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Turnaround Projects AOL, Yahoo Now Takeover Targets?

Stock declines build buyout buzz

AOL CEO Tim Armstrong

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For struggling tech giants AOL and Yahoo, the word of choice for executives describing their company’s strategy has been “turnaround.” But with both stocks trading at considerable discounts, some think a new word might be filtering into their vocabulary: “takeover.”

Since AOL CEO Tim Armstrong took over at the end of 2009, the company’s stock price has dropped about 47 percent, closing at just under $12 Thursday. After the New York-based company announced disappointing earnings earlier this month, shares experienced a single-day drop of about 25 percent, hitting an all-time low of $10.22 the next day.

The situation isn’t much brighter in Sunnyvale, Calif., for rival Yahoo. Since Microsoft tried to acquire the company in 2008, the stock has tumbled about 55 percent. Last week, Bloomberg reported that shares were so discounted that a potential buyer could acquire Yahoo for less than the value of its stakes in its Asian assets Alibaba Group Holdings Ltd. and Yahoo Japan. In a takeover, it said, the U.S. Web portal would essentially be free.

In the past, both Armstrong and Yahoo CEO Carol Bartz have said that their companies are not for sale. Armstrong emphasized that point recently at the company’s investor day in June. But some analysts speculate that whether or not the companies want to sell all or parts of their businesses, private equity or firms that see a strategic fit will soon start circling.

“Within the next year, something is going to happen with these companies. It needs to. Yahoo has been disappointing since spring 2008. . . . AOL has been disappointing since 2010,” said Sameet Sinha, an analyst with B. Riley and Co. “It’s very clear someone is going to step in and buy these guys or some sort of financial engineering will happen.”

A Bloomberg story Thursday floated the possibility of AOL as a takeover target for private equity interested in a cheap entrée to the Internet. But Sinha said he doesn’t think private equity would be interested in the entire company, just its cash cow access business.

While the company’s core business, including display advertising, is running at a loss, he said, the access business is providing more than 150 percent of AOL’s EBITDA (earnings before interest, taxes, depreciation and amortization). The AOL access business could be acquired for about $1.5 billion, Sinha said, which is about the same amount it would generate in the next three years. The business is declining, but would still turn a reliable profit.

“It’s a tricky scenario where AOL might not want to sell right away, but they might have to if the stock price flounders and the core strategies aren’t going anywhere,” he said.

Beyond the access business, he said, AOL’s other properties (Mapquest, AIM, the Huffington Post, and other content sites) would likely be more attractive to strategic buyers in technology, such as Microsoft and Facebook, as well as traditional media companies.

But Sinha said he doubted AOL would sell those off unless they became desperate.

“When Tim Armstrong came on board and signed up as CEO, he knew it would be a tough slog. . . . He’ll try and grow the core business,” he said. “He’s not going to give up easily. He’s going to do everything it takes.”

Yahoo is also an attractive target for buyers, Sinha said, but a complicated proposition for private equity.

The company’s private Asian assets may have considerable value, but analysts say overcoming the financial and international hurdles to unlock it is a challenge.

A private equity move on Yahoo would require raising much more cash than an AOL bid, which is made extra difficult given the current financial turmoil. It would also take deep connections in Asia to understand the motivations of business (particularly Alibaba’s chairman and CEO Jack Ma) and the Chinese government and would be an “extremely complex” deal, Sinha said.

“I think the big mistake people make with Yahoo is estimating the value of its Chinese assets,” he said. “People putting a value on those businesses are probably wrong.”

But Sinha said acquiring Yahoo is a much easier task for traditional media companies like Microsoft, News Corp. (if it weren’t fighting its own battles), Viacom, and Comcast that might want to boost their online presence.

When reached by Adweek, a Yahoo spokeswoman said the company doesn’t comment on speculation or rumor.

AOL pointed to the statement that accompanied its buyback announcement last week, in which Armstrong said he and team “are continuing the disciplined execution of our strategy and have confidence in our future growth prospects.”

But some think the clock is running out on AOL’s strategy.

“If you’re a private equity firm right now, you’re sharpening your pencils on this stuff,” said Robert Peck, a managing partner at Quasar Capital Advisors and an AOL investor.

While Armstrong may have been able to rebuff private equity offers in the past, if the stock stays around $12 and a firm offers $20 a share—a 60 percent premium—Peck said Armstrong has no choice but to bring the offer to the board, which has a fiduciary duty to present an attractive offer to shareholders.

“Tim’s vision may not get a chance to come to fruition only because the stock’s depressed near-term,” he said.

And if Armstrong sells the company for more than its value when he took over, it bodes well for his future prospects.

“At the end of the day, Tim’s 40 years old. My guess is that he has bigger, broader ambitions,” Peck said. “If he can come out of this making everyone money . . . that’s going to position him for the next job.”

Herman Leung, an analyst for Susquehanna International Group, said Yahoo could be equally appealing to private equity or strategic buyers.

“I think potential acquisition opportunities could come from multiple fronts,” he said. “Considering how cheap the cost of debt seems to be these days, one is private equity. The other is more traditional companies looking to stay relevant in online media and get a property here for very cheap and at the same time unload potentially the international assets.”

While other analysts said the size of Yahoo’s market cap could be an impediment for private equity, Leung said he didn’t see it as a hurdle because it was mostly based on the international assets, which are valuable and could likely be sold quickly. 

“[An acquisition] probably could happen within a year, or maybe two years,” he said. “I would give it a longer lead time.”

Other analysts say that with the value of Yahoo’s Asian assets and the level of dissatisfaction with management’s responsiveness, there’s increased likelihood that potential buyers (whether they’re private equity or other companies) will try to stir the pot while the stock price is depressed.

Kena Sena, an analyst with Evercore Partners, said that given what’s happening in the larger marketplace “the entire market is priced rather attractively. However, within the space, these two stand out.”