Attention Kmart Shareholders: Bluelight Deal No Bargain
Haven't we heard this story before?
A dot-com slated for greatness runs deep losses, forcing its parent to buy its stock back in. It gets an absurd valuation, permitting early-stage investors to cover their costs while sticking public shareholders with the bill. We're talking about
Wrong. Kmart (KM) Wednesday unveiled a plan to buy back the 40% of its online offshoot Bluelight.com that it doesn't already own, completing a deal it revealed last week. Kmart will also take a $120 million charge to write down the value of Bluelight on its balance sheet. Its shares rose fractionally to $11.63.
Kmart's buyout, for $84 million in cash and stock, was praised as being more shareholder-friendly than the now-infamous Staples arrangement, which spurred shareholder lawsuits and blanket press coverage. But is it really?The Kmart plan ensures that partners Martha Stewart Living Omnimedia and Softbank of Japan escape with few, if any, losses, while Kmart shareholders take a bath. And the deal values Bluelight at a level that will lead to more losses in coming years, observers say.
Value Added?Kmart will shell out $15 million in cash and 6 million shares to buy out its partners. With Kmart shares trading at around $11.50, the deal values the partners' chunk at about $84 million, which is about $3 million less than Stewart and Softbank invested in Bluelight. The buyout puts a value of $210 million on Bluelight.com, which is about $40 million below the unit's valuation at its December 1999 creation. Kmart and Softbank invested an added $80 million last year, meaning the total investment in Bluelight came to $330 million. The unit lost $107 million last year. (The valuation figures were assembled from the sketchy information Kmart and its partners have disclosed. A Bluelight.com representative declined to offer details on how the unit was valued.) While the company would not discuss how the $84 million was doled out, a note in Kmart's 2000 annual report says that Softbank and Martha Stewart are preferred shareholders and are thus guaranteed to recoup their combined initial investment of $62.5 million. Thus, it appears that Martha Stewart walked away without losing a dime; for its part, Softbank may have lost some of an additional $25 million it pitched in during a secondary round of financing. But the $120 million charge shows who's really paying for Bluelight's losses -- Kmart shareholders. If a valuation of $210 million for a money-losing business isn't exactly sensible, at least it's not outlandish. Recall that Staples.com's bankers tried to pin a $900 million valuation on a business that lost more than $140 million last year. Of course, retailers set up their dot-com arms with multimillion-dollar public offerings in mind; now that the Internet stocks have crashed, there's little reason to maintain these businesses separately. Howard Hansen, a portfolio manager at Lord Abbett, which owns around $40 million in Kmart stock, acknowledges that Kmart's terms look reasonable alongside Staples'. But he says Bluelight is still expensive for a money-losing business with no immediate profit prospects. "No one is ever really happy about that," he says. Still, "from our standpoint, the Internet in retail is seen as a necessary expenditure," he says. "Something like a broker having a telephone."
You Have to Be ThereDespite the losses, Bluelight.com is still considered a valuable asset to Kmart. While stand-alone Internet retailers have had their troubles, the online offshoots of brick-and-mortar retailers are
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