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China May Add New Wrinkle to Microsoft-Yahoo

No one said the regulatory review of a Microsoft/Yahoo merger would be easy, but a new law in China could make it even tougher.

On Aug. 1, China's first-ever antimonopoly law will take effect, positioning the country to become a regulatory authority on par with the European Union and the United States.

The law, first reported by the Chinese state news agency Xinhua and more widely by the New York Times, would bring a Microsoft purchase of Yahoo squarely under China's regulatory purview. That's because of Yahoo's 40 percent stake in Alibaba, the Hong Kong-based e-commerce giant.

"As well as antimonopoly checks stipulated by this law, foreign mergers with acquisitions of domestic companies or foreign capital investing in domestic companies' operations in other forms should go through national security checks," the law states, according to Xinhua.

Glen Manishin, an antitrust attorney and partner with Duane Morris, said he had not yet had a chance to thoroughly review the law, but added that the impact of any Chinese antitrust provision would almost certainly be far-reaching.

"Given the size of the market, if they start to take competition policy and antitrust review seriously, there's not going to be a transaction [between international companies] that doesn't involve China," Manishin told InternetNews.com.

Microsoft did not return requests for comment.

For its part, Alibaba opposes the Microsoft acquisition, and could use it as a springboard to buy back Yahoo's stake to avoid becoming a partial subsidiary of the Redmond, Wash. software colossus.

Yet Yahoo's share of Alibaba is often cited a chief asset. For one thing, it's one of the key holdings that CEO Jerry Yang refers to when explaining why he feels that Microsoft's bid of $31 per share dramatically undervalues the company. Microsoft has stood behind its original offer as fair and generous.

A Microsoft/Yahoo combination will draw close scrutiny from either the U.S. Federal Trade Commission or, more likely, the Department of Justice. Regulatory review in Europe, where Microsoft has a long list of enemies stemming from numerous antitrust and anticompetitive accusations, could be much tougher.

Nevertheless, most analysts agree that it would likely win the blessing of both U.S. and European regulators -- a position supported by the recent unconditional approval each granted Google's acquisition of DoubleClick. Still, the review of any Yahoo acquisition promises to be long and exhaustive.

With the new law, China would likely enter as a third major regulatory review, assuming Alibaba's current ownership structure remains in place.

Forcing Microsoft to make its case before an additional set of regulators could make the software colossus somewhat less inclined to raise its offer.

"If you increase the transactional cost of doing a deal, the asset value is going to suffer accordingly," Manishin said.

But the additional review would be unlikely to scuttle the deal altogether, he added, suggesting that Chinese approval would become just "another box to check off." In a deal worth approximately $42 billion, the added expense from the attorneys' fees that Microsoft would incur in making its case to Chinese regulators would be negligible, he said.

Additionally, Alibaba represents just one foothold in the Chinese market, and removing it from the Yahoo deal would be unlikely to deter Microsoft in its bid, said IDC analyst Karsten Weide.

"I don't believe that if Microsoft wouldn't get Yahoo's Chinese assets it would stop them from trying to acquire Yahoo," Weide told InternetNews.com. "China is still a very young, emerging market and there are other ways they could make [headway] in it even without Alibaba."

Even if Yahoo divests itself of Alibaba, Chinese regulators might still assert themselves in a review of the merger because of Yahoo's other operations in China, which include a localized portal. Microsoft also already has a Chinese version of its MSN portal.

Determining jurisdiction in regulatory oversight of Internet companies is a thorny issue, Mansihin said, pointing to U.S. efforts to extend laws to offshore Internet gambling companies.

In antitrust reviews, he said the government must establish that there is some nexus between the merging companies that affects consumers or the business community within the borders of the country.

The latest wrinkle comes at a lull in the high drama that has characterized the fallout from Microsoft's bid. Leaders of the two companies are widely believed to be in discussions about an amenable combination. Should they fail to strike a deal on peaceable terms, Microsoft may already have a slate of directors ready to nominate in an attempt to oust Yahoo's board.