Earnings Report: With Proxy Fight Looming, Losses Mount for Barnes & Noble

With many questions about Barnes & Noble's (BKS) future looming, Wall Street's expectations for the company's latest earnings report were low. But the largest book retailer in the country couldn't even meet those low expectations with the numbers from its first quarter for the period ending July 31. The company issued the report Tuesday morning before the bell.

For the first quarter of the 2011 fiscal year, B&N reported a consolidated net loss of $63 million, or $1.12 per share, which was considerably more than the $0.80 per share loss estimated by investors. The net loss included pre-tax legal expenses of $9.5 million, or $0.11 per share, stemming from the recent litigation in Delaware Chancery Court over billionaire investor Ron Burkle's thwarted challenge of the "poison pill" used to keep him from accumulating more than 20% of total company shares. Excluding those expenses, the net loss would have been $1.02 a share.

Total sales for the first quarter, however, increased by 21% over last year to $1.4 billion, which was roughly in line with what investors expected. Total store sales dropped 2% to $1.0 billion while comparable store sales decreased 0.9% for the quarter. Those total sales now factor in B&N College, the Leonard Riggio-owned company absorbed into B&N through a sale approximately one year ago. Total sales for that part of the business were $226 million, and College's comparable store sales increased 2.9%, which exceeded the company's guidance of flat sales.

Stores Down, Digital Up

As with the previous quarter, the online side reported the best news. Barnesandnoble.com sales increased 42% as compared to the prior year to $145 million, with comparable sales increasing 53%. This was the quarter in which the company dropped the price of its Nook e-reader from $259 to $199 and introduced a cheaper Wi-Fi model retailing at $149, all of which required significant working capital in the form of a $1 billion revolving credit facility (of which $380 million was due to be paid by quarter's end.) But that investment has paid off, and B&N also announced two key changes to its digital team Tuesday: Jamie Iannone was named president of B&N Digital Products, responsible for all digital and Nook-related products, while John Foley signed on to run the eCommerce division after 13 years at IAC.

Despite the obvious economic hit to B&N's overall bottom line, company CEO William Lynch stressed the wonders of all things digital: "As we have previously stated, the company is allocating significant financial resources to strengthen its digital businesses in fiscal 2011 to maximize our ability to power growth and capture share of the emerging digital market," Lynch said in the accompanying statement. "We are encouraged by our results to date, which are ahead of plan, and remain committed to transforming Barnes & Noble to a company committed to expanding and enhancing the reading experience for book lovers and college students through rich physical and digital content, an industry-leading retail and eCommerce offering and world-class digital devices, software and technology."

Earnings Guidance and a Proxy Fight

Looking ahead, B&N expects a second-quarter loss of $0.05 to $0.25 a share, compared to the Wall Street target for earnings of $0.15 a share, largely because of "significant legal costs" the company expects to incur. They also expect comparable store sales to decrease between 1% to 3% and College's comparable store sales to be flat. For the full year, B&N expects earnings to be in a range of $0.25 to $0.65 per share net loss, again because of legal costs, compared to the analyst view for a loss of $0.11 a share.

What B&N doesn't spell out in calling attention to "anticipated future legal costs" is the financial damage a proxy fight between Burkle, the company's second-largest investor, and Leonard Riggio -- founder, chairman and B&N's largest shareholder -- will wreak. They also don't spell out what sort of costs they are likely to incur as the company explores the possibility of selling to an outside source or taking itself private -- especially since analysts indicate a sale won't happen for a long while.

Burkle Battles On

But the company's earnings may lend a little juice to Burkle's efforts to land three seats on B&N's board of directors at the annual shareholders meeting on September 28, depending on which side of analysts' estimates they fall on. "Earnings can be an indicator or how management is doing. It's just one data point," said a proxy solicitator, who asked to remain anonymous. He noted that if Burkle had been trying to launch a hostile takeover bid, where valuation was a critical factor, the earnings performance would have been a much bigger issue.

Burkle, meanwhile, provided a little more information about Yucaipa's proposed slate of B&N directors, according to a preliminary proxy filing with the SEC on Monday afternoon. Yucaipa, according to the filing, has agreed to pay each of its three director nominees a lump sum payment of $100,000, whether or not they are ever nominated or elected to serve on the board. Each of the three directors will also be reimbursed for any out-of-pocket expenses.

That compensation is roughly half of what they would likely earn if they are elected to the B&N board, where the compensation ranges from $160,203 to $202,703, according to the company's proxy statement. The fact that Burkle is prepared to pay his slate of nominees no matter what happens is further grist for what promises to be a very ugly -- and long -- fight.

With additional reporting by Dawn Kawamoto