Yahoo Shows How The Wall Street System Is Broken

Leaving aside whether or not the potential Microsoft takeover of Yahoo is a good idea (strategically), I’m surprised the whole idea hasn’t caused more analysis on how Wall Street works (or doesn’t). The fact is, Microsoft’s first offer back in January was a 62% premium on the market valuation of Yahoo. It only went up from there, but Yahoo never took the offer.

Juxtapose that fact with another fact that according to Wall Street / business schools / the financial system, corporations are expected to maximize shareholder value, and we have a problem with the current example. Even if Yahoo is able to create enough value at some point in the future to meet the value offered by Microsoft in January, it would not be enough. This is because of the “time value of money” concept that Wall Street loves. Without diving into detailed examples, let’s just say that one dollar today is worth more than one dollar at some point in the future.

So this means that the longer it takes Yahoo is come up with the $20 billion it effectively owes its shareholders (the amout shareholders would have gained if Yahoo took the Microsoft offer), the more that $20 billion expectation will grow. It is not a static number.

But that’s not to say Yahoo making up that $20+ billion is impossible, though I personally think it’s improbable. Think of an example were you would not take a $20 billion premium for a sale of something you own a piece of. Does Yahoo come to mind? Not for me, nor does anything else, for that matter. But that may be because I’m not a billionaire. Let me explain.

My current theory is that billionaires running companies have their own agendas. And these agendas generally are in sync with maximizing shareholder value. If they weren’t, then shareholders would get pretty upset. But even if the billionaire CEOs are shareholders themselves, if they’re still likely to be billionaires when following an agenda outside of maximizing shareholder value… (oh, say, an agenda of retaining or gaining power) where’s the disincentive not to follow their own agendas?

I’m not sure, but I’m pegging the “I don’t care as much about more money when compared to more power” at around a billion dollars. I mean, generally speaking, what is there in life that you can do (and want to do) with two billion dollars but not one?

All this leads me to believe that, simply put, Jerry Yang cares more about power than money. In one sense, there’s nothing wrong with that. But I think there’s nothing wrong with that only if we all admit that’s what’s going on. But therein lies the catch-22. Admitting that would be admitting that he isn’t maximizing shareholder value, which would be another route to him potentially losing his power.

But as it stands, if billionaire CEOs can evaporate $20 billion of shareholder value while claiming that they are, in fact, maximizing shareholder value… I feel like they can basically say or do whatever they want and claim that it’s “maximizing shareholder value.” In other words, if not maximizing shareholder value is another way of maximizing shareholder value, then what isn’t? (Do you follow?)

And that seems like a broken system to me.

I don’t know what the solution is, but I think different, non-monetary incentives or consequences need to be in place for people who effectively have enough money that more is inconsequential (my one billion threshold). If the money involved is unlikely to affect their (billionaire CEOs) way of life as they make decisions that could affect the way of life of non-billionaire shareholders… that seems like a big problem (to me).

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  • Patrick

    Yahoo! board rejected MS offer. Yahoo! board was re-elected, Icahn is now participating on the board. You could maybe argue that given where things are, Icahn does would prefer to play along than sell and take a loss – but as hard as may be for a Microsoftie to admit, it may just be that strategically and financially no one believed the whole deal made any sense and hence Wall Street did work and rejected the deal…

    All we knew of strategy was that the benefit from deal was that MS online division would stop losing money. Hard to make any kind of financial forecasts to value NPV of MS stock issued from acquisition ofr that type of strategy and with little detail. So perhaps it was better the devil you know than the devil you know given that you could not see how shareholder value of MS stock would change much with acquisition given lack of detail and so shareholders felt value better maximized with current Yahoo! management…

  • http://bobcaswell.com Bob Caswell

    Patrick,

    There’s a reason I left strategy out of this particular discussion. It’s irrelevant to the point I’m making. Also, your points only make sense if we’re talking about Microsoft shareholders or possibly shareholders that own stock in Microsoft and Yahoo.

