Book retailer Barnes & Noble (NYSE:BKS) has seen its stock price plummet 36% this year. Disappointing earnings results last quarter that were below Wall Street’s expectations sent the shares down even further.
Despite the stock price’s plunge, value investors are hardly rushing to scoop up the stock. The stock still looks expensive trading at 64x consensus 2011 EPS.
The one bright spot may be Barnes & Noble’s dividend. The stock offers a compelling dividend yield of 8.2% based on Wednesday’s closing price. That’s well above the average 1.9% yield of the S&P 500 index. Of course the big question for investors – is the dividend safe at Barnes & Noble?
Barnes & Noble pays out $1.00 per share in dividends to its shareholders. That was a reasonable amount when BKS was earning over $2 per share in 2007 – 2008. However, in fiscal 2010 the company earned only $.63 per share. Wall Street isn’t expecting a rapid turnaround either. Analysts expect only $.10 per share in earnings this year and just $.19 per share in fiscal 2012.
On a cash basis, it costs Barnes & Noble $59 million each year to support its current dividend program. Unfortunately the company generated less than $1 million in free cash flow in fiscal 2010. Capital expenditures are expected to increase this year and the company is already forecasting zero free cash flow. With only $61 million in cash and $510 million in debt on their balance sheet, the company can hardly afford to finance their dividend with additional debt.
The company has been hanging much of their hopes for the future on capitalizing on the digital book market. The company expects to capture 25% of that market by 2013. Barnes & Noble CEO William Lynch believes this could generate $3 - $5 billion in incremental revenue.
Of course the company’s Nook e-reader faces stiff competition from Amazon’s (NASDAQ:AMZN) Kindle and Apple’s (NASDAQ:AAPL) iPad. Early reports indicate that the iPad is selling much better than anticipated and the Kindle has seen sales accelerate since Amazon cut its price. The e-reader segment is clearly going to be an ultra-competitive field and it’s difficult to see Barnes & Noble emerging as the market leader in that space.
Chairman and founder Leonard Riggio recently said that he didn’t foresee any changes to the company’s dividend policy. However, we don’t believe that the dividend is safe at Barnes & Noble and the company will need to reduce its dividend in the near term. If the company achieves its aggressive growth plans, the company may be in a position to restore its dividend to its current level in 2013-2014. Continuing to pay a dividend when you cannot afford to is actually detrimental to investors. Big dividends are not bad news if a company can afford to pay them, unfortunately in Barnes & Noble’s case it appears that it cannot.
Disclosure: Long AAPL