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Barnes & Noble Investor Wants a Nook Spinoff for Christmas

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Barnes & Noble (NYSE:BKS) should spin off its Nook Media unit of e-readers and e-books, fulfilling a strategy the company said it was exploring at the start of 2012, according to a letter sent by an investor to company management on Friday.

Rick Schottenfeld, head of investment firm the Schottenfeld Group, said in a letter sent to Barnes & Noble that the company should follow through on a proposal to spin off its fast growing Nook business into a separate publicly traded company.

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The move, Schottenfeld said, would help to the bookseller's strategy and unlock significant shareholder value. A prospective spinoff would also follow through on a plan the company said it was considering in early 2012.

In the Friday letter sent to Barnes& Noble chairman Leonard Riggio, Schottenfeld argued that significant stockholder value is trapped within the company's conglomerate structure, which includes a declining but cash flow positive physical bookstore business and, Nook, its fast-growing but money losing digital books and tablet unit.

Schottenfeld argued Barnes & Noble's mature and cash generating retail unit isn't a good fit with its high growth Nook business in public markets. A spinoff, he said, would give investors reason to pay higher multiples for Barnes& Noble's combined assets. Meanwhile, the investor also argued investing Barnes& Noble's legacy bookstore cash flow into Nook has been a poor use of the company's liquidity.

"Unfortunately, what we are left with today is a dysfunctional business with two divisions that are seemingly at odds with each other," wrote Schottenfeld, in the letter that recommended Barnes & Noble's maximize the free cash flow of its physical book business and return that cash to investors by way of dividends and share repurchases.

Schottenfeld characterized Nook as a growth business with risk and reward characteristics for a different type of investor. "These two companies are attractive to two distinct groups of investors," he wrote, of the logic of a spinoff.

There's already an indication that Barnes & Noble agrees with the assessment, even if it's unwilling to fully commit to a Nook spinoff. In early January, Barnes& Noble said in its fiscal 2011 third quarter earnings that it was considering a split of Nook from its physical bookstores business.

In May, the company announced it was embarking on a joint venture with Microsoft (NASDAQ:MSFT) on Nook where the tech giant would invest $300 million in the e-reader business and feature a Nook app as part of its recently launched Windows 8 platform.

The JV was finalized in October; however, Nook has yet to be spun off into a separate publicly traded company. At the IMN Activist Investor Conference in May, hedge fund Jana Partners said it took an 11% stake in Barnes & Noble on the heels of its consideration to spin Nook into a separate publicly traded company.

Schottenfeld's letter comes at a crucial time for Barnes & Noble, Nook and Microsoft. With just weeks left in the holiday season, both Nook and Microsoft face stiff competition in their tablet offerings.

In the case of Nook, its HD tablet is being challenged by Amazon's (NASDAQ:AMZN) Kindle Fire line of tablets and those offered by Apple (NASDAQ:AAPL) and Google (NASDAQ:GOOG), among many 2012 tablet launches.

Microsoft also is getting into the mix with the launch of its Surface tablet, which is hoped to push the software giant into the consumer hardware market and put its Windows 8 launch in direct competition with Apple's iOS and Google's Android.

Meanwhile, questions on Barnes & Nobles finances and Nook's viability as a competitive alternative to Amazon, Apple, or Google Android-powered products remain hazy.

Barnes & Noble missed second quarter earnings in late November, as revenue fell short of analyst estimates and Nook sales rose over 5% to $160 million, reversing declines in previous quarters.

On the upside, Nook sales benefitted from a doubling of Thanksgiving weekend sales, fueled by promotional offerings at Target (NYSE:TGT) and Wal-Mart Stores (NYSE:WMT), who've both dropped selling the Amazon Kindle.

While it's to be seen how in demand Nook tablets or Microsoft's Windows 8 are this holiday season, Schottenfeld's letter indicates a Nook spinoff would be a welcome gift for the new year.

Barnes & Noble shares were rising nearly 2% to $14.87 in Friday afternoon trading after Schottenfeld's letter was made public.

Year-to-date Barnes & Noble shares have gained just over 2%, erasing dramatic gains after the early May Microsoft deal was announced on investor concern over Nook's competitiveness in the tablet market.

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