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Split-Up for Barnes & Noble Could Yield Disappointing Results

Aaron Pressman
The Exchange
Split-Up for Barnes & Noble Could Yield Disappointing Results

Following the resignation of Barnes & Noble (BKS) CEO William Lynch Monday night, Wall Street is focusing on potential restructuring and sale options for the beleaguered bookseller. But there may not be as much value as some investors expect.

Shares of Barnes & Noble on Tuesday jumped more than 4% to $18.52, still well below some investor estimates. At the current price, Barnes & Noble has a market cap of about $1.1 billion. With only $77 million of debt and $160 million of cash, the company’s total enterprise value – what it would take to buy the whole company – is even lower at around $1 billion.

That has some investors salivating. Founder and chairman Len Riggio said in February he wanted to buy the company’s retail bookstore chain, and analysts once estimated that division alone could be worth $1 billion.

The money-losing Nook e-book unit, which was combined with B&N’s college bookstore chain last year, could have value to a strategic buyer, such as Microsoft (MSFT), of another $1 billion, some investors argue. The Redmond software company already owns 17% of the Nook unit.

A starry-eyed analysis

Add it all up and it's pretty close to $35 a share, some investors say. But the starry-eyed analysis misses several critical points.

First and foremost, existing ownership stakes in various parts of the company by heavyweight players, including Riggio, Microsoft and billionaire media investor John Malone, will complicate any deal making. Riggio already owns 30% of the entire company, giving him tremendous leverage to negotiate a sweetheart deal.

Cutting against Riggio’s control is the 17% B&N stake owned by Malone’s Liberty Media. Liberty has said the stake also gives it veto rights over major corporate transactions, setting up a potentially messy fight between Riggio and Malone over the value of the retail chain.

Satisfying all the competing interests will be difficult and likely draw out negotiations. Delay could be deadly because sales are falling at both the retail chain and the Nook ebook unit.

The plain old bookstore chain had sales of $4.6 billion and earnings before interest, taxes, depreciation and amortization (or EBITDA) of $374 million for the year ended April 30. But book store sales have been falling, dropping 6% in the latest quarter, 9% if you include the drop in Nook hardware sales at stores.

The decline in book sales is projected to continue for at least several more quarters, B&N officials admitted on their call with analysts last month. Nook hardware sales will likely plummet as well, after the company said it’s abandoning its current tablet strategy and will outsource production to another manufacturer.

At a seemingly modest multiple of 4 times EBITDA, the chain is worth $1.5 billion. But falling sales tend to reduce profit margins even more, hitting EBITDA; B&N's EBITDA was down 24% in the most recent quarter.

A win for old-fashioned book lovers

Separating the Nook losses from the retail chain would at least allow Riggio to strengthen the stores, a win for book lovers, as Jeff Macke explains on Breakout. Outgoing CEO Lynch had planned to close 15 to 20 B&N stores over the next year.

As for Nook, the ebook subsidiary has been in trouble since last year, when government antitrust regulators broke up a price-fixing conspiracy among publishers. Publishers agreed to settle the charges in part by allowing Amazon (AMZN) to resume offering big discounts on ebooks, forcing B&N to match or lose market share.

Sales at the Nook unit plummeted 34% in the most recent quarter. Excluding hardware, electronic content sales fell 9%, likely an ominous sign to any potential Nook buyer. There's no real rationale for Microsoft or others to pay a premium price for Nook when its hardware business is dead in the water. And consumers can already buy Nook ebooks on Windows, iOS and Android devices via apps.

The college bookstore unit bundled with Nook is probably worth about $500 million on its own, but combined with Nook, all profits have been wiped out by bigger losses on the ebook end. The unit lost $475 million for the most recent year.

In any event, Barnes & Noble owns only 78% of Nook after selling stakes to Microsoft and British publisher Pearson.

The bottom line? Janney Montgomery Scott analyst David Strasser says B&N is worth about $20 a share. More fanciful break-up value estimates for two declining businesses with convoluted ownership structures may need to be shelved.