- “Folks, come on in. Bring your groceries. Sit in these plush chairs. For hours on end if you want. Sample the merchandise, but you don’t have to buy anything.” Now that’s a business plan!
In the past we’ve looked at stocks whose prices tailspin for no structurally valid reasons. Examples: Toyota, which sank 22% in the weeks after an impressionable woman with a gift for fantasy testified before Congress that her Lexus SUV’s accelerator pedal fell under the control of an incubus. Or British Petroleum, which made some ham-fisted attempts at public relations damage control after a tragic accident, losing 55% of its market value in 2 months (never mind that people were less concerned about the immediate deaths of 11 workers than about the presence of an oil slick small enough to fit in two supertankers with plenty of room to spare.)
BP’s stock has risen 60% since then, while Toyota’s has regained the value it lost and then some. Both companies create useful products in high demand. Japanese engineering and the stuff that makes it run will become obsolete, but not soon. A temporary gut punch to either company’s stock price shouldn’t make a difference to any long-term prognosis. Check that: that gut punch provides a great opportunity for anyone willing to buy an unnecessarily undervalued stock.
But what if technological progress were to fundamentally change either company’s business model? Or their products’ entire market itself?
Look at book retail. In barely more than a decade, we’ve gone to two titans dominating the market, to watching those same titans fight to stay viable. At their mid-oughts zenith, between them Borders and Barnes & Noble (or for readers who speak in the Central Michigan vernacular, “Barnes & Nobles”) were selling the vast majority of new books in the United States.
Among physical stores, that is. You want to squeeze the tomatoes or test drive the car before committing to buy. But you don’t need to do anything similar with a book. Why would you, when Amazon lets you read excerpts online and beats practically everyone on price?
Of course Borders and Barnes & Noble have websites, that’s not the point. In fact, as recently as 2 years ago Amazon served as Borders’ online presence. 90% of Barnes & Noble’s revenue still originates in its stores, and those in-store sales continue to decline quarter after quarter. While stand-alone music retailers have vanished and Best Buy’s CD* displays been reduced to a few square feet of rack space, Borders mystifyingly continues to devote a dedicated section of the store to music (and still maintains the official name “Borders Books and Music”.)
Two years ago, when its stock was trading at 35¢ and in danger of being delisted, Borders first publicly discussed a merger. Since then, the company has borrowed an amount equal to almost half its market value from its majority shareholder (at a borderline usurious 12.5% rate.) That market value is $86 million, which will get you just under 5 years of Cliff Lee.
Meanwhile, Barnes & Noble’s stock has lost almost half its value in the past 6 months. In December that Borders majority shareholder offered a 20% premium on all outstanding Barnes & Noble shares in an attempt to finally bring the merger to life. Each company’s shares enjoyed a brief hiccup, but their prices have already fallen back to Earth. Not counting that mid-2008 unpleasantness, Barnes & Noble is trading at close to an all-time nadir in real dollars.
Say this merger idea works. No one disputes that it’ll result in fewer stores, which it will for obvious reasons. (Fortunately for both companies, bookstore clerks aren’t unionized.) A lot of the newly redundant real estate remains valuable, but turning it into an asset on the balance sheet won’t do anything to improve long-term cash flow.
More importantly, it’s not as if tens of millions of satisfied Amazon customers are going to say, “You know what? This buying books online and usually getting free shipping jazz is getting tiresome. I’m cancelling my account. It’s back to 20th-century bookstore browsing for me.”
Sometimes, undervalued stocks aren’t really undervalued. They’re just not worth that much.
*CDs, or compact discs, were these pieces of polycarbonate plastic that had music on them. Popular in the 1990s.
