Throw This Stock Away

The house rules are simple in this weekly column.

I bash a stock that I think is heading lower. I offset the sting by recommending three stocks as portfolio replacements.

Who gets tossed out this week? Come on down, Barnes & Noble (NYSE: BKS  ) .

The oldest trick in the book
Misplaced euphoria is fleeting.

Shares of Barnes & Noble traded as much as 90% higher on Monday after Microsoft (Nasdaq: MSFT  ) stepped up with a ridiculous plan. Mr. Softy would invest $300 million for a 17.6% stake in Barnes & Noble's money-draining Nook business and the bookseller's fledgling college bookstores unit.

Investors quickly began doing the math. If carving out everything outside of Barnes & Noble's fading superstore business was worth $1.7 billion (based on Microsoft's ransom for its minority stake), how could all of Barnes & Noble be worth substantially less?

However, speculators who thought they were getting a deal as they bid the shares up to $26 on Monday began to realize that this wasn't such a hot deal after all. The stock shed nearly half of its gains by Monday's close, and yesterday the stock fell back into the teens.

Just because Microsoft pays a premium for some skin in digital publishing doesn't mean that the market values Nook as a $1.7 billion gamble.

Obviously Barnes & Noble is better off today with the Microsoft assist than it was last week without it. Mr. Softy is also fortifying the platform by committing $180 million over three years in guaranteed revenue-sharing payments on e-book sales and another $125 million over the next five years for international expansion.

The rub is that none of this is going to make the Nook any more relevant to consumers. The Nook isn't a distant second in e-books -- or a distant third if we include tablets as e-readers -- because folks fear that Barnes & Noble may be going out of business. They have other reasons for favoring Kindles and iPads.

Barnes & Noble is in a bad spot. Analysts see losses continuing until fiscal 2014, and splitting its business in two isn't going to change that its bookstore business will continue to shrink as digital reads take over and that the Nook ecosystem is no match for the App Store and Kindle marketplaces.

Just because Microsoft is willing to cut you a big check doesn't mean that it's advisable to take it. See, Microsoft doesn't shell out big bucks unless a company is willing to scratch Mr. Softy's back, even if it's to its own detriment. Ask Nokia (NYSE: NOK  ) shareholders if they regret last year's deal with Microsoft to champion Windows Phone as its smartphone mobile operating system of choice. Ask Yahooligans if they're satisfied with what outsourcing their search through Bing has done for their market share.

Selling your soul to Microsoft often carries a bigger price than the cover charge that the software giant pays on the way in. It may seem all sweet and innocent now, but just wait until the arrival of future Nooks that may replace Android with a Microsoft operating system.

Outside of Facebook, taking Microsoft's money has been a losing bet. Barnes & Noble may have bought itself some more time and wiggle room, but sooner or later this isn't going to end well.   

I've seen enough. I initiated a bearish CAPScall rating on Barnes & Noble during Monday's mania.

Good news
As I do every week, I don't talk down a stock unless I have three alternatives that I believe will outperform the company getting the heave-ho. Let's go over the three fill-ins.

  • Apple (Nasdaq: AAPL  ) : As Barnes & Noble posts larger-than-expected deficits with every passing quarter, the world's most valuable tech company continues to hit it out of the park. Apple's App Store ecosystem is what every fledgling platform wants to be when it grows up. The only things growing faster than Apple's share price are analyst profit targets. Apple is now trading at just 12 times this fiscal year's bottom-line forecast. The class act of Cupertino has rarely been this cheap.
  • Google (Nasdaq: GOOG  ) : Nook is based on Google's open-source Android platform -- for now, at least -- but it's also time to take a closer look at the world's largest search engine as an investment. Big G is also trading at a historically cheap level. Google's stock is fetching 14 times this year's earnings and less than 12 times next year's projection.
  • Microsoft: Just because someone likes Apple and Google doesn't mean that he or she can't warm up to Microsoft. Even if this Nook wager is a bad bet, there are too many things going right at the world's leading software company these days to ignore the opportunity. The Windows Phone push may be off to an uninspiring start, but just wait until Windows 8 revolutionizes what PCs and tablets can do later this year.

The Motley Fool owns shares of Apple, Google, and Microsoft. Motley Fool newsletter services have recommended buying shares of Google, Nokia, Microsoft, and Apple. Motley Fool newsletter services have recommended creating bull call spread positions in Microsoft and Apple and writing puts on Barnes & Noble. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Longtime Fool contributor Rick Munarriz does not own shares in any of the other stocks in this story. Rick is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early.


Read/Post Comments (3) | Recommend This Article (7)

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  • Report this Comment On May 02, 2012, at 1:50 PM, leonhart03 wrote:

    Funny, I wonder how much these aggressive blogs have contributed to people shying away from BN...

  • Report this Comment On May 02, 2012, at 1:58 PM, thesand wrote:

    the deal was 3 days a go your judgment based on nothing,the deal was good for both company ,for the short term no improvement will be seen as the time go the deal will make the difference,let see how barns will use it to benefit from it ,they should have plan for the next five year .the company still in progress ,and you make it dead before it start ,does not mean the company is loosing the deal is dead you must see the result ,no company will come out from a loose in one day they must do a move to to make profit.

  • Report this Comment On May 03, 2012, at 12:51 AM, a135nav wrote:

    Don't be so quick to count out B&N. The vast majority of books sold are still made of paper, not electrons. With the the demise of Borders, in many places B&N is the only game in town for traditional book buyers. The Nook holds about 25% of the ereader market. How many retailers dream of having a 25% share in their markets? Their college bookstore division is hardly "fledgling" it dominates its market. Maybe you should try visiting one of their stores. Educational toys and games are now a big part of the stores as well as accessories for Nook and Apple products. Given the current economy, I think they are doing well in this rapidly changing market.

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