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In Nook and AOL Wins, a Kinder, Gentler Activist Emerges (Update 1)

In the letter, Starboard pointed out that investors were giving little worth to AOL's valuable media assets like The Huffington Post, its search business and its advertising network -- signaling room to lift shares -- but didn't mention the patents that are driving 2012 gains.

"Barnes & Noble was not an activist investment," said David DiDomenico of Jana Partners at the same conference. "We focus on value plus catalyst opportunities... companies at a discount and with a reason to overcome it," DiDomenico said.

In early January, Barnes & Noble said it was exploring a spinoff of the Nook unit from its traditional brick and mortar bookselling business after cutting its 2012 earnings outlook, and it was then that Jana Partners began accumulating its 11.56% share stake , said DiDomenico. But Monday's deal with Microsoft adds what could be an unexpectedly powerful technological and financial partner in a spinoff that likely materialized faster than investors expected.

Still, Microsoft's minority stake may not be a panacea. Credit Suisse analyst Gary Balter wrote in research note that there is still a risk Microsoft could view the deal as just one of many options for its upcoming Windows 8 launch, without contributing the needed cash to fully develop Nook. "While $300mm or even $600mm over time clearly helps, it is a drop in the bucket for Microsoft, with the bigger question being can any product not using either Apple's or Amazon's or possibly Android's operating system be successful," added Balter.

Goldman Sachs analyst Matthew Fassler pointed to the inclusion of Barnes & Noble's College Bookstore business as an "interesting angle" within the partnership because the unit hadn't previously been a part of divestiture plans and could mesh well with Microsoft's existing PC and Windows products, in addition to its tablets push.

Recently updated analyst price targets give AOL shares a value of between $27 and $33, according to Bloomberg data. New price targets for Barnes & Noble range from $18 to $32 a share on three buy ratings and three holds.

"For us, the way to avoid a value trap is to make sure that an investment is not only cheap, but that we have a plan to create value and a clear path in creating that value," said Starboard CEO Smith. When releasing the letter to AOL CEO Armstrong, Smith explained his views on why the company's shares were underperforming, focusing on the value of assets outside of AOL's dial-up business and its cash. Meanwhile, Smith noted that AOL spent $667 million or $6.85 a share since 2009 in deals to grow its display unit, capped by a $315 million investment in The Huffington Post.

After releasing the letter and upping the firm's AOL investment to over 5%, Smith said it was then that he found out about the high, but fading value of AOL's patent portfolio. "We got phone calls from people who wanted to buy the patent portfolio from AOL," said Smith, who relayed that interest to investors through public statements. In March, AOL hired Evercore Partners (EVR) to explore a sale, which materialized a month later.

Smith's initial plan hasn't changed and he's sticking to it, maintaining that a strategic partner or even closure of some money-losing businesses like local news service Patch.com may unlock the display unit's overall promise. After the patent sale, Smith says AOL is "cheaper than when we first looked at it."

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