Seth Klarman (Trades, Portfolio)'s protegé David Abrams (Trades, Portfolio) just added to his already large stake in Barnes & Noble Education (BNED, Financial). Abrams is a true value investor, managing several billions of dollars and typically takes concentrated positions. He is very secretive but is known to be very patient and look for companies where the CEO has a significant stake, or where his salary is stock-based.
Barnes & Noble Education is a spin-off from Barnes & Noble Inc. (BKS, Financial). A former college segment of Barnes & Noble's business, it operates bookstores located on campus on many colleges all over the U.S. Spin-offs tend to be attractive investments, but this one has not really gone anywhere since its IPO.
According to Joel Greenblatt (Trades, Portfolio)'s "You Can Be a Stock Market Genius Too," spin-offs are especially attractive when executives of the parent company voluntarily sign-up with the spin-off and/or take a large stake in its equity. That’s exactly what’s happening here with management incentivized through restricted stock units of up to 5% of the shares outstanding. This is one of Abrams' criteria as they are investing over a three-year period until 2018. Greenblatt would love that Barnes & Noble's CEO and three directors left the book selling giant to join Barnes & Noble Education instead. Together, insiders control over 10% of the shares.
Barnes & Noble Education's business is quite simple. It signs leases with colleges as the exclusive and sometimes endorsed operator of the on-campus bookstore. The school gets paid a percentage of sales or profits. Often these agreements do not even have a minimum guaranteed payment for the college, but some do. It’s quite an asset light business model with the only heavy investments being inventory, but even that is cycled through quite quickly.
Sales are highly cyclical at these stores with students buying textbooks in a predictable pattern. That enables Barnes & Noble Education to stock up shortly before the buying starts and it can return unsold units at no cost to publishers afterwards. Barnes & Noble Education is a fairly efficient operator, which is attractive to colleges because it allows them to make a profit on these stores without having to operate these stores themselves. Right now the company supplies about a quarter of all college students in the U.S., which leaves ample room for growth.
The company’s balance sheet is squeaky clean with no long-term debt. On a valuation basis, it is not immediately clear why a value investor like Abrams is attracted to Barnes & Noble Education, as its P/E is high at ~40x and its forward P/E of 25x is only somewhat reassuring. Its an asset light business and its EV/Ebitda ratio is telling, because on that basis, is trades at 7.5x. The combination of a spin-off where insiders from a much bigger parent voluntarily decided to join with an asset light business model, a clear runway for growth, and insiders interests being strongly aligned with minority shareholders trading at a modest EV/Ebitda ratio is highly attractive and deserves a good look.
