It's no secret that Barnes & Noble (NYSE: BKS) is in trouble. Faced with the unrelenting onslaught of competition from the likes of Amazon.com (Nasdaq: AMZN) and Apple (Nasdaq: AAPL) -- which coincidentally is rumored to have developed a 7-inch tablet more directly competitive with B&N's Nook -- I don't think it's much of an exaggeration to say that the bookseller's days are numbered.
While most of the reasons for B&N's ongoing decline are well known, there's one primary contributing factor that isn't as commonly discussed. I came across a chart the other day which illustrates this point extremely well. But before getting to it, let's briefly retrace the combination of variables that left the former giant so vulnerable.
An unnecessary tragedy
What makes B&N's story tragic from a shareholder's and book-lover's perspective is that it wasn't inevitable. The company would be in an entirely different position if its leadership hadn't pooh-poohed online retail in the late 1990s, when the now-dominant Amazon was in its infancy. Consider this from its 1998 annual report: "Although it is clear the World Wide Web, with its profound possibilities, will become a major component of the future of bookselling and publishing, we believe retail bookstores will remain the foundation of our industry . . . shopping and browsing in a bookstore is an irreplaceable experience, and it is woven securely into the fabric of our American culture [emphasis added]."
It'd also be in a different position if it hadn't procrastinated in the digital book arena, releasing the underwhelming Nook a full two years after Amazon had released the Kindle. By that time an estimated 1 million Kindles were being sold each year, tethering droves of current and future customers to Amazon. And it even didn't seek the committed help of a big-name tech company until earlier this year, when it announced a partnership with Microsoft (Nasdaq: MSFT) a mere two months before Google (Nasdaq: GOOG) jumped into the tablet wars as well with its own 7-inch Nexus 7.
B&N also didn't help its cause by wasting over a billion dollars on share buybacks on the eve of the financial crisis. Just over three years ago, its management boasted about repurchasing a staggering 33 million shares for a total cost of $1 billion. That equates to an average of $30 per share, more than double the $13 that they're trading for today. In retrospect, it was a shocking and colossal waste of money.
An inexcusable act
Of course, absent the benefit of hindsight, these mistakes are arguably excusable as failures in business judgment or as the natural consequence of Joseph Schumpeter's "creative destruction" or Clayton Christensen's "innovator's dilemma." They're the result of negligence and not premeditation; financial manslaughter and not murder.
But with the company now running out of cash and hurtling toward insolvency, and even without the benefit of hindsight, there's one wound that the company unnecessarily and egregiously inflicted upon itself that can't be so innocently dismissed.
In 2009, the company paid its chairman of the board, Len Riggio, nearly $600 million for B&N College, an amalgamation of campus-based bookstores that controlled the rights to the parent company's trade name and was then owned by Riggio and his wife.
At the time, it looked like a classic covetous overreach by an executive to extract capital without selling shares. When all that's left of B&N is a Harvard case study, however, my guess is that this blatant display of avarice and disregard for minority shareholders will be characterized more ominously as the proverbial straw that broke the camel's back.
BKS Tangible Book Value data by YCharts
As you can see above, the insider transaction wasn't a mere peripheral occurrence. It fundamentally transformed B&N from a company with a so-called fortress balance sheet into a company with a negative tangible book value. In May of that year, B&N had no debt whatsoever on its balance sheet. But by October, notably following the transaction, a whopping $325 million in long-term debt and hundreds of millions more in liabilities magically appeared. And to make matters worse, these additions were counterbalanced with little more than $700 million in goodwill and other intangible assets.
The lesson to be learned here
Even though this might strike some as old news, the lesson to be learned here is timeless and invaluable to investors. Quite simply, be wary of large insider transactions, and particularly so when they serve in lieu of a stock sale and/or are accompanied by the appearance of impropriety. Indeed, there is no clearer sign that it's time for you to sell as well.
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