    I’m talking about Yahoo shareholders specifically. From the Microsoft perspective, “strategically and financially,” as you put it, sure, there are plenty of questions and a whole separate discussion.

    But from the Yahoo shareholder perspective, a sale should have happened. This would have maximized shareholder value. And a sale did not happen. Again, if we can claim that Yahoo is still somehow magically maximizing shareholder value by rejecting a $20 billion premium, then we claim that they are maximizing shareholder value regardless of any decision they make (good or bad).

    That’s a broken system, and that’s my point.

  • http://bobcaswell.com Bob Caswell

    There's a reason I left strategy out of this particular discussion. It's irrelevant to the point I'm making. Also, your points only make sense if we're talking about Microsoft shareholders or possibly shareholders that own stock in Microsoft and Yahoo.

    I'm talking about Yahoo shareholders specifically. From the Microsoft perspective, “strategically and financially,” as you put it, sure, there are plenty of questions and a whole separate discussion.

    But from the Yahoo shareholder perspective, a sale should have happened. This would have maximized shareholder value. And a sale did not happen. Again, if we can claim that Yahoo is still somehow magically maximizing shareholder value by rejecting a $20 billion premium, then we claim that they are maximizing shareholder value regardless of any decision they make (good or bad).

    That's a broken system, and that's my point.

  • Tom Swirly

    [Disclaimer: I don't like Microsoft's products or business model and I work for a competitor.... but.... ]

    “it may just be that strategically and financially no one believed the whole deal made any sense and hence Wall Street did work and rejected the deal…”

    What exactly does that sentence mean? From the point of view of the stockholders, someone offered to buy a dollar bill from them for $1.30 or so. What possible rational, economic reason would the *stockholders* have to reject this deal?

  • http://bobcaswell.com Bob Caswell

    Tom,

    Thanks for reiterating my point and also proving that differing opinions on Microsoft or Microsoft business models is pretty irrelevant to the discussion at hand.

  • Tom Swirly

    You're welcome!

    I agree completely that Wall Street is broken. This isn't even the worst example, which I believe is the *negative* correlation between CEO salaries and stock performance. In a rational world, a CEO would be rewarded for good performance and penalized for bad performance.

  • http://bobcaswell.com Bob Caswell

    Right. My personal favorites are examples like Dell's ex-CEO Kevin Rollins getting $5 million for being fired after making a mess or HP's ex-CEO Carly Fiorina getting $21 million for being fired after HP lost one third of its market value:

    http://bobcaswell.com/2007/02/21/dell-ex-ceo-ge

  • bbb

    Very much not an ideal system of incentives – and again to emphasize it – it doesn't matter whether or not the merger made sense for Microsoft – that concerns Microsoft shareholders.

    This article is about Yahoo shareholders. And what matters is that Yahoo shareholders would have instantaneously made a ~62% return, yet, Yahoo management rejected the offer. The only possible explanation is that Yahoo management is either magical – or, doesn't really care about the shareholders (owners), and instead care about their own claim to power (social status). That's a non-ideal situation for an economy.

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    It's already bad enough. Now that AIG has sold their subsidiary AIA to an Indian firm and CEOs of some of AIA's subsidiaries worldwide jumping ship, it is clear that the company is destined for downfall.

    People have lost confidence in AIA meaning some will not be renewing their policies or canceling them out right. What it means is that Insurance Agents will be out of job soon. They will also not be able to convincingly sell other financial products.

    How about the Banks, Investment Companies and Fund Managers? They will be hard hit as well. Companies and private investors will thinking twice about speculating or investing in Unit Trust, Hedge Funds as nothing seems like a safe bet now.

    People are talking about when the bottom will happen. It will happen when we go into recession, depression and probably only recover near Obama's end of term in 50 months time.

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    I feel like they can basically say or do whatever they want and claim that it’s maximizing shareholder value.

  • http://xtremax.com SEO

    I feel like they can basically say or do whatever they want and claim that it’s maximizing shareholder value.