Yahoo shares are set to tumble today after its dismissal of an improved $46.5bn (£23.6bn) takeover approach from Microsoft prompted the software giant to walk away.
Microsoft's chief executive, Steve Ballmer, said Microsoft had pulled its $33-a-share offer because Yahoo's demand for $37 made no sense. The move ended three months of discussions and increasingly bitter public statements from each side.
Analysts said Yahoo had overplayed its hand and predicted a fall of up to 30 per cent in the web-search company's share price when the Nasdaq index opens today. The stock jumped almost 7 per cent to $28.67 on Friday as hopes of a deal between the two companies rose. The shares have gained 49 per cent since Microsoft's original approach was announced on 1 February.
Roy Bostock, Yahoo's chairman, said Microsoft's offer undervalued the business "and we are pleased that so many of our shareholders joined us in expressing that view. Jerry Yang, Yahoo's chief executive and co-founder, said he wanted to put "the distraction of Microsoft's unsolicited proposal behind us".
But Laura Martin, an analyst at Soleil Securities, said she expected a number of lawsuits against Yahoo from angry shareholders. "The Yahoo guys want too much money for their company. We think $33 a share is fair in the context of the weakening economic environment and adverse advertising trends," Ms Martin told Reuters.
The two sides had been in talks since 31 January, when Mr Ballmer called Mr Yang with an offer of $31 a share, a 62 per cent premium to Yahoo's price at the time. As talks dragged on, Mr Ballmer's and Mr Yang's comments became increasingly personal as they accused each other of intransigence and distortion.
On Saturday, Mr Yang and his co-founder, David Filo, met Mr Ballmer and his deputy, Kevin Johnson, in Seattle, Washington, near Microsoft's Redmond headquarters. The Yahoo bosses said the board would accept $37 a share, though the founders believed $38 was the right price. With no deal in sight, they flew back to California.
Microsoft raised the stakes in the battle four weeks ago by threatening to reduce its offer, go directly to shareholders with a hostile bid, and to oust the Yahoo board. Mr Ballmer set Mr Yang a 26 April deadline to agree terms, but Mr Yang let the deadline pass and Mr Ballmer came back with a higher offer. Most analysts had expected Microsoft to go hostile if necessary to land its prey.
But in a letter to Mr Yang withdrawing Microsoft's offer, Mr Ballmer said he would not go to Yahoo shareholders because Yahoo had threatened to outsource advertising to Google, its dominant rival, if Microsoft went hostile. Doing so would damage Yahoo's business and raise regulatory and legal problems that no bidder would want to inherit, Mr Ballmer said. "By failing to reach an agreement with us, you and your stockholders have left significant value on the table," Mr Ballmer wrote to Mr Yang.
Some observers said Microsoft might have pulled its cash-and-shares offer so that shareholders would force Yahoo's board to do a deal. The tactic was successful for Oracle, the database giant, which withdrew its offer for BEA Systems in October only to reach agreement in January.
Mr Ballmer's letter appeared to leave the door to reviving talks slightly ajar by referring to his bid in the present tense. "I still believe even today that our offer remains the only alternative put forward that provides your stockholders full and fair value for their shares," he wrote.
Yahoo's camp insisted that price was not the only barrier and that Microsoft had not given a satisfactory response to regulatory concerns raised at several meetings. Yahoo was also said to want assurances that the value of Microsoft's offer, which has drifted down with Microsoft's share price, would be guaranteed.
The end of talks leaves both companies facing questions as they seek to cope with the march of Google, which dominates the market for web searches. Yahoo and Microsoft are a distant second and third to Google, which handles six times as many search queries as Microsoft in the US.
Buying Yahoo would have tripled Microsoft's share of the US web-search market as it seeks to ward off Google, which is increasingly encroaching on Microsoft's home ground with new web-based applications. Analysts said Microsoft would now come under increased pressure to explain the strategy for its internet business, which lost $228m last quarter.
Yahoo will struggle to convince investors that it can create more than the $8bn of value offered by Microsoft's bid on its own, Ms Martin of Soleil Securities said. Shareholders were unimpressed by Yahoo's go-it-alone strategy when it was unveiled in March. Either side could now try to beef up its operations by going after Time Warner's AOL business.