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TheStreet Open House

5 Short Sighted Stock Spinoffs

3. Barnes & Noble's 2001 Babbage's Blunder

In October 1999, Barnes & Noble (BKS - Get Report) bought Babbage's Etc. a video games retailer partly owned by chairman Leonard Riggio for $215 million in cash, paving the way for a lucrative and fast growing venture into video game sales. The deal to buy Babbage's Ect. and a later decision to spin the re-branded business, was one of the four deals that rewrote Barnes & Noble history as it struggles to compete against Amazon (AMZN) in print and tablet based book sales.

The move was a push into growing video-game market as console makers Sony (SNE), Microsoft (MSFT) and Nintendo (NTDOY) and software makers like Electronic Arts (ERTS) drove gaming innovation. It was also expected to help barnesandnoble.com keep pace with rival Amazon by offering an expanded suite of PC and console games.

At the time of the deal, Babbage's Etc. operated 495 brick and mortar stores and an online games selling business and was valued at 5.1 times estimated 1999 EBITDA. To make the opportunistic purchase, Barnes & Noble drew on a $850 million line of credit.

Babbage's Etc. was then rebranded to the recognizable GameStop (GME - Get Report) trademark, which saw stores and sales surge after the acquisition. By August 2001, GameStop nearly doubled its video-game selling stores and was preparing for an IPO spinoff after quarterly sales surged 63% to $206 million. With the IPO, Barnes & Noble expected to reduce its debt and recapitalize the gaming retailer.

After shelving the IPO until February 2002, GameStop shares made an impressive debut on the New York Stock Exchange, rising 12% to close at $20.10 - raising $325 million for Barnes & Noble. Since the IPO, the two companies have seen their fates differ.

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GameStop shares surged over 145% since its initial public offering - even after a post-recession share slump and dimming sales outlook -- while Barnes & Noble has seen its shares cut by more than half. GameStop has been profitable in every quarter as a public company, with sales and profits growing in 2010.

Meanwhile, Barnes & Noble lost money in 2011, and is tied to a strategy of plowing cash into its Nook business to drive sales growth as its brick and mortar stores lag. In January, the nation's largest in-store bookseller saw its shares plummet and fall within reach of all-time lows after it announced a spin of its Nook tablet books selling business and cut its overall 2012 earnings outlook - leading to an earnings per share loss expectation as high as $1.40.

The share drop put into question the wisdom of the spin after the unit saw sales jump over 40% in the nine week 2011 holiday season, compared with the prior year. In recent earnings, Barnes & Noble ascribed a glowing outlook to its Nook-fueled BN.com business, which it expects to grow as much as 50% in 2012, while its brick and mortar and Barnes & Noble College businesses achieve flat sales.

Other Barnes & Noble deals like the rejection of a May 2011 bid by John Malone run Liberty Media (LMCA) to buy the bookstore for $1.02 billion, or $17 a share - a 20% premium to shares at the time - also panned.

For more on Barnes & Noble here's a look at black-friday-2011-stock-short-squeezes and the reasons why Barnes & Noble can't act like Amazon.

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