Yahoo: Back Door to Alibaba?

05/01/2014 8:00 am EST

Focus: STOCKS

Charles Carlson

Editor, DRIP Investor

The market for IPOs has been heating up in 2014; according to Renaissance Capital, the US IPO market showed more activity than any other first quarter since 2000, reports Chuck Carlson, editor of DRIP Investor.

The number of IPOs in the first quarter—64—more than doubled the number in the first quarter of 2013. Those 64 companies raised $10.6 billion.

Now, I don’t typically recommend buying initial public offerings. The best IPOs are snatched up by institutional investors and not often available to individual investors. And the IPOs that are available to individual investors are typically merchandise that has been passed over by the pros.

Also, investors, by waiting until after an IPO trades, can oftentimes buy the stock at a price that is below the IPO price. That has been the case so far this year with some IPOs—especially those offered in the last month or so.

Still, I’m intrigued with the “back-door” IPO possibilities presented by Yahoo (YHOO) and its 24% ownership in Alibaba, an e-commerce powerhouse in China.

To give you an idea of the size and reach of Alibaba, two Internet entities run by the company had transaction volume of more than $240 billion in 2013. In the company’s fourth quarter, revenue jumped a whopping 66%, and profits more than doubled to $1.35 billion.

Alibaba is planning to go public in the US this year, probably sometime in the third quarter. The IPO will put a market value on the company. Some analysts say the firm is worth north of $150 billion.

A high valuation at the IPO would be a boon for Yahoo shares, given its large stake in Alibaba. Indeed, a $150 billion valuation for Alibaba would translate to a pre-tax value of $36 billion on Yahoo’s investment. (Yahoo plans to sell some 12% of its stake at the IPO.)

When you consider the Alibaba stake, a 35% stake in Yahoo Japan, current cash and investments on Yahoo’s balance sheet of nearly $5 billion, and what appears to be an improving (albeit at a modest pace) core business at Yahoo, a share price north of $40 per share seems more appropriate for Yahoo stock.

Yahoo’s current market capitalization is around $37 billion. I see, at least, 20% upside in Yahoo shares over the next 12 months, which should outpace the overall market.

Please note that Yahoo offers a direct-purchase plan. Minimum initial investment is $250 and subsequent investments are a minimum $50.

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