How Alibaba IPO can help Yahoo
The pending stock sale of Alibaba is good news for long-suffering Web portal Yahoo, which owns about a quarter of the Chinese e-commerce giant. But this could trigger a huge tax bill for Yahoo. How can it offset that? By using a tax maneuver involving floating new debt, John Malone-style.
Marissa Meyer, chief executive of Yahoo (YHOO), should do lunch with media mogul Malone. Not for any social reason, mind you, but for some advice on how to proceed with its Alibaba transaction. You see, Yahoo holds a 22.5% stake in Alibaba, which will have its long-rumored initial public offering this month.
Conventional thinking has the massive Chinese Internet company valued at anywhere from $125 billion to $200 billion, so Yahoo's stake is worth in the range of $28 billion to $45 billion. Yahoo has stated publicly it will sell about half the position or in the neighborhood of 140 million shares.
Malone, who amassed a fortune investing in cable TV and other media endeavors, famously hates tax leakage in a deal. So during a nice meal at a luxurious location of Meyer's choice, somewhere like the Four Seasons, our friend Malone might suggest another way of monetizing the stake.
Based on his past moves, his likely advice would be: Yahoo should issue convertible debt against the Alibaba position and have the maturity date be as far into the future as possible. As a result, Yahoo would have the same access to the large amount of cash the Alibaba stake will generate – and it will get to use the deduction on the interest due for tax purposes.
Eric Jackson, founder of Ironfire Capital, which runs a tech-oriented hedge fund, calculates that, thanks to the Alibaba offering, Yahoo will owe $10 billion to $20 billion in taxes.
Could Yahoo handle taking on more debt? The firm appears to have a healthy balance sheet, with a debt-to-equity ratio of just 0.10. At the moment, pre-Alibaba IPO, it has a cash hoard of $5 billion. In 2013, Yahoo paid a relatively low $43 million in interest on its debt. The company is paying 6.6% annually on its bonds.
Let's say Yahoo issued $28 billion in bonds, the lower figure of what it may realize from the Alibaba IPO. That means that, at 6.6% interest, it would pay $1.4 billion in yearly interest for the new debt, which it gets to deduct.
Operationally, to be sure, Yahoo faces obstacles. Revenue is down from last year, including that generated from search, its biggest source, off 8%. Its ad prices are falling in a competitive market. The company says its will return half its cash from the Alibaba offering to shareholders and will presumably use the rest to buy other media concerns.
It could still pay shareholders that big dividend and have plenty to spare to make plenty of acquisitions in the mobile phone space or other media platforms like Hulu or Spotify. Just as importantly, it would retain the other half of its Alibaba stake, a nice and presumably appreciating asset.
Many investors, including myself, believe Yahoo is clearly cheap, given the enormity of its assets vs. its market price (full disclosure: YH& C Investments owns it for clients).
Paying a massive tax bill without examining other alternatives would be sacrilegious from Malone's point of view. Indeed, he employed this same transaction in currently hedging a large stake in the Home Shopping Network. If you are interested in Jackson's thoughts on the matter, you might look at this article as well.
Usually, lunch dates are the responsibility of the gentleman but in this case, I would pick up the tab if I were Marissa.
Yale Bock , CFA, is the owner and operator of YH&C Investments in Las Vegas and is a member of the AdviceIQ Financial Advisors Network, which is a Paste BN content partner offering financial news and commentary. Its content is produced independently of Paste BN.