Microsoft’s Buy of Barnes & Noble’s NOOK Looks More Likely After Nokia Deal

After buying Nokia's (NYSE: NOK  ) handset business, Microsoft (NASDAQ: MSFT  ) could be more likely to purchase Barnes & Noble's (NYSE: BKS  ) NOOK division. Microsoft already owns a minority stake in the business, and merging it with the Windows platform would support Microsoft's goal of becoming an integrated device company.

That would be good for Barnes & Noble's struggling shareholders. And were it to occur, it would only further cement Microsoft's stated aim of becoming a company focused on creating "devices and services."

Barnes & Noble needs a bailout
Barnes & Noble is a company in peril. Its past two earnings reports have been weaker than expected, and shares are down nearly 40% in the last three months. Its quarterly losses have been fueled, in large part, by its NOOK division, which continues to burn through cash.

Its retail business is profitable, but even there, things may be looking grim. Leonard Riggio, the company's chairman, backed out of his plans to buy the retail operation. As an insider, he might have a better idea of the trends affecting the bookstore he founded.

There's even been some notable insider sales. The Wall Street Journal noted last month that Barnes & Noble's head of retail sold roughly two-thirds of his shares in the bookseller.

Microsoft has been rumored to be interested in NOOK
In many ways, Barnes & Noble today resembles Nokia in recent years. And like Nokia, Microsoft could come to Barnes & Noble's rescue. TechCrunch reported back in May that Microsoft was considering buying the NOOK business for $1 billion. That's more than Barnes & Noble's entire $800 million market cap, so a deal of that magnitude would send Barnes & Noble shares soaring.

Microsoft already owns NOOK, at least partially. Last year it poured $605 million into the NOOK business for a 17.6% stake. At the time, there was really no apparent rationale for the deal. Barnes & Noble brought the NOOK digital bookstore to Windows 8, but it wasn't an exclusive tie-in. In fact, even to this day, NOOK devices run Google's Android operating system.

Microsoft may have simply been throwing Barnes & Noble's NOOK a life preserver, keeping it around so as to maintain the competitiveness of the digital book market, and setting it up for a possible acquisition at a later date.

TechCrunch's report was back May, and four months later, nothing has happened. Still, it seems more likely than ever that a deal could get done.

In the mold of Apple
Before he announced his retirement, Steve Ballmer unveiled Microsoft's new strategy: Become a company centered around devices and services. In effect, it's a plan to turn Microsoft into Apple, in the sense that the company plans to create both hardware and software -- a strategy championed by Apple's founder Steve Jobs.

Some might have believed that Microsoft would waver from that strategy in the wake of Ballmer's exit. That idea was destroyed when Microsoft announced that it would acquire Nokia's handset business. By buying most of Nokia, Microsoft is in complete control of the Windows Phone platform. It will design both the operating system and the hardware.

Buying NOOK would have a similar effect, though not precisely the same. Microsoft wouldn't be buying NOOK for its hardware prowess. It would be buying a digital book store. Apple sells e-books as part of its iTunes business. Microsoft could do the same.

As the iPad has exploded in popularity, Apple has become an increasingly important part of the digital book business. By its own estimates, iBooks now account for 20% of the market. While Apple doesn't derive much profit from iTunes directly, its media business strengthens its overall ecosystem.

If Microsoft is looking to do something similar, buying and then incorporating NOOK into Windows would be a logical step.

Barnes & Noble's upside
Absent a Microsoft bailout, Barnes & Noble looks like a terrible investment. Its stock has been trending down as its business has slowly faded into irrelevancy. Insiders are selling, and Riggio is suddenly no longer interested in acquiring the retail operation.

But Microsoft buying NOOK seems much more likely in the wake of its decision to acquire Nokia's handset business. Because Microsoft is obviously very committed to pursuing Apple's strategy -- being an integrated device maker -- acquiring a major e-book business makes intuitive sense, particularly because Microsoft already owns nearly one-fifth of Barnes & Noble.

Although it's hard to be a fan of Barnes & Noble's underlying business, it could have value as a speculative play.

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