Barnes & Noble (BKS) is the subject of a highly contingent $17 per share cash buyout offer from John Malone's Liberty Media Corp (LINITA). While we have every reason to believe in Malone's deal making genius and seriousness, as we have previously mentioned, one of Malone's worst kept secrets is that he is a financial investor. In other words, Malone has made it clear that there are no obvious synergies with Liberty Media and instead, he simply wants to acquire Barnes & Noble because it is an undervalued company. Further proof? Malone told shareholders that they would not aggressively close stores. In addition, the buyout proposal is contingent on CEO Riggio staying in his current role.
We previously discussed potential suitors for Barnes & Noble, but in the below list, we focus as much on the existing nationwide bookstore footprint as we do on the more attractive, growing e-book and Nook business. As the e-book market expands, traditional publishers have faced margin pressures. These pressures could become worse as the e-book market continues to consolidate among Apple (AAPL), Amazon.com (AMZN) and Barnes & Noble. Any further consolidation could further reduce publishers' already diminished margins.
In addition, publishers face an additional risk dimension. Not only are distribution channels for e-books much more concentrated, Amazon.com's recent moves may be signaling that it is ready to seriously take on the publishers themselves. Under this backdrop, strategic partners may find Barnes & Noble increasingly attractive. Despite being one of the top e-book retailers alongside giants like Apple Inc and Amazon.com, Barnes & Noble's market capitalization is around $1 billion. This makes them an enticing growth opportunity.
In general, strategic partners can afford to pay more for a company than a financial investor because of synergistic potential. As such, investors should take a closer look at these potential scenarios.
McGraw-Hill Companies (MHP)
The company is driven mainly by two businesses, the content publishing arm and the Standard & Poor's credit rating business. The S&P's financial segment has attracted a substantial portion of the company's headlines since the financial crisis, but MHP has other notable operations.
McGraw-Hill Education (MHE) consists of two groups, School Education Group and Higher Education, Professional and International Group. From 2008 to 2010, the educational division's revenues decreased from $2.638 billion to $2.433 billion. Going forward the group could face pressures as states and municipalities cut spending. This slipping performance is an important catalyst to consider a transformative deal.
McGraw-Hill is already aggressively pushing into the digital books through partnerships like the one they have with Inkling. The addition of Barnes & Noble's' e-book distribution channel is likely a welcome growth opportunity. In addition, the company could have substantial synergies if they are able to showcase their educational products in the brick and mortar bookstores.
The company has a trailing P/E of 15.03, a forward P/E of 12.92 and a PEG ratio of 1.20. With cash flow from operating activities of $1.458 billion in 2010 and $1.27 billion in cash, a Barnes & Noble sized acquisition is well within reason.
NY Times Company (NYT)
Between 2006 and 2010, the company's revenues decreased from $3.274 billion to $2.393 billion. The company's declining revenues and nearly $1 billion of debt precludes them from purchasing BKS outright, but synergies are readily available with the bookstore chain's electronic segment.
One of the company's biggest risks continues to be the secular shift to digital media medium, and as such, they could view BKS's Nook Color technology and electronic distribution network as additional avenues for their news distribution.
Washington Post Company (WPO)
For several decades, this proud newspaper company was one of the crown jewels in the Berkshire Hathaway (BRK.A) investment portfolio, but we still view it as one of the cheapest stocks that Warren Buffett owns. More recently, the company has become increasingly dependent on their Kaplan education segment. In 2010, the education segment generated $2.9 billion of the company's total $4.723 billion.
Kaplan's revenues have suffered and could continue to experience pressure as Kaplan Higher Education's growth tapers off along with the rest of the industry, because of mounting regulatory concerns.
With these issues and the continuing declines at their namesake newspaper operations, it could make sense for Washington Post to reach out to Barnes & Noble. While WPO did generate $693.716 million of cash flow from operating activities and have around $700 million of cash and investments, a deal would likely be stock based. Still, more than any other potential partnership, Washington Post's Kaplan segment could significantly benefit from the brick and mortar space. These stores could redefine the Kaplan business model by incorporating more smaller format locations. This could leverage the Barnes & Noble brand as a bookstore and place of reading and learning.
News Corp (NWS)
Rupert Murdoch's global media powerhouse could be a very interesting merger partner for Barnes & Noble, both because of the brick and mortar stores as well as the fast growing online distribution and the successful Nook Color.
The company is reportedly interested in a move into the education business. Depending on the direction of their vision, Barnes & Noble could be a brilliant and reasonably priced acquisition. News Corp is one of the rare companies with the vision and boldness to make a industry defining acquisition. Of course, it doesn't hurt that Murdoch has a chance to tweak John Malone.
Scholastic Corp (SCHL)
The company publishes and distributes children's books and educational products. While children's publishing has decreased from $1.187 billion to $910 million between 2008 and 2010, the company's educational segment revenues increased from $407 million to $476.5 million during the same period. With this trend in place, the company offers BKS synergistic potentials through a shift towards electronic children's books. In addition, the company could take advantage of the BKS brick and mortar stores for additional distribution of educational products.
They trade at a trailing P/E of 20.03, a forward P/E of 13.25 and a price/sales of 0.41. Notable investors include Dimensional Fund Advisors, Optimum Investment, Guggenheim Capital and Capital Research Global Investors.
Not long ago, Barnes & Noble was ignored by the stock market. Casual market watchers assumed that the brick and mortar operation would follow in the footsteps of competitor Borders Group. But the Nook Color has improbably developed into the perferred low cost tablet device. Also, BKS is one of the biggest distributors in the fast growing e-book reader market. With this upside and a relatively modest valuation, we think the company's investors have many possible catalysts even if Liberty Media's buyout proposal falls through.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in BKS, MHP, NYT over the next 72 hours.
Additional disclosure: I own BKS shares.