For whatever it's worth, here's my advice to Steve Ballmer at Microsoft. You do confront tough choices.
Just walk away from Yahoo.
My reasons are simple and straightforward.
1. You made a good faith bid with a substantial (more than generous) premium when most had written off Yahoo as having stumbled. Yahoo has repeatedly rejected your offer--although no other credible offer has shown up. Even the latest deadline passed without any overture from them.
2. Your reason for acquiring Yahoo is to create a credible alternative to Google's monopoly on the online advertising space. To rebuff you more directly, Yahoo tried to initiate a trial with Google. Even the antitrust authorities do not like the smell of it. Yahoo did that just to irritate you and your company--as nothing really serious or substantive would have come off that trial to shore up an alternative bid for Yahoo.
3. You can clearly go the proxy fight route. That's meant for those seeking to make a financial restructuring or get the Board to act decisively (such as Carl Icahn at Motorola). Do you really want to take on a fight and distract your valuable time and resources?
4. I think you should look creatively how to invest the $41 + billions of dollars to assemble a portfolio of capabilities on a global basis to prepare for the network era competition that is still in its early days. Instead of looking at entities that may have passed its prime (but may not recognize it yet!), look for gems that are undiscovered. In your history, you have always found those gems (Hotmail, Powerpoint, Groove etc.) and those gems have allowed Microsoft to adapt well..
5. Lastly, post-merger integration is thorny and problematic even under friendly conditions. Winning Yahoo through a proxy fight will only worsen that.
The marketplace for global advertising online is heating up and timeliness is key. You are better off walking away from Yahoo and assembling a credible alternative through other avenues of friendly acquisitions and alliances. You can show that you can win against both Google and Microsoft on your own!