Activists Poised to Rewrite Barnes & Noble Book in 2012

NEW YORK ( TheStreet) - It's no secret Barnes & Noble ( BKS), which still draws the bulk of its revenue from the near-extinct retail channel known as bookstores, has struggled to capitalize on new consumer habits and technology. Simply put, the company has failed to build sustainable 21st century profits.

But there's a hitch -- as brick and mortar book sales goes the way of the T. Rex, investors can't agree on whether to call Barnes & Noble a dinosaur or define it as a species that will adapt, with the help of activist investors.

After showing promise in competing against Silicon Valley heavyweights Apple ( AAPL) and Amazon ( AMZN) with its eBook platform Nook amid a forgettable 2011, Barnes & Noble looks like it has a chance. This has led activists to pile into the company's shares -- this week it was Jana Partners -- with the idea they can help to build an identity that de-emphasizes its bookstores. At the same time, short sellers have gone the other way and bet on failure.

The 12% share stake in Barnes & Noble unveiled by activist investor Jana Partners on Monday underscores that 2012 will be a decisive chapter in the bookseller's history. What's the next page: status quo, asset spins, an outright sale, or even bankruptcy?
Investors should expect a 2012 page-turner from Barnes & Noble.

Currently, Barnes & Noble is fighting wars on multiple fronts as it tries to grow a competitor platform to Apple and Amazon's eBook and tablet platforms.

"They are competing with Amazon and Apple, you've got an antitrust lawsuit and there are a lot of large shareholders on the inside and out. It's a lot of moving parts," says John Tinker, an analyst with Maxim Group.

The New York-based company and its chairman Leonard Riggio spent 2011 warding off Liberty Media ( LMCA) and other activist shareholders like Ron Burke-run Yucaipa Companies. Meanwhile, Barnes & Noble saw its profits evaporate into a $74 million 2011 loss. After reporting weaker than expected holiday sales and a grim 2012 outlook, the company said in January it would explore spinning off its promising Nook digital books unit, but the Nook may have its margins challenged by a Department of Justice lawsuit on eBook pricing.

Amid a chorus of gloom and doom about its bookstore model and falling profits, Barnes & Noble may be on the cusp of success with the eBook/tablet business model. It would be a dramatic turnaround after the company lost to Amazon in the online books market a decade ago.

"What is fascinating about Barnes & Noble and the new CEO William Lynch Lynch joined in 2010 is that they've come out with a product that has so far been successful against Amazon and Apple. That's remarkable," adds Tinker.

The nation's largest in-store bookseller saw its shares open 2012 within reach of all-time lows after it cut its sales and earnings outlook.

While Barnes & Noble ascribed a glowing outlook to its Nook-fueled business, which it expects to grow as much as 50% in 2012, it said that brick and mortar sales and its Barnes & Noble College businesses will achieve flat sales. Those projections led to a cut in its overall 2012 sales and earnings outlook, driving its earnings per share loss expectation as high as $1.40. The company has posted more than a 10% year-to-date loss, underperforming broader markets, even after a near- 20% Monday share surge to over $13 on the Jana Partners investment.

To appease wary shareholders, the company said it would consider a Nook spinoff that could unlock value for shareholders.

"We see substantial value in what we've built with our Nook business in only two years, and we believe it's the right time to investigate our options to unlock that value," said Lynch in January. That unit saw sales jump over 40% in the last nine-week holiday season, compared with 2010. In third quarter earnings, which showed declining profits, the company said it had built a 25% eBook market share. Lynch and Barnes & Noble have said little about how a spin would be executed.

"If Barnes & Noble really has 25% to 30% of the eBook market it means they've made the jump... It shows they are doing a great job, which is not how people on Wall Street view the company. They think Barnes & Noble is the next Borders," Tinker said.

Now, the question is whether investors like Jana Partners and The Yucaipa Companies will push for that spinoff -- or if there is a better alternative in the cards. Meanwhile, with a 30% stake in the company's shares, founder and chairman Leonard Riggio will have an outsized impact on any strategic moves. He blocked an outright sale to Liberty Media for $17 in May 2011 that, instead, yielded a $204 million Liberty Media stake in Barnes & Noble, or roughly 20% of shares. That move may prove to be canny or hubristic depending on whether the company can make the most out of Nook.

"It's not so much a question of what an activist shareholder wants, as it is whether you think the company needs a strategic partner," says Tinker of Maxim Group.

For instance, Liberty Media's minority share stake in August may signal that it's willing to pony up money for a turnaround. The John Malone-chaired company has seen a tremendous return from funding SiriusXM ( SIRI), another battleground stock, and it also invested in QVC, a TV-based retailer that now generates roughly 40% of its sales from the Web. QVC's demographics are similar to those of Barnes & Noble, notes Tinker.

Jana Partners has launched successful activist campaigns at McGraw-Hill ( MHP) and Marathon Petroleum ( MPC) to spin off assets. Barnes & Noble, notably, hired Michael Huseby as CFO in March, who previously worked to spin Madison Square Garden ( MSG) and AMC Networks ( AMCX) while at Cablevision ( CVC). Other alternatives to a spinoff could win out, though.

Before taking a large Barnes & Noble stake, Jana Partners nearly doubled its investment in Liberty Media to 1.3 million shares, according to a recent regulatory filing, indicating that it could see a fit between both investments. While Jana's pushed for some highly watched spins, it also successfully pushed for an outright sale of CNet in 2008, which culminated in a $1.8 billion takeover by CBS ( CBS) that valued the online tech publisher at more than YouTube.

The alternatives to be contemplated by the big shareholders begs the question of what Barnes & Noble is worth. Recently, G Asset Management offered to buy a 51% stake in Barnes & Noble's College bookstores business, valuing it a $460 million -- after previously campaigning for asset carve outs.

In a March 19 research note, Stifel analyst David Schick said that Liberty Media's takeover bid valued Barnes & Nobles' Nook business at $17 and its bookstores unit at roughly zero, a "going out of business multiple." Schick sees things differently from Malone, with the company's breakup value at $25 a share, indicating some value in the future of bookstores.

Barnes & Noble may simply need a Wall Street makeover to go with its Nook repositioning. "If this were seen as a tech company compared to a book company, you would see a much higher multiple that gives them credit for what they are doing," says Tinker. He gives shares a $20 price target on a 12-month time horizon and ascribes a higher $27 value to the company in a breakup.

Barnes & Noble spokesperson Mary Ellen Keating declined to comment. Jana Partners did not immediately return emails or voicemails seeking comment.

Overall, analysts polled by Bloomberg give Barnes & Noble an average price target of $17.40, on three buy recommendations, two holds and three sells.

Barnes & Noble shares were at $12.70 on Tuesday at midday, as a 5% intraday decline followed the Jana Partners-induced Monday run up.

For more on Barnes & Noble, here's a look at four deals that rewrote the company's history and five short sighted spinoffs. For more on how companies can invest in eBooks, see the reasons why Barnes & Noble can't act like Amazon.

-- Written by Antoine Gara in New York.

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