Yahoo Investors Get Its Core Business For Free, But Is It Worth Anything?

Apr 15 2014, 10:17am CDT | by

Earnings season comes to the technology sector this week and when Yahoo releases its first-quarter report card after the closing bell Tuesday investors and analysts may not see many signs that the turnaround of the company’s core business is taking hold.

Chief Executive Marissa Mayer has been making a lot of bets on Yahoo’s future, from acquiring businesses like Tumblr to adding boldfaced names like Katie Couric to the tech company’s media roster. Yahoo’s stock price is up 116% since Mayer took over in July 2012, which certainly buys some time for her effort at reversing the company’s long decline, but the gains are thanks to shrewd decision-making by her predecessors rather than the fruits of the restructuring effort.

Those shrewd moves have left Yahoo with sizable stakes in valuable Asian Internet properties Yahoo Japan and Alibaba.com, stakes that many analysts estimate as worth more than Yahoo’s current market capitalization. The gains in Yahoo’s stock over recent years have been widely attributed to the value of those holdings rather than optimism over its own business.

“The jury is still out on the core business,” says Mark Foster, chief investment officer at Columbus, Ind.-based Kirr Marbach, which has nearly 3% of its $658 million in assets under management in Yahoo shares. He’s upbeat though, figuring that the holdings in Alibaba and Yahoo Japan have provided a cushion as Mayer sorts things out.

Foster, who first bought Yahoo shares around the time the company snagged Mayer from Google for its corner office, says his firm figured it was getting the core Yahoo business “essentially for free” when considering the value of the Asian assets and cash on the balance sheet.

It’s a view shared by many, including analysts at SunTrust Robinson Humphrey, who upped their rating on Yahoo to buy Monday. Alibaba said in March that it plans to list in the U.S., and SunTrust’s Robert Peck assumes a $150 billion valuation at IPO for the Chinese Internet giant. With Yahoo having committed to selling almost half of its 24% stake in the IPO, a significant chunk of the underlying value in Yahoo’s shares will be realized (and taxed) before too long.

SunTrust’s analysts expect the shares sold in the IPO and the value of the remaining position will amount to $29 per share in value to Yahoo, only a shade below the current stock price of $33.75. Add the Yahoo Japan position and the near $4 billion in cash on the company’s balance sheet and Peck, like Foster, figures investors have what amounts to a free call option on Mayer’s turnaround of core Yahoo working.

According to SunTrust’s estimates, Yahoo trades at a discount to the value of that core business after stripping out its cash, and stakes in Yahoo Japan and Alibaba. That business is “still very much entrenched in a turnaround with few signs of tangible financial progress,” Peck notes, but he figures investors are going to look past that lack of progress when the company issues first-quarter results Tuesday.

The consensus Wall Street estimate calls for non-GAAP earnings of 37 cents per share, according to FactSet, on just under $1.1 billion in sales. Should Yahoo’s valuation rise to anywhere near that of other “challenged growth stories” like EarthLink (4.5 times EBITDA), Demand Media (5.2x) and AOL (6x), Peck thinks the core could be worth anywhere from $3.33 to $9.14 per share, on top of the $29.54 at which he pegs the Asian assets. Splitting the difference, SunTrust has a $40 price target on the stock.

If Yahoo gets a snapback after earnings it will be coming out of a group of momentum-driven stocks that have been laid low in 2014. In a note last week, Goldman Sachsresearch team noted that Yahoo was among a group of stocks that were among the S&P 500′s 50 best-performers for the 12 months ending Feb. 28, but down more than 10% since.

Shares of Yahoo, which have fallen 12.4% since March 1, gained 1.2% to $33.85 ahead of Tuesday’s earnings report.

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