Microhoo: Divining The Probabilities

Yahoo’s board has officially rejected Microsoft’s bid for the company, but that’s likely just a gambit to either pressure Microsoft to sweeten its bid or stall for time while Yahoo explores other alternatives. What’s the likelihood of Microsoft actually succeeding in its takeover attempt?

There are many possible scenarios. Will Microsoft have to increase its offer? Will a white knight make a bid and save Yahoo from Microsoft? Will shareholders revolt now that Yahoo has said no to the deal (institutions own more than 75% of the outstanding shares)? Will a sweetened deal be blocked by regulators due to anti-trust issues?

Many Wall Street analysts have written about the proposed takeover. According to Standard & Poor’s, 39 companies follow Yahoo, and 34 publish recommendations. Very few of these analysts appear to be overtly betting against the deal. Of the 39 recommendations, there’s just one “sell,” with 21 “holds,” 9 “buy/holds,” and 1 “buy” (and 2 “no opinion).

One of the sharpest analysts following internet stocks is Mark Mahaney, Director, Internet Research for Citigroup. Mark outlined Citigroup’s Derivative Strategies for Microhoo as a strategy for investors looking to use options to leverage any pure equity bets. Mark wrote that the stock market implies roughly an 80% success probability of the deal succeeding. He also wrote that the option market implies a 75% probability that a deal will be completed prior to the July option expiration and an 85% probability that a deal will be completed by January 2009. What about someone else taking over Yahoo? Mark assigns that a 65% probability.

Argus Investment research also puts an 80% probability of the deal closing, “considering Yahoo’s loss of market share to Google and Microsoft’s determination to capture the number-two position in the global online advertising market.”

Yahoo insiders are holding on to their stock, with just one member of the management team selling stock since the deal was announced. On February 8, Yahoo Executive Vice President, General Counsel and Secretary and director Michael J. Callahan, sold 12,687 shares, though that represents just 5% of his holdings in Yahoo.

Correction: A spokesperson for Yahoo has informed me that Michael Callahan didn’t sell shares—the company withheld some for taxes when he vested.