Monday, May 07, 2012

Barnes & Noble and Microsoft: A Win-Win?

B&N gets $300 million; MS gets a popular tablet—what’s not to like?

The deal between Barnes & Noble and Microsoft gives both companies things they need—B&N receives a much-needed infusion of cash, while Microsoft gets another chance to participate in the consumer digital marketplace. In addition to the $300 million investment Microsoft has made to give it a 17.6% stake in Newco (the temporary name for the new subsidiary created by this partnership), the company will pay $60 million annually for three years as an advance against sales plus $25 million annually for five years to help expand Newco’s international operations, making for a total five-year investment of $605 million.
B&N is contributing to Newco its digital business assets, which include all of the Nook devices, the Nook Store (2.5 million e-books and “thousands” of apps), PubIt, and the college business, which had sales of $1.5 billion (26% of total B&N sales) and operating profit of $86 million in the nine-month period ended January 28, 2012. The agreement also calls for B&N to transfer its digital business and college employees to Newco. B&N will continue to operate, which, according to the filing, will continue to sell physical products in addition to displaying Newco digital content with links back to the Newco Web site. Like an affiliate agreement, Newco would then make payments to B&N based on sales of Newco content.
For its investment, Microsoft gets to participate in the booming market for digital content and devices with a product, the Nook, that has been better received than any device with which it is currently associated. Microsoft also gets the chance to create and sell digital content in partnership with B&N. At least initially Newco will be focused on supporting reading applications for Windows 8, including the development of a Nook app for the Windows 8 operating system, but although neither B&N CEO William Lynch nor Microsoft president Andy Lees would discuss particulars, much more is expected. Lees noted that the deal gives Microsoft the opportunity to help redefine the reading experience and to be much more than a platform provider. As outlined in public documents, the $60 million in annual advances relate to a revenue share for the sales of digital content bought by Newco customers using the Newco Windows 8 app “or through certain Microsoft products and services that may be developed in the future and are designed to interact with the Newco online bookstore.”
There has also been much speculation from the technology media over the possible introduction of a new Nook e-reader or tablet device that would run on some variety of Windows with content supplied through B&N. Some observers suggest the deal could lead to the Nook’s integration with Windows software in a way that would allow the device to use Microsoft speech recognition software or even the Xbox. Since the MS/B&N deal is not exclusive, it has been suggested B&N may even offer separate devices powered by Windows as well as the modified version of Android currently used in Nook devices. Also not to be overlooked is the B&N college division and Microsoft’s ongoing and heavy investment in education. Lees said Microsoft’s interest in partnering with B&N was driven by its desire to expand in both the consumer and education markets.
Another early priority for Newco is to expand internationally. Lynch noted that the Nook has no international presence, so any international sales will be entirely new revenue. The agreement gives B&N access to hundreds of millions of screens that run Windows operating systems, and while the percentage of Americans who use computers to read e-books is shrinking, personal computers still represent a large market abroad. The $25 million to be paid annually for five years is to be used “for the purposes of assisting Newco in acquiring local reading content and technology development in the performance of Newco’s obligations.”
There are still lots of details to be resolved in the formation of Newco as well as its relationship to B&N. At the moment, B&N will hold an 82.4% stake in Newco, and Lynch said that B&N remains committed to maintaining its retail bookstores and has no interest in undermining the “symbiotic relationship” between the Nook business and the stores. But B&N is still determining how best to treat Newco, with one possibility being spinning off Newco into its own company.

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