Icahn's Netflix Deal Is Stalking Horse for Barnes & Noble

By Steve Smith  NOV 01, 2012 3:40 PM

A hookup of NFLX with BKS would be a serious counterpunch to Coinstar's Redbox.


MINYANVILLE ORIGINAL Yesterday news broke that Carl “the Agitator” Icahn took a 10% stake in Netflix (NASDAQ:NFLX) and speculation abounds about how he will create value from this video retailer.  Netflix shares shot up some 12% on immediate speculation that Icahn would follow his usual procedure and look to make a sale, merger, or otherwise break up the company.

The obvious names that were bandied about included Verizon (NYSE:VZ), Comcast (NASDAQ:CMCSA), and Disney (NYSE:DIS). How off-track can you be?  Which one of the these mega media firms that control both distribution and content, and have been playing hardball with Netflix for the past two years, would suddenly cede their advantage to Netflix, especially one run by a stubborn Reed Hastings who now has greenmail extraordinaire Icahn breathing down his back?

But I see a way out of this -- though it may be too subtle and laden with some conspiracy -- that could save not only Netflix, but prove to be a brilliant move of the Trojan-horse variety. The real end game is Netflix buying Barnes & Noble (NYSE:BKS), seller of words and maker of Nook.
First let’s realize that Icahn has no real hope of finding a buyer for Netflix and its breakup value is certainly less than the current $4.4 billion market cap with a 102 price-to-earnings ratio ("P/E").  Why would the content providers pay such a premium for a company that is clearly struggling? Oh yeah -- growth in the Nordic region.

A recent note from Wedbush Securities analyst Michael Pachter said he considers Netflix to be overpriced at its current market value at $4.4 billion, making it unlikely the company will be fielding takeover offers any time soon.

"I think [Icahn] is completely uninformed about this business and I think he is completely wrong about the variety of strategic buyers for this business," Pachter said.

Icahn, 76, has a long history of building up large stakes in troubled companies and then pressing them to consider selling themselves, cutting costs, or replacing top executives and board members. In many cases, Icahn has muscled his way onto the boards so he can be in a better position to promote his agenda. Netflix Buys Barnes & Noble
What I’m suggesting has not been floated or commented upon, but makes a lot of common sense.  And some of the recent trade action seems to prove this out. Shares of Barnes & Noble shot up some 13% yesterday on the NFLX news and are adding to gains today even as Neftlix gives back so gains.
Not only does this deal make sense, but the Web gets tangled. Carl Icahn has a good working relationship with Ron Burkle, whose private equity firm Yucaipa owns 20% of Barnes & Noble. Burkle also has major takes in several supermarkets such as Dominick’s, as well as Alliance Entertainment and several local cable companies. 

Netflix’s albatross is the sending of physical discs through the mail.  Burkle has expertise in retail and the footprint to match.  A hookup of NFLX with BKS would be a serious counterpunch to Coinstar’s (NASDAQ:CSTR) Redbox. It still keeps physical DVDs available, but at much better margins, and it allows the possibility of selling the devices (Nooks) that display downloaded content. It almost makes sense. Call it the revenge of Icahn's Blockbuster bankruptcy debacle. This time buy a high P/E firm to absorb the cheap Barnes & Noble and watch it grow.
The Option Action
Lest you think I’m some conspiracy theorist, let it be known that on October 10 there was massive call buying in the January $20 option of which 13,423 were purchased at prices between $0.75 and $1.05 a contract. This was nearly 19x the daily average volume and has translated into a 90% increase in open interest in the strike. Granted, this came on an earnings announcement and other near time strikes in the October and November expirations traded above average volume.  But the spike in price never came and those positions have been liquidated.
Burkle’s initial buy of Barnes & Noble spiked the stock to $26.   I think he’d be happy getting out around $23. Look at the January $19/$22 call spread at $0.60 net debit.

Twitter: @steve13smith

No positions in stocks mentioned.

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