehicle for investors to participate in the potential upside in Alibaba Group, but we have historically provided a margin of safety to account for valuation risk, the uncertainty of the timing of an IPO, and the potential for return of capital to Yahoo shareholders. Based on the pending IPO and our published fair value estimate for Alibaba Group of $90 per share, we are revising our fair value estimate for Yahoo to $42 from $39. We still do not see a compelling reason to recommend the shares of the narrow-moat firm, particularly based on our belief that Yahoo is disadvantaged versus the richer advertising platforms of Facebook and Twitter.
Our largest concern with respect to the potential liquidity of Alibaba Group for Yahoo shareholders is the lack of opportunities for the firm to invest in high return projects. Presently, Yahoo is set to sell nearly 122 million shares in the offering, and retain a 16.3% ownership interest in Alibaba Group. While we are giving the firm full credit for the Alibaba shares that are to be sold (at the expected IPO price of $68 per share), we are taking a 20% haircut from our fair value estimate of $90 to account for our concern that the shares are not reinvested wisely. If we did not take a haircut, our fair value estimate would be $47. Still, we prefer to be cautious, since the turnaround in Yahoo's core business has been slow to materialize.
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