MicroHoo!: The Attempted Takeover of Yahoo! By Microsoft

Case Overview

In February 2008, Microsoft launched an unsolicited bid for Yahoo at US$31 per share. With Yahoos share price closing at US$19.18 the previous day, this represented a 62 per cent premium and seemed like a deal not to be missed. However, Yahoos management resisted all of Microsofts efforts to take over the company, resulting in Microsoft withdrawing its offer in May 2008. The objective of this case is to allow a discussion of issues such as the role of the board and management in a takeover situation in the US and compare it with the situation in Singapore, the use of anti-takeover defences, and whether the takeover benefits shareholders of the acquiring and/or target company.

The Drama Unfolds: Sequence of Events

On 1 February 2008, Microsoft launched an unsolicited takeover bid for Yahoo, hoping to tap on Yahoos search engine and online advertising resources which would allow it to compete more effectively with Google. Microsoft offered to pay US$44.6 billion, effectively setting the bid price at US$31 per share. This represented a 62 per cent premium over Yahoos closing price the previous day. Yahoos share price immediately skyrocketed. In mid-February 2008, Yahoo formally rejected Microsofts offer, claiming that Microsoft had substantially undervalued Yahoos shares. Reports had indicated that Yahoos minimum asking price was US$40 a share. Yahoo co-founder and CEO Jerry Yang was seen by many as the main obstacle to the merger. Under Yangs leadership, Yahoo had enacted a controversial poison pill severance plan and it commenced a search for a white knight investor. With the fall in Microsofts own share price as well as to induce Yahoo shareholders to pressure the board to sell4 , Microsoft raised its offer to US$33 per share. However, Yahoos board rejected the offer, insisting on no less than US$37 a share. On 3 May 2008, Microsoft said it was withdrawing its bid. On the same day, Yahoos share price fell to US$23 and its share price dropped further to below US$20 in the following few months. A number of shareholder lawsuits against Yahoos board followed. On 3 June 2008, shareholder activist Carl Icahn joined the fray. Icahn echoed the charges in several lawsuits that Yangs deep hostility toward Microsoft and his defensive and self-interested conduct had scuttled the deal. Icahn also told The Wall Street Journal that should his proxy campaign prove successful, he would try to oust Yang, under whom Yahoos stock had plummeted from US$33.63 a share in October 2007 to US$26.15 a share, representing a drop of over 22 per cent.

Microsofts Interest in Yahoo

Microsoft CEO Steve Ballmer viewed the merger between Microsoft and Yahoo as an opportunity to strengthen Microsofts market position in the burgeoning online advertising market, which was at that time dominated by Google. A merger of the two companies would raise the combined entitys advertising revenues to US$4.74 billion. Although this still trailed Googles US$6.12 billion, it would serve as a more solid foothold for Microsoft in the lucrative US$40 billion online advertising market over which Google currently holds sway. As allies, Microhoo! would reach 86 per cent of US Internet users and control 59 per cent of the online display advertisement market. Although Microsoft seemed to be offering what looked like an exorbitant premium, especially considering Yahoos performance over the years, Microsoft expected to realise synergies that would more than make up for it. A letter from Microsofts Ballmer to Yahoos board of directors highlighted the benefits that were expected from the merger, including: (1) scale economics, (2) expanded R&D capacity, (3) operational efficiencies and (4) emerging user experiences.The merger was also purported to bring about cost savings amounting to US$1 billion a year10. Microsoft would also be able to leverage on Yahoos existing technologies and cut back on some capital-intensive projects such as the building of massive data centres. Though Microsoft initially pursued the deal believing that it would help it enter the lucrative online advertising market, the resistance of the Yahoo board was proving difficult. Many Microsoft shareholders were displeased at the companys attempt to diversify its business. Whilst diversifying would theoretically reduce risk to Microsoft and, by extension, to its stakeholders, diversification was something its shareholders could potentially do more effectively on their own. The protracted battle with Yahoo eventually took its toll on Microsoft, with its share price falling substantially over the 6 month period following the takeover offer, from US$30.45 per share to less than US$26 per share.

