Six things that might happen to Borders:

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1. Nothing

An Immediate Economic Recovery solves all the problems — Not that a sudden uptick in the economy would suddenly solve Border’s problems but “a rising tide raises all ships”

2. Nothing ver. 2

Even in a bad economy, Borders new merchandising schemes might just work — well enough to stave off disaster, at any rate. If the economy in general & the retail sector specifically don’t bottom out completely, and Borders cuts costs, and sells books, then no problem.

Borders will likely shed the remainer of their international stores, and might sell off another chunk or two (like Paperchase Stationary), but in the end it’s business as usual up in Ann Arbor.

3. Nothing ver. 3

Someone rides in on a white horse and she buys the whole company. New ownership might mean new strategies, maybe some store closings. A buyout could result in Border’s going private, or becoming part of a larger retail company — but from the public’s (and also publishers’) perspective, it’s still Borders Books.

4. Bankruptcy, Breakup, and Yard Sale

Let’s say none of the bets pay off and Borders is overcome by circumstances, and has to file a Chapter 7.

Someone buys the Waldenbooks stores, someone buys Paperchase, someone buys borders.com, someone buys up the leases and real estate to open up new branches of their own big box business. Maybe somebody buys the distribution facilities and inventory and goes into business as a book distributor — though the fact that a big bookstore just went out of business makes that unlikely. (Me? If I had a few hundred million just lying around and it were an option, I’d buy a warehouse, the leftover books, and the spiffy new website and go into business as an online-only Borders.com. It’s a crowded field out there, but the Borders brand name would take you pretty far.)

5. Plain Vanilla Bankruptcy
AKA Nothing ver. 4

Borders files a Chapter 11 and uses the process to trim down, reorganize, renegotiate debts, and reemerge as a better bookseller.

This will generate a lot of splashy headlines, but from the public’s perspective–as long as their neighborhood Borders or Waldenbooks isn’t closed–it won’t be that big of a deal.

6. Bankruptcy and Merger

AKA “The B&N Buyout”: This has been generating the most ‘what if’ stories recently, but aside from being a Wall Street Wet Dream (for the life of me I don’t know why “everyone” wants to see this merger go through other than the fact that the Street seems to have a massive jones for big hot throbbing mega-companies) I think it is the least likely outcome.

B&N isn’t going to buy Borders until the sucker goes belly up. Without the options and flexibility provided by the courts and the mask of ‘fiancial hardship’ to allay antitrust concerns, there’s little chance a merger would clear federal regulators.

I might even go so far as to say B&N isn’t going to buy Borders, full stop.

Both companies sell books. Well and good. Past that… I don’t know that the two business mesh well.

B&N operates just a shade over 800 stores, the vast majority of which are Big Box locations (less than 100 of their outlets are part of the smaller B. Dalton mall bookstore chain). B&N has focused on the Book Superstore Concept — cafe, music dept., kids dept., 2,300+ square metres of books– about half a football field of retail.

Borders has more outlets (1,100+) but only operates 515 superstores; there are 520 stores in the Waldenbooks chain, along with 110 stores outside the US.

Setting aside Waldenbooks and the international outlets for the moment, that’s still 500+ superstores. Great, another 500 outlets, right? Sign ‘em up, the company grows by 60% overnight, economies of scale, new efficiencies, bigger is better — to the jokers on Wall Street this makes great business sense, but I’m not sure what they’re smoking

Why B&N Won’t Buy Borders

First: If B&N were interested in international stores, they’d already have them. Waldenbooks is also a non-starter, since Barnes & Noble already has a similar business and has been closing B. Dalton’s in favor of B&N superstores opening in “anchor” store locations in the mall. In any merger, this stuff (600+ stores, with leases, staff, & inventory) is excess baggage, and would have to be dealt with before the two businesses are reconciled — likely sold off, if there is a buyer.

Second: I don’t have a map in front of me with a bunch of red and green dots, but B&N and Borders are already in the same markets — and while it might be different in your hometown, around here at least a third of the stores are competing across the street from each other. There’s a mall, a quarter mile to the east is a Borders, a quarter mile to the west there’s a Barnes & Noble.

A lot of stores would have to close. And that means disposing of more leases or real estate, more staff, and more inventories. And unlike Waldenbooks, you can’t sell these off as a unit to a third party: the stores would have to be closed. It’s messy.

Third: There are no savings to be had through ‘efficiencies’ outside of firing one set of home-office staff — whether a company is running 700 superstores or 2000, it likely costs the same per store because at 700 you’ve already achieved your economies of scale.

