Yahoo! is in talks on a possible deal with Rupert Murdoch's News Corp, but analysts said yesterday that an alternative bid was unlikely to emerge to rival Microsoft's $42.1 billion (£21.5 billion) offer.
News of the talks to combine their web properties was first reported by the Silicon Alley Insider blog on Monday, which said one proposal would involve a cash infusion from News Corp and an unnamed private equity fund.
A source familiar with the situation said Yahoo! and News Corp were talking about a deal, but could not confirm any details.
The Wall Street Journal , which is owned by News Corp, reported that a deal being discussed would give News Corp a more than 20 per cent stake in Yahoo!
"Any options other than Microsoft are all fraught with serious consequences," said Sanford C Bernstein analyst Jeffrey Lindsay.
"The management has left it to so late in the day to really find any alternative. They have basically backed themselves in the corner."
Analysts say alternatives such as a News Corp partnership might have long-term strategic benefits for Yahoo!, but would not give its shareholders an immediate investment return like Microsoft's $31-a-share buyout offer.
Thus, if the Microsoft bid were to fall through, analysts expect Yahoo! shares to plunge. The stock was trading below $20 before Microsoft's proposed $31 offer was made public.
"It is hard to imagine that Rupert would be willing to put enough cash in the deal to make it interesting to Yahoo! shareholders," RBC Capital's Jordan Rohan said.
Short-sellers also appear to have backed away in the last few days from bets against a Microsoft-Yahoo! deal, according to data from Data Explorers, which tracks securities lending.
Yahoo! on Monday turned down Microsoft's bid, saying it did not properly assess the worth of the Web pioneer's wide audience, online advertising investments, cash-generating ability and growth prospects of overseas holdings.
Microsoft responded by saying its offer was "full and fair" and it reserved the right "to pursue all necessary steps," but it did not give details on what it would do next.
On Wednesday, Yahoo! chief executive Jerry Yang took the company's case for remaining independent to shareholders, sending a letter that largely repeated arguments made in a regulatory filing and a letter to employees earlier in the week.
Many analysts expect Microsoft to sweeten its bid to at least $35 a share and as much as $40 a share.
That worries some shareholders concerned about when the deal would pay off. Money manager Bob Olstein, who owns about one million Microsoft shares, is urging the software company to make it an all-cash deal and resist pressure to raise its bid.
"Under no circumstances should you raise your price," Mr Olstein said in a letter to Microsoft chief financial officer Chris Liddell. "We believe your recent offer for Yahoo! is materially above Yahoo!'s value."
Microsoft, which has $21.3 billion (£109 billion) of cash on its balance sheet, would have to borrow for an all-cash offer.
Mr Murdoch has held on-again, off-again talks with Yahoo! in the past year. He told analysts and reporters on a conference call last week that News Corp was not interested in bidding for or pursuing any transaction with Yahoo!
News Corp and Microsoft declined to comment while Yahoo! reiterated its position that its board continues to explore its options.