Yahoos Resistance

In spite of the benefits of the merger and overwhelming positive shareholder sentiment towards the merger, Microsofts takeover attempt met with strong resistance from Yahoo executives. Even after Microsoft sweetened the deal by raising its offer to $33 per share, Yahoo executives insisted on a minimum asking price of $37 per share, which was viewed as being absurdly high. Given that the 52-week high at that point in time was $33.63, an offer of $37 would represent a 93 per cent premium over Yahoos closing price as at 31 Jan 2008 ($19.18). They went on to enact a controversial severance plan and pursued alternative tie-ups with Google and AOL in an effort to put a stop to the takeover by Microsoft. Yahoo executives cited regulatory hurdles, pricing and strategic issues, undervaluation of Yahoo, and the loss of human capital and impact on employee morale in defence of their actions.CEO Jerry Yang expressed concerns over potential regulatory hurdles that could delay or even squash the merger with Microsoft, leaving Yahoo high and dry should they agree to the deal and move toward it, only to subsequently have it fall through.The pricing of the deal was also of concern to Yahoo executives. Microsofts original bid was half cash and half stock. As Microsofts share price dropped with the announcement of the takeover bid, so too did the value of the deal. Yahoo was also wary of being acquired by a much larger firm with little relevant expertise in its field. Despite its poor recent performance, Yahoo continued to remain profitable13. The same, however, could not be said for Microsofts loss-making internet division14 and comparatively low share of search queries (9.9 per cent compared to Yahoos share of 16.3 per cent in April 2009). Another disincentive for Yahoo to agree to the merger is the perceived undervaluation by Microsoft, as vehemently argued by CEO Jerry Yang. Sandeep Aggarwal, an analyst with financial-services firm Collins Stewart, estimated that if Microsoft paid US$15 billion for Yahoos search operation and US$3 billion a year to run ads on Yahoo Web pages, such a deal could add up to US$9 a share to Yahoos stock price well north of Microsofts last offer of US$33 a share. Concerns about lowered employee morale and the loss of human capital were also cited, as a merger with Microsoft would undoubtedly see a large reduction in Yahoos workforce as similar projects and departments were combined. On a more personal note, CEO Jerry Yangs emotional attachment to the company he co-founded, his deep-seated hatred of Microsoft, and even perhaps his hope to establish his legacy as an Internet visionary, also played a part in the decision to rebuff Microsofts takeover attempt.

The Reaction of Yahoo Shareholders

In light of Yahoos recent poor performance, many shareholders saw Microsofts offer as a good way to cash out on their investment, and thus were baffled by Yahoo executives continued resistance to accepting the offer. In the wake of the failed merger attempt, many shareholders filed lawsuits against Yahoo for breach of fiduciary duties. In mid-2008, Carl Icahn, who held about 5 per cent of Yahoo stock, initiated a proxy fight to unseat all of the existing board of directors. However, even in light of perceived executive incompetence, diminishing shareholder value and widespread shareholder dissent, it is often difficult to replace the board of directors in a large public company like Yahoo. With one of Yahoos largest and most influential shareholders backing the existing board, Mr Icahn finally dropped his proxy bid in July 2008 in exchange for three seats on Yahoos expanded board, not having been able to achieve his initial goals.

Looking Forward

In November 2008, Yahoo announced it had begun a search to replace co-founder Jerry Yang as chief executive. In January 2009, Carol Bartz was named CEO. Yahoo and Microsoft subsequently reopened talks and inked a partnership in internet search and advertising in July 2009. Yahoos performance continued to deteriorate, however, with revenues decreasing year on year, cumulating in the firing of Carol Bartz, with CFO Tim Morse stepping in as interim chief in September 2011. Since October 2011, there have been talks of certain groups of private equity firms looking to buy out Yahoo. In November 2011, it was reported that Microsoft had renewed its interest in Yahoo. On 4 January 2012, Scott Thompson, the President of PayPal, was named as the chief executive of Yahoo. This was soon followed by the departure of Jerry Yang from Yahoos board on 17 January. Analysts said that Yangs departure might speed up discussions to sell Yahoos prized assets, in particular, its 40 per cent stake in Alibaba and its investment in Yahoo Japan. Whether or not any deal pans out remains to be seen.

Discussion Questions

1. Did Yahoos management and board act in the best interest of shareholders when rejecting Microsofts takeover offer?

2. Discuss the actions taken by Yahoos management and board to block the takeover by Microsoft. Should such actions be prohibited?

3. In your opinion, do you believe that the offer by Microsoft is good for (a) the shareholders of Yahoo, and (b) the shareholders of Microsoft?

4. What are some of the key differences in rules governing takeovers between the US and Singapore?

5. Place yourself in Carl Icahns shoes. What are some of the difficulties a minority shareholder faces when dealing with a board like Yahoos? Are these difficulties similar in Singapore?