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Thursday, September 07, 2006

M&A Redux: Would Microsoft Buy Yahoo!

Stocks: (MSFT)(YHOO)

If you scan the news every day, about once a month someone floats the idea of Microsoft buying Yahoo!. The most recent cut at this ball of cheese was at the one Monday. It wasn't a holiday for the Brit's so they thought they would write about mergers.

The argument is always the same. Microsoft has never been able to get MSN to work. It has the financial resources to crush Google, but not the expertise of traffic. Yahoo! is cheap now. It used to be $43, and now it is $28.

It all sounds OK. Some of the Yahoo! management might not want to work for Microsoft, but Mr. Softy may not need them.

The reality of how it might work is worth a look. Internet businesses and other media properties can go for as much as 12-times cash flow. That is if you have a sane buyer. Let's posit that in this case.

With a market cap of $39 billion, and about $2 billion in net cash after debt, the enterprise value is about $37 billion. Yahoo! has operating cash flow of about $1.7 billion. In a merger, let's say cost saving and organic growth could move that to $2 billion. At $37 billion, it makes no sense, even if it is a strategically desireable deal.

Yahoo!'s market cap has been as low at $34 billion this year, so at an enterprise value of $32 billion, the multiple is 16x.

Yahoo!'s 52-week low is $24.91. That is the lowest it has been since mid-2004. But, if the next round of earnings is not exciting, or Yahoo! delays its new search technology again, the stock could move closer to $20.

At that price, Microsoft should be a buyer.

Douglas A. McIntyre can be reached at He does not own securities in companies that he writes about.

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