Yahoo's board suddenly has a big, looming problem and it could mean the end of Marissa Mayer

The next big fight could soon be coming to Yahoo’s boardroom.

And this time it could mean the end of the line for Marissa Mayer’s tenure as Yahoo’s CEO.

Over the last few weeks, the news surrounding Yahoo has been bad.

On Wednesday, SunTrust analyst Bob Peck wrote about a doomsday scenario for the company’s tax-free Alibaba spin-off in which Yahoo actually loses money.

On Thursday, activist hedge fund Starboard Value wrote a letter to the Yahoo’s board arguing that it shouldn’t pursue its planned spin-off of a 15% stake in Alibaba but should instead spin out the company’s core business.

Starboard’s argument, in short, is that Yahoo’s planned spin-off is simply too risky and no longer has shareholder support. As a result, Starboard believes Yahoo must change its strategic direction.

In a conversation Friday morning, Peck told Business Insider that indications from Starboard’s letter are pretty clear: Starboard will seek some sort of board representation, or perhaps nominate an entirely new slate of directors, if the board remains unresponsive to their suggestions.

As it currently stands, no indications from Yahoo have suggested the company is re-thinking its Alibaba spin-off plan.

One Yahoo investor told us that the board and Yahoo’s management team appears not to be thinking about this as owners of the company — and therefore stewards of shareholder capital — but as a management team that simply wants to keep itself in place.

In other words, this investor sees Yahoo’s board in something resembling self-preservation mode rather than acting in the best interests of the company over the long term.

This is how the company got here.

The Alibaba bull case

Back in 2011, hedge funder Dan Loeb began accumulating a stake in Yahoo and argued that the company’s primary goal should be to unlock the value of the Alibaba stake.

And as chronicled in Nicholas Carlson’s book “Marissa Mayer and the Fight to Save Yahoo,” Loeb basically got the market to see things his way, installed then-Google executive Marissa Mayer in the top spot, then sold his stake in the company for a big gain.

Since then, the bull case on Yahoo has been all about a belief that Yahoo would be able to effectively unlock the value of that Alibaba stake at a big gain to shareholders. Additionally, this sort of “free money” embedded in Yahoo stock would allow a new management team to make changes to turn the company around under the cover an stock price appreciating due to external factors.

But this now seems to be in doubt.

Bob Peck at SunTrust wrote what was effectively a letter to the board on November 13 asking if now might be the right time for major change at the company. Said another way, Peck wondered if now is the time for CEO Marissa Mayer, who has held the top spot at Yahoo since July 2012, to go.

On Thursday, Forbes’ Miguel Helft published an investigation into the current state of the company which asked, among other things, if Mayer may be in her last days at the company.

“Things have become so dire that some insiders are speculating that Mayer will throw in the towel and look for a graceful exit — perhaps using the birth of her twins, expected around the New Year, as a reason to step down,” Helft wrote, adding, “Others say that’s nonsense and that Mayer will continue to fight, as long as the board keeps her on the job.”

But aside from questions about the continued viability of Mayer’s tenure, also hanging over the company is its planned tax free spin-off of a 15% stake in Alibaba, the Chinese e-commerce giant that went public in the US last year to much fanfare.

Back in May, Yahoo shares got creamed after investors got jittery following commentary from an IRS official that suggested the “tax free” part of Yahoo’s plans around its Alibaba holding might be under review.

And Peck told Business Insider on Friday that Starboard’s letter has now brought the risks surrounding Yahoo’s plans for its Alibaba holdings into the public view and that now, at a minimum, the board will be forced to justify sticking to its plan.

Yahoo couldn’t be reached for comment on this story.

Proxy fight?

At the end of its letter, Starboard makes it pretty clear that a proxy fight for board seats could be coming, writing that, “we expect the shareholders’ interest to remain of paramount importance and will look to make significant changes to the Board if you continue to make decisions that destroy shareholder value.”

Earlier this year, Yahoo avoided a proxy fight with Starboard, which in September 2014 argued that Yahoo and AOL should merge (AOL was later acquired by Verizon).

