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We believe that millions of readers in the United States share -
to varying degrees - the sentiments expressed in the above
quotations. Those shared sentiments help explain our conviction in
the potential value inherent in Barnes & Noble. As professional
investors, however, we also recognize that the "value" of a
publicly-traded company is measured by one sole metric: its stock
price. Unfortunately, by this critical measure, we do not believe
the true intrinsic value of BKS is being adequately reflected. To
put a fine point on this matter, according to Bloomberg, the
Enterprise Value (Market Value + Net Debt) of Barnes & Noble has
fallen to about 3.2x FY2018E EBITDA, lower than nearly every other
publicly-traded retailer. This in and of itself is
shocking considering the steep and across-the-board drop in retail
valuations that we have seen in 2017.
What makes the
under-valuation of Barnes & Noble all the more shocking is that,
as opposed to the numerous other national apparel, footwear,
grocery, and home furnishing chains abounding in this country,
there is but one truly national bookstore chain. So while there
may be 10 different stores in a typical urban shopping area where
one can go to purchase a T-shirt, there is almost no other "bricks
and mortar" option when it comes to buying a book. Yet
notwithstanding the ill-considered notion that books are "a thing
of the past" proffered by some, a view probably embraced by the
same people who also (wrongly) thought that Amazon.com would have
put Barnes & Noble out of business 10 years ago, it
is our contention that physical books, and physical bookstores,
are not going away anytime soon. Furthermore, even if
book sales were to decline, it is our belief that the discounted
value of the future stream of cash flows that BKS could expect to
generate, otherwise known as its intrinsic value, would far exceed
the current enterprise value of the Company.
Due credit must be given to the Company's 76-year old founder and
Chairman Leonard Riggio for creating such an iconic company as
Barnes & Noble. However, we must also call attention to certain
strategic missteps and many troubling related-party transactions
that we believe have taken place over the years on his watch. It
is beyond the scope of this initial letter to discuss in great
detail these issues, such as the sale of Mr. Riggio's own college
book business to BKS for more than $500 million and the hundreds
of millions of dollars that the Company's failing and
poorly-conceived Nook business may have cost shareholders, along
with the Company's inexplicably high SG&A expense structure and
parade of CEOs who have come and gone in the last few years.
Instead, one need only focus on Mr. Riggio's inability to
reposition Barnes & Noble as a vital strategic retail asset for
the vibrant information economy of the 21st Century to
see how he has let shareholders down.
In fairness, there are other reasons that Barnes & Noble, and
indeed many other publicly-traded retailers, are facing disfavor
amongst investors, one prime reason being the massive and
indiscriminate sell-off that has plagued the sector in general. It
is our opinion that the public market for retail stocks is
contributing to a risky and inhospitable environment under which
the stock price of Barnes & Noble may not fairly reflect its
intrinsic value anytime in the foreseeable future if it remains a
stand-alone company. It has become clear to us that all
of the Company's stakeholders would be better served if Barnes &
Noble were operated as a private company or as a division within a
larger company, which would allow management to focus 100% of its
attention on the Company's underlying operations. To wit, it is
our belief that Barnes & Noble should be owned by an organization
with both the vision and stability of capital that investors in
the public market generally cannot provide.
What highlights the timeliness of this matter are two recent
transactions in the retail space, namely the proposed acquisition
of Whole Foods Market, Inc. ("Whole Foods") (WFM) by
Amazon.com, Inc. ("Amazon") (AMZN) and the proposed
acquisition of Staples, Inc. (SPLS) by the private equity
firm Sycamore Partners LLC, as well as the news that Nordstrom,
Inc. (NYSE: JWN) may be exploring a going-private transaction
involving members of the Nordstrom family. In
each of these cases, sophisticated investors and operators are
coming to the realization that the public market is not affording
retail stocks fair value and are "putting their money where their
mouth is," signifying that, for all the doom and gloom surrounding
retail, there is still capital available to purchase quality assets.
It is a damning commentary on the absurdly short-sighted nature of
the public markets that the sole national book retailer in the
United States, with strong cash flow (over $180 million in FY2017
Adjusted EBITDA), a loyal customer base, and a truly enviable,
countrywide footprint of stores in highly-favorable locations, is
being afforded a market value of a mere $520 million. One need
only read the following insightful tweet regarding Amazon's
proposed $13 billion purchase of Whole Foods by The Wall Street
Journal's Dennis Berman in order to see this valuation disconnect
as well as envision the strategic value that Barnes & Noble may
hold: "Amazon did not just buy Whole Foods grocery stores. It
bought 431 upper-income, prime location distribution nodes for
everything it does."
It is our opinion that Barnes & Noble,
with its 633 stores, is similar "beachfront property." Even
at a purchase price of $1 billion, or close to double the current
market value of BKS, such a price would be a "rounding error"
compared to the market value of a host of internet or media
companies looking for a retail presence, with the added benefit
being that Barnes & Noble is already in the same fundamental
business, namely the distribution of information. While
Leonard Riggio may not have grasped this essential congruence,
visionary leaders in the technology, social media, or publishing
space may be able to better capitalize on the unique position
Barnes & Noble holds.
On the other end of the spectrum, from a purely financial point of
view, the robust cash flow and low leverage of BKS makes the
Company highly-attractive to a financial buyer such as a private
equity firm. We believe a financial sponsor could pay a price of
more than $12.00 per share, over 60% higher than the stock price
of $7.15 as of July 21, and still generate a 5-year IRR in excess
of 20%. In fact, Leonard Riggio himself, with his approximate
18.0% equity stake in the Company, could seek to take the company
private in a leveraged acquisition at a fair price for public
shareholders, as he had publicly sought to do back in 2013.
Indeed, considering the hundreds of millions of dollars that Mr.
Riggio has personally realized from the aforementioned sale of his
college books business as well as other businesses, he clearly has
the financial resources to take the Company private.
For all these reasons, it is our belief that now is the time for
the Board of Directors (the "Board") to retain a qualified,
nationally-recognized investment banking firm in order to conduct
an expansive strategic alternative process aimed at achieving a
privatization of BKS at a price that delivers fair value to the
Company's shareholders. Given our concerns, my colleague Richard
Mansouri and I thought it would be most constructive to seek
dialogue with the Board of Directors of the Company as soon as is
possible, as it is our preference to resolve this situation in an
amicable manner. That said, as our
persistent efforts as long-term shareholders to see value quite
successfully delivered to the shareholders of companies such as
Bob Evans Farms, Inc. (NASDAQ:BOBE) and Viavi Solutions Inc.
(NASDAQ:VIAV) should illustrate, our firm is prepared to stay the
course to see value delivered to the true owners of a company,
namely its shareholders.
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