Microsoft, Yahoo, Google, oh my…

On February 1, Microsoft (NASDAQ: MSFT) announced that it was offering a bid of $44.6 billion ($31/share) to acquire Yahoo (NASDAQ: YHOO). This bid price represents a 62% premium over Yahoo’s closing price the prior day. Even at this price, many analysts are calling the bid price a discount since Yahoo, as of November 2007, had been trading at the bid price. Microsoft is taking advantage of Yahoo’s depressed price caused in large part by the recent economic downturn and the latest poor earnings report released by Yahoo in order to officially announce its long anticipated bid for Yahoo. Microsoft has employed The Blackstone Group and Morgan Stanley to advice on this acquisition while Yahoo has likewise hired Goldman Sachs and Lehman Brothers. Although not yet confirmed, it seems Yahoo is treating this bid as a hostile takeover and the board is meeting with its advisors to plan their takeover defense. Given Microsoft and Yahoo’s past relationship, it isn’t farfetched to imagine that this is actually the reality.

Microsoft has been on the offensive lately against the upstart new-comer in the telecom business, Google (NASDAQ: GOOG). Google has gained substantial market share in a relatively short time and is now the dominant player in the online advertising business. Microsoft and Yahoo have also lost significant market share in their search engine enterprises and ultimately lost the advertising revenue associated with them. Microsoft rationale is that the combined forces of Microsoft and Yahoo would make a better competitor and reverse the loss of market share saying “resulting benefits of scale along with the associated capital costs for advertising platform providers make this a time of industry consolidation and convergence. Today this market is increasingly dominated by one player. Together, Microsoft and Yahoo can offer a competitive choice while better fulfilling the needs of customers and partners”.  Microsoft is already claiming at least $1 billion in possible cost synergies that would improve its bottom line and effectively create a player in this $40 billion online advertising industry (italics added).

What is left to be said is that Microsoft is ignoring a crucial issue by commencing with this bid. No one denies that Microsoft needs to respond to Google’s continual market dominance in online advertising, especially given Google’s recent encroachment into Microsoft’s core product when it began offering complimentary office suite software that directly competed with Microsoft Office. Still, Microsoft tactics of acquiring, or purchasing stakes in, companies that also compete with Google is short sighted. While this tactic might work in the interim by providing short term stock gains (mostly due to speculation), Microsoft’s tactics does not provide the company with the ability to adequately compete with Google in the long run. None of the recent acquisition improves Microsoft’s intrinsic value – and by intrinsic value, I refer to the value of Microsoft assets based on its ability to return value on its shareholders equity (see definition here) – but only target its share price at the benefit of short term speculators. Microsoft should be more concerned with improving the technology behind its product offerings and offering products that can actually draw consumers away from Google’s products. Relying on acquiring companies that plan to develop this technology, or worse yet, acquiring companies that operating with similar archaic technology (when compared to Google’s) is not going to improve the situation that Microsoft finds itself.

I would rather not see this acquisition proceed, as it reeks of such M&A disasters like the AOL -Time Warner merger which, rather than creating the estimated $350 billion hydra, resulted in a $240 billion debacle after AOL’s revenue started tumbling soon after. Even Tyco (a company no other should be in a hurry to emulate), went on a buying binge in an attempt to hide its poor and dwindling earning before all the fraud, illegal tax shelters and accounting schemes were revealed (I should point out for my readers that the investment industry was close to awarding Tyco a blue-chip company before the company began its downfall). I would give anything at this moment to be on Goldman Sachs M&A advisory staff contemplating ways to prevent this acquisition from proceeding. It’ll give me the opportunity to practice all these anti-takeover techniques learnt in the classroom, such as the poison pill and golden parachute. As this potential acquisition will likely play out in the news and print papers over the next few months, I’m taking this moment as an opportunity to send a message to the industry; Wait for me. I’m almost there. Don’t use up all the fun before I arrive. Please.