Eric Jackson, a prominent Yahoo shareholder, wrote for The Street in April that basically, it seemed Starboard couldn’t win over shareholders who had seen the stock go from $US15 to $US44 under Mayer.

But with shares closing near $US33 on Friday, that argument could potentially be more winnable for Starboard. And with the Alibaba stake looking more risky, this argument is potentially worth fighting harder for.

Jack ma alibabaAP ImagesAlibaba CEO Jack Ma.

The IRS problem

The issue surrounding the Alibaba spin-off right now is whether or not Yahoo’s plan meets the IRS criteria that requires the entity being spun out — in this case, Yahoo’s 15% stake in Alibaba and Yahoo’s existing small business unit — will qualify as something more than just a device to transfer gains in a tax-advantaged way.

In tax speak, the spin-off needs to comply with “Section 355” of the IRS code.

No one Business Insider spoke to for this story believed that Yahoo’s planned spin-off of Alibaba wouldn’t be viewed favourably by the IRS, meaning the “tax-free” spin-off would be executed tax free with Yahoo shareholders effectively getting a tracking stock on a 15% stake in Alibaba.

But there are a few problems here.

For one thing, this is shaping up to be a drawn out process that leaves investors twisting in the wind.

Initially, Yahoo implied the spin would happen in the fourth quarter of 2015. Now, it looks like it’s going to happen in 2016, which means it goes to the IRS in 2017 for a review, according to Peck. He says the IRS then has 3 years to decide if it’s going to audit Yahoo or not.

“Procedurally, the worst-case scenario will be if the IRS picks up the case for audit in October 2020, decides to impose taxes, and the company has to go through the protracted legal process before the issue is finally decided,” wrote Peck.

“In this case, it is possible that [Yahoo] shareholders may not have clarity on the tax question for the better part of the next decade.”

Asking shareholders to hang in there just to see a plan that may or may not work come through is not a way to inspire confidence.

And strategically, the problem from Yahoo’s perspective is that it has already committed publicly to this spin out.

And as one investor told Business Insider, boards are not loathe to change their minds about strategic decisions once they have been made.

The core business

All of this tax-spin chatter, however, is mostly financial engineering.

Mayer was hired for her software engineering prowess. She was supposed to be a “products” rockstar from Google who would breath fresh life into Yahoo’s line up.

In Silicon Valley companies live and die by their “product”, which is basically a way to describe what companies do. (Instagram’s photostream is a “product,” Facebook’s newsfeed is a “product,” the iPhone is a “product.”)

Yahoo today is essentially in no better shape than Yahoo when Mayer showed up. Mayer hasn’t produced a single break out hit product for Yahoo.

The highest ranking Yahoo app in the iPhone’s App Store is Yahoo Mail. And it’s ranked #75.

Facebook has 3 of the top 4 apps as of this writing. Google has two in the top ten. Even McDonald’s and Walmart have apps ranked higher than Yahoo.

And as Peck noted, Yahoo’s revenue is down from when Mayer started.

Earlier this month, Re/code’s Kara Swisher reported that Yahoo had hired consultancy McKinsey to help Yahoo decide which units of its company to close, which to sell, and which to invest in.

There’s nothing wrong with hiring consultants for advice, but a lot of people are wondering what took Mayer so long.

A quadruple whammy

Mayer could have afforded a slow turnaround of the core business if she had managed to flawlessly deliver on the Alibaba spin-off. Alternatively, Mayer could have afforded to screw up the spin-off if she had nailed the core business.

What she can’t afford is to have neither thing work out. And that’s what looks increasingly likely.

Compounding those errors is the fact that Mayer and her management team seem to have torched relations with investors. Starboard, in its letter, says Yahoo has been “reluctant to respond or adapt to the realities of the current environment.”

If all of this wasn’t bad enough, Mayer is losing executives at an accelerating rate, leaving her with a new group of people to take on her biggest challenge yet as CEO.

Yahoo for years has been a company adrift. Mayer was supposed to be a change. She was supposed to finally save Yahoo.

Instead, it looks increasingly likely that Mayer is going to end up yet another victim of Yahoo’s decades long struggles.

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