On a sum-of-the-parts basis, Yahoo! is currently worth approximately $18.67 per share – with non-core assets of $12.27 and an estimated $6.40 valuation for Yahoo! “Core”. I estimate this figure will rise to approximately $23.32 per share by mid-2015 through a combination of growth in Alibaba’s enterprise value to $55B from $35B, growth in EBITDA to $1.8B from $1.564B and annual FCF generation of ~$579MM, for an estimated 3-year IRR of ~16% per annum.
Where Yahoo! becomes a highly compelling investment is through simple yet intelligent deployment of ~$18B of non-core assets over the next three years. A large-scale, multi-stage buyback program at an average price of ~$18.90 per share boosts the mid-2015 target price to $38.01 per share, for an estimated 3-year IRR of ~36% per annum – this figure only rises with tax-efficient disposal of certain non-core assets and/or a higher-than-expected terminal EV/EBITDA multiple.
Such math has compelled many a hedge fund manager to take a position in Yahoo! – entrenched management, a dysfunctional Board and lack of strategic focus, however, have led to the oft-posited conclusion that Yahoo! is where hedge fund managers go to die, as Yahoo!’s perceived hidden value has thus far failed to be unlocked. The latest hedge fund manager to give it a go is Third Point – an activist, event-driven investor with a ~6% stake representing over 10% of AUM (by far its largest single-security position).
Through a recent settlement with Yahoo! in order to avoid a proxy contest, Third Point received three seats on the Board (25% of total seats), two of which are occupied by restructuring experts Dan Loeb, head of Third Point, and Harry Wilson, Chairman and CEO of turnaround and restructuring boutique MAEVA Group.
Since Third Point first disclosed its position in September 2011, three key overhangs – lack of strategic direction, dysfunctional Board of Directors and unsubstantiated Alibaba valuation – have been addressed, two of which were the direct result of Third Point’s involvement (the sale of half of Yahoo!’s Alibaba stake was largely independent of Third Point as far as I can tell). With the key overhangs removed, I believe the path is clear for Third Point to catalyze the series of shareholder-friendly transactions so desperately sought by prior hedge fund investors over the next three years, alongside likely operational improvements.
Yahoo! announced that it is suspending its $5B buyback program designated to return the Alibaba sale proceeds to shareholders – the stock sold off considerably in the wake of the announcement upon fears of a dilutive acquisition-focused turnaround strategy. While the rumors currently flying around the tech blogosphere of Mayer wanting to make a “big splash” acquisition are relatively disconcerting, I strongly believe shareholder capital is in good hands with Third Point representation on the Board. A more likely scenario is that the Board gave Mayer the opportunity to start from scratch with all aspects of the Company, including capital allocation.
Yahoo! Core trades at ~2.1X NTM EBITDA versus ~5X for AOL, its nearest comp – a multiple that fails to reflect Yahoo!’s strong cash flows, leading brand name and strong traffic base. Valuing Yahoo! Core at 5X NTM EBITDA and assuming $12.27 of non-core assets per share, Yahoo! is worth $18.67 per share today.
The base-, mid- and best-case mid-2015 scenarios are $38, $45 and $67 per share. All three scenarios assume mid-2015 EBITDA of $1.8B, an Alibaba EV of $55B, accumulated free cash flow of $1.74B and a 4-stage ~$18B buyback program. Key differences between the estimated target prices include a tax-free sale of Yahoo! Japan for the mid- and best-case scenarios and a “take-out” multiple for Yahoo! Core in the best-case scenario.
Have great investment ideas of your own? Click here to enter the Value Investing Challenge and win a chance to speak at the next Value Investing Congress in NYC this October.