Yahoo to Proceed with Alibaba Spin-off Despite Tax Worries

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Yahoo! Inc. YHOO announced in a new Form 8-K filed with the U.S. Securities and Exchange Commission that it will carry on with its plans to spin off the roughly 15% stake it continues to hold in Chinese e-commerce giant Alibaba Group Holding Ltd BABA — even if it means incurring a multibillion-dollar tax bill (which could be up to $9 billion) in the process.

Yahoo reiterated in the filing that it expects to complete the deal during the fourth quarter of 2015. This boosted investors’ confidence as Yahoo shares rose 3.59% to $28.59 in afterhours trading, after it closed down 5.25% to $27.60 in day’s trading.

The Spin-off Story & the Ensuing Troubles

On Jan 27, Yahoo declared that it intends to spin off its holding of 384 million shares of the Chinese e-commerce company, currently valued at about $22 billion after a huge decline in the value of Alibaba this year, into a newly formed, tax-free independent, publicly traded investment company called Aabaco.

Investors had reacted positively at the time as it would enable the company to avoid a tax bill that would have cost billions in the future.

Following this, Yahoo! filed a request with the IRS in February seeking a ruling to allow it to spin off its stake in Alibaba along with its Small Business Division. The basic idea of tagging an active or legacy business to the pile of stock was to make the spinoff of that stockpile tax-free.

In May, rumors made the rounds that the IRS was thinking of changing the rules concerning tax-free spinoffs. The change in regulations would jeopardize Yahoo!’s plans for a tax-free spinoff.

However, Yahoo! through a federal filing with the Securities & Exchange Commission announced that on Sep 2, the U.S. Internal Revenue Service (IRS) had declined a ruling on its request for a tax-free spinoff. The company also withdrew its request for an IRS ruling.

The spinoff is likely an effort to make sure that Aabaco shareholders benefit from the future sales of Alibaba stock and are taxed at a lower rate than what Yahoo! would have to pay had it held on to its interest in Alibaba.

The spinoff is a critical step for CEO Marissa Mayer. The company has lately been under pressure from Starboard Value LP and other investors to return cash to shareholders, spin off Alibaba shares, find ways to cut taxes and keep away from major acquisitions.

The changed scenario is no doubt a disappointment for shareholders who invested in Yahoo!, hoping for a tax-free payout, when the deal closes by the fourth quarter.

Conclusion

The spin-off would make Yahoo! a much smaller company than it has been in years, largely due to the removal of BABA shares from its net worth. But following the spinoff, Yahoo! will continue its core business operations and retain a 35.5% stake worth $7 billion in Yahoo! Japan.

Also, the spinoff is expected to bring in a huge amount of cash for Yahoo! but it’s still uncertain how and where Yahoo! will deploy its new resources. Yahoo! can now fully concentrate on pursuing growth.

Yahoo! carries a Zacks Rank #3 (Hold). Better-ranked stocks in the space include Amazon.com AMZN and Majesco Entertainment Co. COOL, both sporting a Zacks Rank #1 (Strong Buy).

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