(Adds comments from Yahoo, investor, analyst)
By Anupreeta Das
SAN FRANCISCO, May 3 (Reuters) - Microsoft Corp (MSFT.O) walked away from its bid to buy Yahoo Inc YHOO.O on Saturday after the Internet company turned down its offer to raise the price by $5 billion to $47.5 billion.
Microsoft's offer was for $33 a share but Yahoo would not lower its demand below $37, Microsoft Chief Executive Steve Ballmer said. The software company initially bid $31 per share for Yahoo more than three months ago.
"We believe the economics demanded by Yahoo do not make sense for us, and it is in the best interests of Microsoft stockholders, employees and other stakeholders to withdraw our proposal," Ballmer said in a statement.
Analysts say Yahoo has overplayed its hand and they expect the Web pioneer's shares to fall as much as 30 percent to $20 levels when Nasdaq trading resumes on Monday. The stock rose nearly 7 percent to $28.67 on Friday on hopes of an agreement between Microsoft and Yahoo.
"Wow. I'm shocked Yahoo wasn't more reasonable. The stock will probably go down at least $5 on Monday. It is surprising that Ballmer walked away instead of trying a hostile bid at $33," said Walter Price, a senior portfolio manager at RCM fund management company in San Francisco, which had 21 million Microsoft shares and 2 million Yahoo shares as of the end of December.
Laura Martin, a senior analyst at Soleil Securities, said she expected a number of shareholder lawsuits against Yahoo.
"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," she said. "They've prioritized employees over shareholders in the hopes that someday they can create more than $8 billion of value, even if they have no track record of doing so," she said.
Some Wall Street analysts also have said Microsoft could pull its bid as a negotiating strategy aimed at putting pressure on Yahoo to eventually accept a future offer.
Yahoo Chairman Roy Bostock said in a statement the company believed from the beginning that Microsoft's offer undervalued it, and the board was "pleased that so many of our shareholders joined us in expressing that view."
He said Yahoo was pursuing "strategic opportunities" but gave no details.
Yahoo has courted possible deals with Time Warner Inc's (TWX.N) AOL Internet division or News Corp's NWSa.N MySpace online social network, and tested a search advertising partnership with Google Inc (GOOG.O). A partnership with Google may be announced as early as next week, a person with knowledge of discussions told Reuters.
"With the distraction of Microsoft's unsolicited proposal now behind us, we will be able to focus all of our energies on executing the most important transition in our history so that we can maximize our potential to the benefit of our shareholders, employees, partners and users," Yahoo co-founder and Chief Executive Jerry Yang said in a statement.
Jordan Rohan, founder of digital media advisory firm Clearmeadow Partners, said Yahoo could name Time Warner as a partner or buy AOL to put a positive spin on the situation, but neither option would give as good a payoff to shareholders.
"Yahoo management and board overplayed its hand. Shareholders were cheated out of a victory," Rohan said. "I think Yahoo forgot what it felt like to have a share price under $20. They may be reminded soon."
Ballmer cited Yahoo's Google plans as one reason Microsoft was walking away rather than mounting a hostile offer.
"We regard with particular concern your apparent planning to respond to a 'hostile' bid by pursuing a new arrangement that would involve or lead to the outsourcing to Google of key paid Internet search terms offered by Yahoo today," Ballmer said in a letter to Yang, made public on Saturday. "In our view, such an arrangement with the dominant search provider would make an acquisition of Yahoo undesirable to us."
Microsoft wants to buy Yahoo to gain a stronger foothold in its battle with Google, which is expanding rapidly into the software maker's own turf with new Web-based applications.
Technology analysts say Microsoft may not really walk away from Yahoo, and Saturday's move could parallel Oracle Corp's ORCL.O strategy in winning over BEA Systems Inc BEAS.O. Oracle pulled its offer in October 2007, leading BEA shares to fall 6 percent. Despite the tough talk, the companies reached an agreement in January this year.
Although Microsoft has not succeeded in sealing a deal, tough talk by Ballmer has already brought Yahoo to the negotiating table.
According to a person familiar with Microsoft's thinking, Yahoo's advisers said initially it would not negotiate with Microsoft for anything less than $40 a share. But amid threats by Microsoft to launch a hostile takeover, Yang suggested a price of $38 a share, the person said.
On Saturday, Yang and Yahoo co-founder David Filo met Ballmer and Microsoft's Platforms & Services Division President Kevin Johnson in Seattle, where they communicated that Yahoo's board was willing to cut a deal at $37 a share, although the two co-founders remained committed to a dollar more per share, the source said.
Price was not the only stumbling block, another person familiar with the discussions said. Microsoft had also failed to respond adequately to antitrust regulatory concerns that Yahoo raised at several meetings, said the source who was not authorized to speak on the record.
Yahoo also wanted "value-certainty" assurances the value of Microsoft's offer would remain the same when the deal, if it did get done, closed, the person said. (Additional reporting by Michele Gershberg, Kenneth Li and Tiffany Wu in New York, Muralikumar Anantharaman in Boston and Peter Henderson in Los Angeles; Editing by Peter Cooney)