The Alibaba IPO Windfall Raises 2 Big Problems for YHOO Stock

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Nine years ago, Yahoo (YHOO) made a very wise investment. Yahoo decided to invest a whopping $1 billion in an e-commerce platform halfway around the world — a Chinese company by the name of Alibaba (BABA). In return Yahoo obtained a 40% stake in a company that The New York Times would go on to call “the Chinese equivalent of eBay (EBAY), Amazon.com (AMZN) and Google (GOOGL) wrapped into one company.”

The Alibaba stake has been keeping YHOO stock afloat for years.

Alibaba IPO YHOO stock BABA

Source: Alibaba website

Not a bad investment, right? Right. In fact, the Alibaba deal may very well be the best investment Yahoo makes this century. With the most recent price range for the Alibaba IPO coming in between $60 and $66 per share, Alibaba’s market capitalization will be about $155 billion if it prices in the middle of that range, according to The Wall Street Journal. Alibaba’s $155 billion valuation would make the Alibaba IPO the single largest IPO by market cap of all time. Yahoo’s 40% stake, nine years after the $1 billion investment, would be worth $62 billion on the day of the Alibaba IPO.

If you’re scratching your chin in a moment of cautious optimism, wondering why Yahoo’s market cap is less than $40 billion today, allow me to be the bearer of some bad news: There’s no arbitrage to be had here. That’s because Yahoo doesn’t own 40% of Alibaba anymore; the search engine owns about 24% after Alibaba wisely pressured Yahoo into selling Alibaba a percentage of the stake in 2012 for $7.1 billion.

Regardless, 24% of $155 billion is still a mountain of moolah — a mountain worth $37.2 billion to be exact. So how could all this money possibly be causing more problems for Yahoo? Well, one question Yahoo CEO Marissa Mayer is probably asking herself right now is:

What the Heck Are We Supposed to Do With It?

Yahoo’s total current assets will likely triple from around $4 billion to more than $12 billion when it sells a portion of its Alibaba shares in the Alibaba IPO, which is scheduled for next Thursday, Sept. 18. Due to an agreement between the two companies, Yahoo’s hand is forced: It must sell a percentage of its Alibaba stake when the Chinese behemoth goes public. When all the dust has settled, Yahoo will still retain a healthy 16.3% of Alibaba, according to Bloomberg.

Yahoo has already committed to returning 50% of the proceeds to shareholders in the form of dividends and stock buybacks, but that’s an easy call. YHOO will still have an enormous cash hoard left to play with. It’s a good problem to have, but it’s still a problem nonetheless. Try being one of Wall Street’s most visible tech companies and stashing billions of dollars in the bank to waste away and earn pitifully low interest rates. Within months, Carl Icahn will bust down your door, tell you he owns 10% of your company, and demand you spin off this business and that business or there will be an all-out shareholder revolution. “Oh, and by the way,” he will say, “your board of directors is a bunch of bums — fire them.”

Risk #2: Speculators Send YHOO Stock to Bubble-Like Levels

The second risk to YHOO stock is even more daunting than the first. While knowing where to invest the BABA windfall is certainly tricky, returning a large chunk of the capital to investors is a pretty good start. On top of that, while Yahoo may face the difficult decision of where to invest its billions, Yahoo ultimately chooses its own destiny with whatever decision it makes.

What’s out of Yahoo’s hands, however, is the market’s reaction to the Alibaba cash hoard. YHOO stock has soared more than 13% in the past month alone as bullish investors pile in, merrily anticipating a huge payday courtesy of the Alibaba IPO. But it’s not just the big payday investors are hungry for.

Some enterprising investors are gobbling up shares of Yahoo because of the 16.3% Alibaba stake the company will retain after the Alibaba IPO, not because of the cash influx. As a matter of fact, since most individual investors probably won’t be able to snatch up Alibaba shares for their official IPO price, the best way to get a piece of the Alibaba action before Sept. 19 is an investment in Softbank (SFTBF), which owns a 37% stake in Alibaba, or Yahoo, with its 24% piece of the pie. Since a larger percentage of Yahoo is tied up in its Alibaba holding, YHOO stock is the purer play if you’re a BABA bull.

While this excitement could work in favor of YHOO shareholders, it’s also a curse if Alibaba’s IPO is in any way reminiscent of Facebook’s bungled IPO in 2012.

As of this writing, John Divine was long GOOGL common stock.


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Article printed from InvestorPlace Media, https://investorplace.com/2014/09/alibaba-ipo-yahoo-yhoo-stock/.

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