By Yi-Wyn Yen

Microsoft signaled Friday that it could rescind its offer to buy Yahoo at $31 a share.

Microsoft (MSFT) and Yahoo (YHOO) executives met earlier this week but the talks ended in a standstill. Microsoft execs, who had earlier hinted that they would not raise their bid, refused to pay the $40 per share that Yahoo demanded, a source familiar with the matter told Fortune.

A Yahoo spokeswoman declined to comment.

The source said that Microsoft doesn’t plan to revoke its offer, but is merely using a tactical maneuver called “market signaling” to put pressure on Yahoo’s board of directors. Microsoft is broadcasting to Wall Street that Yahoo’s stock would become vulnerable it if withdraws its bid.

The software giant has said that it does not need to raise its offer because it doesn’t believe Yahoo has any alternative but to accept the deal. Yahoo has repeatedly stated that Microsoft’s offer significantly undervalues the company and formally rejected the offer in February.

After Reuters reported Friday that Microsoft was “evaluating” its offer, Yahoo shares slipped 6% in after-hour trading. The software giant made its $44.6 billion offer on Jan. 31. The deal is now valued at about $42 billion.

By Yi-Wyn Yen

Yahoo and Microsoft executives have reached an impasse. Executives from both sides met this week near Yahoo’s headquarters in Sunnyvale, Calif., but failed to reach an agreement, according to a Wall Street Journal report.

This is just the second time the two have met since Yahoo (YHOO) rejected Microsoft’s $45 billion cash-and-stock offer in February. Microsoft’s dropping share price has pushed the value of its original offer of $31 a share to roughly $29. Yahoo thinks that’s too low, and Microsoft (MSFT) thinks the deal’s fair. Yahoo’s stock traded at $27.89 in mid-day trading Friday.

Some industry watchers believe the magic number in order for the deal to get done quickly is $34 a share. Citigroup analyst Mark Mahaney has repeatedly stated that a merger is likely at that offer. “We believe buying Yahoo shares here provides an attractive return,” Mahaney wrote in a recent report.

More talks between the two companies are unlikely before Yahoo reports its first-quarter earnings on April 22. Last month Yahoo executives including CEO Jerry Yang and president Sue Decker went on a weeklong roadshow to present to major investors on the company’s 2008 outlook. All Things D’s Kara Swisher reported that Yahoo’s institutional investors weren’t impressed.