WHO'S THE bigger loser from Microsoft's withdrawn bid for Yahoo? Investors certainly punished the Internet company on Monday for letting the prospective deal go away, and they enthusiastically cheered Microsoft's abandonment of a $42 billion bid. But a jog through the numbers, starting from before the software giant showed its hand, suggests that it's actually Microsoft that has emerged most damaged from the affair.
The truth is, Microsoft shareholders were never entirely sold on the Yahoo takeover. At one point in early March, they had sliced more than $50 billion off the software giant's pre-bid market value. Even after Monday's relief rally, Microsoft is worth some $24 billion less than it was before it bid for Yahoo on Feb. 1.
What's more, the tech sector has rallied since then. The Philadelphia Semiconductor Index, a widely used proxy for the industry, is up 6%. Microsoft should have profited more than most. While its domestic business might have been hurt by stalling U.S. economic growth, its strong international presence should have insulated it better against a recession than the typical tech firm.
How to explain this evaporation of Microsoft's value? There's the prospect that Microsoft will try again to acquire Yahoo -- or bid aggressively for other Internet properties, such as Time Warner's AOL. This speculation is most apparent in Yahoo's valuation. Even after Monday's 15% slide, Yahoo is worth $4 billion more than it was before Microsoft publicized its offer.
More importantly, there is a fear among shareholders that the Yahoo bid exposed weaknesses in Microsoft's business model. Its operating margins on desktop software hover around 70%. Companies led by Google are now offering competing, ad-supported applications such as spreadsheets and word-processing -- free. The worry is that Microsoft may need to combat these efforts.
That's where Yahoo, which excels in selling online advertising and subscription services, came in. Microsoft's bid for Yahoo was seen by many as a signal the company recognized its grip on the desktop may be slipping. That, more than anything else, may account for the billions that have gone missing from Microsoft's value.
DT/Sprint: Some Risks
Deutsche Telekom would have its work cut out with Sprint Nextel. The German telecom operator, already the fourth-largest wireless player in the U.S., is eyeing a bid for the troubled third-place operator. Squishing the two together would catapult DT to pole position in the U.S., but a deal won't be easy to pull off.
Trading at an enterprise value of €27 billion ($41.6 billion), Sprint looks affordable for DT. The German company's debt is currently just under two times earnings before interest, taxes, depreciation and amortization, at the bottom of its desired range of two to three times. Assuming that DT paid a 30% premium for the shares and that Sprint managed to meet its forecast of €5 billion in Ebitda for 2008, DT's debt would climb to an acceptable 2.9 times Ebitda.
However, price is just the starting point. DT would be walking into a political and regulatory minefield. U.S. politicians won't be keen to see one of the largest telecom operators effectively controlled by the German government -- particularly in an election year. Nor is it clear that U.S. competition authorities will allow further industry consolidation.
If DT did manage to get past those obstacles, it would then have to deal with Sprint's own big problems. The shares are affordable for a reason. Since its 2004 merger with Nextel, poor service has created a downward spiral. Ebitda has been cut in half in two years. In February, Sprint wrote down $30 billion of goodwill from the deal.
Right now, DT, along with current market leaders AT&T and Verizon Wireless, is profiting from Sprint's malaise by picking up its disaffected customers. If DT ends up owning Sprint, the shoe will be on the other foot. It would have to stop the rot, while trying to integrate competing and not obviously compatible technologies.
DT paid too much to get into the U.S. in 2001. Asset prices are much lower now, but DT risks finding another way to overpay.
Beyond Bonus Shares
When Anil Ambani decided to issue one-off bonus shares to compensate investors for Reliance Power's abysmal initial public offering, the move was seen as an act of generosity. Now it has emerged the Indian billionaire, chairman of the Reliance Anil Dhirubhai Ambani Group, wants to list more of the conglomerate's companies. The bonus shares look like an act of enlightened self-interest.
Excitement around India's biggest IPO was short-lived. Reliance's domestic reputation as a trusted brand meant that Reliance Power's $3 billion issue was fully subscribed in less than a minute. Yet the stock, which nosedived on its February debut, now trades at a 27% discount to its issue price and the Reliance name, once tantamount to a sure thing in the stock market, has been tarnished.
Mr. Ambani quickly moved to reassure the market that the stock was an attractive long-term investment. Within two weeks of the IPO, Reliance Power's board approved an issue of three free bonus shares for every five held, for all investors except those related to the parent company. The issue, expected in June, appeared to be an act of selfless contrition for the poor market debut.
Yet it now appears Mr. Ambani's primary aim wasn't to compensate investors, but rather to protect his own ambitions. The Reliance ADA Group is eyeing at least two more stock-market listings. Reliance Infratel, a telecom-tower business, has been lined up to raise $1.5 billion on the Indian market. Meanwhile, Reliance Globalcom is reportedly looking at a London listing that could value it at up to $12 billion.
After Reliance Power's disastrous debut, Mr. Ambani is on a mission to shore up market sentiment around the Reliance brand. Indeed, that might also help explain Reliance Energy's odd decision back in March to launch a shareholder-friendly stock buyback.
Mr. Ambani's enlightened act of self-interest may be understandable, but it won't guarantee any of Reliance's future listings a bouncy stock market debut. Only the most naive of investors can be bought off by the occasional bonus-share issue.
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