After the market closed on Wednesday YAHOO! (NASDAQ: YHOO) announced another massive data breach that occurred in August 2013 affecting one billion users.  Previously, on September 22, the company had announced, what it believed to be a state sponsored entity had hacked into YAHOO!’s system in 2014 and compromised the data of 500 million users. Today’s revelation further damages the company’s brand and may impact its pending deal with Verizon (VZ -1.14%).

The company is contacting affected users and asking them to take steps such as changing passwords to thwart potential malicious activity by the hackers. Verizon, who is in a contract to buy YAHOO!’s core business for $4.8 billion, is stating that it is monitoring the situation. 

Yahoo! Headquarters Sunnyvale, California by Luis Vila del Campo https://www.flickr.com/photos/maguisso/6102153389/in/dateposted/

Stock Price and Valuation

This latest news may affect the current deal that is on the table from Verizon and could result in a renegotiation of the price Verizon is willing to pay for the core business. Let’s dig deeper and look at the assets that currently comprise YAHOO! aside from the core business and see if the valuation for the entire company may already be discounting potential uncertainty around Verizon’s $4.8 billion offer.

YAHOO! is comprised of several different assets that span the globe from cash, to patents, stock interests in two Asian public companies, as well as the core business itself.  In many cases the core business of a company comprises the bulk of its value. This is not the case with YAHOO!

Let’s for a second assume that the deal for Verizon buying YAHOO!’s core business closes as scheduled in Q1 of 2017. The remaining assets will be left behind in an entity dubbed as “Remainco”. Below are the assets that will reside within Remainco whose primary objective, as stated by management, will be to return cash to shareholders in the most tax efficient means possible. That is as shareholder friendly as one can hope for in an investment.

Yahoo! co-founder Jerry Yang was astute enough to invest at a very early stage in Chinese powerhouse Alibaba. When that company came public in 2014  YAHOO! continued to hold most of its investment which is now valued at approximately $35 billion .

Yahoo! also maintains ownership of 35.5% of YAHOO Japan, which was set up as a joint venture with SoftBank.Yahoo Japan is a publicly traded stock on the Tokyo stock exchange with a market cap of $21.590 billion which makes YAHOO!’s stake $7.66 billion. 

YAHOO! patents, known as the Excalibur portfolio, are valued at a cool $1 billion.

Cash and marketable securities clocked in at $7.771 billion the end of the last quarter.  Once we subtract the $1.3 billion in convertible notes which come due in 2018 we are left with cash after debt of $6.471 billion . 

Remainco will also receive the proceeds from the sale of YAHOO!'s core business to Verizon which is scheduled to be $4.8 billion.  

Here is a summary of the assets scheduled to be left behind in Remainco after Yahoo!'s core is sold to Verizon.

AssetValuationTax LiabilityValue After Taxes
Cash Less Debt $6.471 billion 0 $6.471 billion
Alibaba (BABA -3.06%) $35 billion

$11.3 billion

$23.7 billion
Yahoo Japan $7.66 billion $2.68 billion $4.98 billion
Excaliber $1.0 billion $0.35 billion $0.65 billion
Subtotal $50.131 billion $14.33 billion $35.8 billion
Cash for Core $4.8 billion 0 $4.8 billion
Total $54.93 billion $14.33 billion $40.6 billion

Data source: YAHOO! Chart by author. Assume 35% corporate tax rate.

 
Yahoo! has 957 million diluted shares outstanding.
If we assume a 35% corporate tax rate, and take into account Yahoo!'s disclosed tax basis of $2.713B for their holdings in Alibaba, the result is a value after tax of $42.42 for each YAHOO! share.
  
In order for Remainco to convert their holdings in Alibaba and YAHOO Japan into cash for shareholders they will first have to sell the shares. In order to sell such a large holding back to SoftBank in the case of YAHOO Japan or Alibaba itself management would have to come up with an enticing offer. Let's say they offered a 10% discount to market value. This is known as a liquidity discount and is common when selling a large block of stock to one buyer. As a result our table of valuations would now look like this.
 
AssetSale PriceTax LiabilityValue After Taxes 
Cash Less Debt  $6.471 billion  0  $6.471 billion
Alibaba   $31.5 billion  $10.08 billion  $21.42 billion
Yahoo Japan  $6.89 billion  $2.41 billion  $4.48 billion
Excaliber  $1.0 billion  $0.35 billion  $0.65 billion
Subtotal   $45.86 billion  $12.84 billion  $33.02 billion
Cash for Core  $4.8 billion  0  $4.8 billion
Total   $50.66 billion  $12.84 billion  $37.82 billion

Data source: YAHOO!. Chart by author. Assume 35% corporate tax rate. 

 
This new valuation of $37.82 billion is the equivalent to $39.52 per share for YAHOO! stock. 

So What Is Next?

Time will tell if Verizon is willing to go ahead with the deal that is currently on the table. If renegotiation were to take place around the price the valuation shown above would decrease by approximately $1.04 per share for every $1 billion drop in the price for the core business. If the deal falls through the market may take the stock price lower.

The key aspect that the investor has to consider, aside from the deal for the core itself, is whether the management of Remainco will be able to find a more tax efficient manner than the standard 35% corporate tax rate would dictate in selling the  Asian assets. If a more tax efficient manner is discovered that lessens the tax burden the holder of shares could be handsomely rewarded. This must be balanced with the risk associated with any volatility in Alibaba's share price during the time it takes to find a suitable buyer.