Yahoo`s Biggest Worry: Alibaba, or Facebook?

Much news has been circulating this week about those hoping to buy part or all of beleaguered search engine Yahoo. Even as overseas interests make a play, though, Yahoo’s biggest concern might come from much closer to home.

A Washington Post video reported that China’s Alibaba is preparing to make a bid for all of Yahoo. The Chinese e-commerce company, run by Jack Ma, has long wanted to buy back the 40 percent stake that Yahoo owns in it. The bid, for $20 a share, would value the venerable search engine at $25 billion.

Eric Jackson, a major Yahoo shareholder and founder of Ironfire Capital LLC, thinks that price is too low. If that name sounds familiar, it’s because Jackson let an investor revolt back in 2007 that led to a change in the CEO. But despite his reservation about the low price, in the video, Jackson noted that this was a good deal, better than the complicated deal being put together by Silver Lake. “Shareholders in general would rather have a quick, complete deal for the company,” he said, and observed that “[major Yahoo shareholder] Dan Loeb has already made it clear that if it’s some sort of back-door, dilutive [deal] that’s really not in the interests of shareholders, I am 100 percent sure that he’s going to fight that and there are going to be a lot of other shareholders that will line up behind him.”

Those shareholders, however, may never get the chance to protest that deal…because it may never even be offered. At least, that’s what Forbes seems to think. The deal won’t happen, it insists, “for one reason: Chinese-U.S political relations.” Forbes cites attempted purchases going back to 2005 in which Chinese companies tried to buy US companies, but the deals were nixed due to political opposition. One of the Chinese companies even provided services to the US government, but still found itself unable to go through with their deal.

As Forbes explains it, the potential Alibaba deal is a sign that the company is trying to expand outside of China. Indeed, according to Forbes, the company “is working on becoming one of the most dominant Internet companies in the world, and it needs to expand globally for this to happen.” However, “the political tensions between Washington and China remain high on issues such as this and the political pressure may be too great” for a purchase of all of Yahoo by Alibaba to go forward.

Could parts of deal be preserved, with Yahoo being broken up? That, Forbes notes, would not be tax-efficient, and therefore unlikely to win favor among Yahoo’s shareholders.

But the possibility of an Alibaba purchase should worry Yahoo less than what’s coming up in 2012: Facebook’s initial public offering of stock. CNBC quoted Clayton Morgan, analyst with brokerage firm Benchmark Capital, as saying that “Yahoo’s challenge to defend its display business as Facebook emerges is similar to Yahoo’s challenge when Google emerged, in that Yahoo appears stuck on a legacy platform and unable to adapt.”

That could be catastrophic for Yahoo, a company that gets a huge share of its revenues from display advertising. CNBC predicts that Facebook will take the capital it earns from an IPO and invest it aggressively into boosting its already-strong capacity for display ads.

While Yahoo’s display ads get their views because Yahoo produces and aggregates news content on highly-visited websites, Facebook has been finding more ways to use its social muscle. These include Facebook’s Social Reader, which lets users share experiences with their friends while reading news. With Facebook passing Yahoo as the third most visited web domain this year, Moran thinks that “Yahoo’s display share will erode as Facebook’s expands,” similar to how things played out in 2007 when “Yahoo sustained search losses to Google.” Indeed, this may already be happening: according to eMarketer data, Facebook took the top spot in US display ad market share from Yahoo this year.

How all of this will finally play out is anybody’s guess. But Yahoo truly seems to have entered a downward spiral from which it can’t pull up, no matter how much it innovates – because its competition continues to innovate more.

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