Finally: Borders has $500 million in debt. In contrast, Barnes & Noble has a cash reserve that they’ve been using to buy back their own stock.

Dealing with that debt is the poison pill — otherwise Borders would have already sold (or would be cruising along just fine on it’s own, thanks) and there wouldn’t be much to worry about. Except, you know, a recession and general bad news for retailers and all.

The only way B&N will buy Borders is if Borders goes bankrupt first — if the price is cheap enough then I think it’s obvious that someone will buy it, even with the headaches.
An equity firm, Chapters of Canada, an Eccentric Billionaire, any booklover with even a soupçon of business sense… someone (it doesn’t have to be B&N) will buy Borders and start to run a leaner, more focused bookstore business.

There’s nothing wrong with Borders except for a string of (what turn out to be) bad business decisions and the resulting baggage: International expansion, ceding internet revenue (and marketshare) to Amazon for years on end, and of course that half billion in debt.

As a bookstore and brand, though, they should be fine. People like Borders (for the most part) and unless your name is William Ackman, you like having a choice: Borders and B&N and Books-a-Million and Amazon and the local independent booksellers, if you have them, and even the library. I can’t think of a single consumer who wants any bookstore to disappear. Competition is good.

The only people who salivate over a B&N/Borders combo are the investors who stand to make a lot of money on the deal.

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Which leads us to the guy I just name-checked, William Ackman, and Pershing Square Capital Management:

Pershing has stepped in with $42M to help out Borders at a time when getting any sort of credit is difficult. Pershing owns 18% of Borders, so obviously it’s not out of the goodness of their heart, but because they have an interest in seeing Borders succeed. The 12.5% interest rate Pershing is going to charge certainly makes it easier, too. Oh yeah, and the option to buy another 19 or so million shares at $7 a pop, bringing Pershing’s total stake in the company up to around 40%, I’m sure that helps.

I’m no lawyer, but I think a loan of $42M also gives Pershing a voice in any eventual bankruptcy proceedings (as one of Borders creditors) as well.

In a separate deal, Borders and Pershing have an arrangement for Pershing Capital to buy Paperchase and Borders international stake for $125M (if Borders needs the extra cash over the next year). It seems to me that Pershing is set to take control of quite a bit of the business even before things get so dire as to necessitate bankruptcy. It’s a tough time to try and borrow money, though, so I guess Border’s is doing what it has to.

• the stock options
• possible sale of the international stores and the Paperchase subsidiary

(What follows veers away from business analysis into raw opinion)

In my opinion, Borders would have had a much easier time this past year, making incremental improvements largely under the radar until they regain profitability, if it weren’t for that jerk, William Ackman (Pershing’s fund manager) muckraking and broadcasting and being a general nuisance. Ackman has a reputation for “stockholder activism,” buying large stakes in companies and then trying to tell the Board what they should be doing.

While of course as an investor he is not only able but obligated to do what is needed to protect the investment — I have to wonder: why can’t he make investments that don’t require revolutions, negotiations, and political shenanigans in the name of shareholder activism to realise gains? Buy low, sell high: I didn’t think the old investing maxim had “whine and bitch” as an intermediary step.

Again, my opinion: but damn, William Ackman seems like a grade-A prick. I’d hate to deal with him professionally.

Ackman’s past experience consists of (i.e. he used someone else’s dollars to buy) positions in McDonald’s and Wendy’s, so yeah sure maybe he knows something of the “consumer market” — If one thinks fast food equates to booksales — it’s all retail, right? [if you didn’t catch my sarcasm: no. no it’s not]

Pershing-slash-Ackman have also bought a goodly chunk of Barnes & Noble, somewhere in the neighborhood of 6 million shares — and they’ve owned that many since at least the end of ‘06. If talk comes to a buyout by B&N (unlikely, as noted above) then Ackman is hardly an uninterested party to the discussion.

Ackman and “Wall Street” (whoever they are) want B&N to buy Borders, and that’s why you’ll hear about it in the news in the upcoming weeks, and months, and IMO years, but…

It’s about as stupid a combination as I can think of. If B&N wants more stores, they’ll just use their cash reserves and open more brand new stores.

further reading and references:

• The news article that got me thinking…
• Borders strategic shift, stocking fewer books, not more.
• Major holders of Borders stock
• Major holders of Barnes & Noble stock
• A Google search of “Barnes buy Borders” will pull up all the speculation one could want on the pros, cons, ins, outs, what-ifs, and wishful thinking about a merger.
• 2007 annual reports aren’t out yet, but 2006 ARs are on the web for both Borders and B&N [pdf] (and there are the two corporate websites) where one can find info on the # of sales outlets and the like