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A Yahoo! Inc. (YHOO) Core Asset Sale is Full of Perilous Tax Landmines

Yahoo! Inc (NASDAQ:YHOO)

Yahoo! Inc. ‘s troubles are far from over. Its stake in Alibaba Group Holding Ltd. rightly trades at a discount. This is as per the Chinese e-commerce giant’s vice chairman, Joseph Tsai. He thinks so because selling it would trigger a big U.S. tax bill. “If there’s an easy tax solution, people would have figured it out already,’’ stated Tsai.

Tsai was speaking at the CNBC Institutional Investor Delivering Alpha Conference Tuesday in New York. “The fact that the Alibaba stake still sits within (Yahoo’s) Remain Co., is people haven’t figured out how to solve that tax problem. So that asset should trade at a discount because it has this big built-in tax liability.’’

Yahoo! Inc. (NASDAQ:YHOO) Sunnyvale CA

Yahoo! Inc. Sale of Core Assets Gives Rise to Other Issues

The firm owns about 15 percent of Alibaba, a stake that has a market valuation of about $37 bn. The internet firm agreed to sell its web businesses and real estate to Verizon in July. The deal was for $4.8 bn, leaving it with the Alibaba holding and a stake in Yahoo Japan Corp. There are also some IP assets. At the most recent annual meeting of shareholders, there was hardly any talk about the stake in Alibaba. This was even though most of Yahoo’s market value (at that time) of $35 bn was locked up in stakes. The firm holds these stakes into China’s e-commerce leader, Alibaba Group, and Yahoo Japan.

It was also reported that the CEO Mayer was laying off 15 percent of Yahoo’s workforce. This was planned to whittle the payroll to 9,000 employees. Mayer was thus trying to pull off a spin-off that would put the internet operations into a separate firm. Yahoo Inc. would then become a holding firm for Alibaba Group, and Yahoo Japan. And indeed, this happened as per a report from the Times of India earlier this week. There was an unsuccessful effort to spin off Yahoo’s investment in the Chinese internet giant. So later, the firm began to entertain offers for its core business earlier this year. A separate holding firm, under a new name, will keep Yahoo’s stake in Alibaba and some other investments.

Top Analyst Surprised at Investor Behavior

Ripple effects of Alibaba’s stock have been seen on Yahoo! Inc. ‘s stock as well. Smarter Analyst reported a few weeks ago that Merrill Lynch analyst Justin Post had weighed in on the firms. He came out with a favorable report on Yahoo! Inc. At the time of the report, Alibaba Group Holding Ltd stock was surging. It had appreciated 13% following the Verizon announcement to acquire the core business in a $4.83 bn cash deal. Post noted, “We are somewhat surprised that the market is still baking in a mid-30s tax discount”. He was talking about the Alibaba stake. He added that now the perceived Yahoo core business risk and spin-off regulatory risk has fallen.

“Take the (then) current BABA stock price of $96 and Yahoo Japan price of ¥423. Assuming ~$800 mn for the Excalibur patent portfolio, we estimate the implied discount to the BABA stake at ~36%. This is close to full taxation. There is full recognition that the shell investment firm could persevere as a standalone proxy for BABA indefinitely. This will hold true with a full tax discount. Hence, we think the opportunity for Alibaba to buy back its own shares at a discount warrants a smaller discount. This will hold true even in case of another strategic buyer to materialize,” the analyst added. Furthermore, Post comments, “We have been getting lots of questions on what Yahoo will do. We are being asked what the firm will do with its cash when the Yahoo! Inc.  sale closes in 1Q’17.

We think, at the current share price, buybacks would seem to make more sense than dividends. This is because of the BABA tax discount implied at the (then) current YHOO levels. That said, the firm cannot buy back shares when holding material non-public info. So, any buybacks would need to wait until the Verizon transaction is complete”. For investors eyeing 2016 returns, Post continues to believe the biggest risk waits for long-only investors. He advises to keep a watchful glance on the decline in BABA stock price. As per TipRanks, top five-star analyst Justin Post has achieved a high ranking of #16 out of 4,122 analysts. Post upholds a steady 76% success rate while realizing 19.9% in his yearly returns. When recommending YHOO, Post earns 10.6% in average profits on the stock.

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