A Yahoo White Knight Emerges! Microsoft's Shareholders...

Microsoft's shareholders are unhappy about the Yahoo offer--and they're expressing their displeasure by voting with their feet. As they do, they're driving the price of Microsoft's stock down, which, in turn, is driving the value of Microsoft's Yahoo bid down. As explained here, it's now only worth about $29.50 per share.

If Yahoo's shareholders can be persuaded to take $29.50 instead of $31, no problem: Microsoft can pick the company up for $41 billion instead of $45 billion. (This discount might make its shareholders happier--although perhaps they agree with us that, as proposed, the deal will be a disaster).

More likely, however, Yahoo shareholders will insist on receiving at least what Microsoft offered initially--$31 per share. If Microsoft wants to maintain its half-stock / half-cash mix, therefore, it will have to adjust the share exchange rate to account for the reduced value of Microsoft's shares.

By adjusting the exchange rate, however, Microsoft will increase the dilution suffered by Microsoft's existing shareholders, which will likely make them even more unhappy with the deal. As Microsoft's shareholders begin to appreciate this possibility, they might sell more stock, driving the price down further. And so on. 

If Microsoft's stock gets hit hard enough--and Steve Ballmer continues to have as little success as he's had so far convincing investors that this is a smart deal--the company might have to formally reduce its Yahoo bid. After touting the $31/share bid price, this move would likely give a big boost of support to Jerry Yang, Sue Decker, and the rest of Yahoo's embattled management (who, if nothing else, would be able to point out that the takeout premium is now far less than the original 62%).

In other words, a Yahoo white knight may indeed be emerging--in the form of Microsoft's unhappy shareholders.