Remeasuring Yahoo’s Alibaba Goldmine

Let’s go back in time. In 2005, Yahoo purchased 40% of the Chinese ecommerce company Alibaba for $1 billion. The move would later all but save the American company.

While Yahoo, under the leadership of its yet-new CEO Marissa Mayer has shown fresh dynamism, and has rebuilt its reputation in the technology market as its mobile push has matured, the company’s core financial performance metrics have dragged. Revenue has sagged, as have earnings. For all its vaunted mobile growth, Yahoo has not managed to turn around its advertising business, even as its search incomes have been lackluster.

Why then the dramatic rise in its share price over the past few years? It goes back to that Alibaba purchase made nearly a decade ago.

Yahoo sold 40% of its 40% Alibaba stake in 2012 for a massive $7.6 billion. The company now owns a more modest 24% of Alibaba. (Media reports tend to indicate that Yahoo owns 24% of Alibaba, while the below linked company report indicates 23%.)

It doesn’t want to shed a share of that remaining equity so long as it can. That’s due to the simple fact that at Alibaba’s current growth rates, the longer Yahoo holds on its shares in the company, the more money it makes.

How do we know that Yahoo wants to hang onto its Alibaba equity? A recent agreement that lowered the percentage of its extant holdings that it must sell at the time of Alibaba’s IPO. Here’s Yahoo at the end of its prior deal to sell some of its shares back to Alibaba:

Today’s announcement is the first step in a staged and comprehensive value realization plan for Yahoo!’s stake in Alibaba. Under the terms of the agreement, the second phase allows for Yahoo! to monetize approximately half of its remaining stake at the time of an initial public offering (IPO) of Alibaba at the IPO price. Lastly, after an IPO, Yahoo! has the right to sell its remaining shares following a customary lock-up period.

However, in late 2013, Yahoo got a partial reprieve. As I reported at the time:

Today in conjunction with its third quarter earnings release, Yahoo announced that it has come to a new agreement with Alibaba that will force the company to sell less of its shares in the Chinese ecommerce firm when it goes public. The number of shares that Yahoo will be required to sell now totals 208 million.

That figure represents a 20.4 percent decrease on the former 261.5 million share requirement. Yahoo owns 523.6 million ordinary shares of Alibaba.

So Yahoo gets to hang onto more of its stock in the company, longer.

The final piece to the above is that Alibaba worked to reform a credit facility that it had previously opened to grant it a longer ramp to IPO. Current speculation tips the firm as public not this year, but the next.

This means that, provided it can continue to grow, Alibaba will go public at a higher valuation than previously expected. This raises the value of Yahoo now, in expectation of that future reaping.

When it does IPO, what will Alibaba be worth? I’ve seen numbers as high as $200 billion, and as modest as $130 billion. What I think is now somewhat reasonable is to presume that by the time it does go public, the former tally of $120 billion for Alibaba’s valuation at IPO is light. So this means that Yahoo is joining Microsoft among the ranks of the successful corporate venture capitalists.

As you can quickly calculate in your head, 24% of $200 billion is $48 billion. Half of that evaporates into taxes, but Yahoo will be left with a cash position that is far more than half its market capitalization.

The longer Alibaba waits, provided it retains corporate vigor, the better off Yahoo is. It’s something to keep in mind when media reports indicate that the company’s stock rise is due it in-house performance, and not a mere ride on Jack Ma’s coattails.

Top Image Credit: Flickr