Barnes & Noble Earnings Call Nuggets: Nook Sales Breakout and Microsoft Payments

Barnes & Noble (NYSE:BKS) reported its second quarter earnings and discussed the following topics in its earnings conference call. Take a look.

Nook Sales Breakout

Taylor LaBarr – Stifel Nicolaus: My question is when you look at NOOK device sales, how can we think about the breakdown between I guess sales to consumers who are upgrading or replacing an older device versus those are adding maybe a second device, a tablet in addition to an E Ink Reader versus those who are just totally new to the platform. I guess another way to think about it would be, device growth relative to account growth?

William J. Lynch, Jr. – CEO: First of all, let me just make it clear that in the quarter, NOOK unit sales actually increased. So, well, Mike obviously was accurate in saying that they decreased at Retail what we are seeing is a share shift as we broaden distribution, and what we’ve seen is our third-party retail partners get really behind NOOK units and NOOK brand with expanded merchandising and footprints in their store, so especially Walmart and Target. So NOOK unit sales increased. In terms of account growth, it’s the right question. The way we look at it is, opening digital lockers and getting people on our ecosystem. The large-large majority of the new digital content users we added were new, meaning they weren’t upgraders and what we are seeing is that as we expand distribution, as apps and non-device acquisition becomes a bigger part of the overall business, and we’re less reliant, although we’re still – the Retail business – our store business is still a big part of our device sales, while we are less relying on that, we’re seeing new account growth rather than upgraders as the lion share of the new device sales and new users.

Session 2:

Matthew Fassler – Goldman Sachs: First question, you indicated, was that the Microsoft (NASDAQ:MSFT) payments were initially going to be considered finance arrangements and then recognized as income based on revenue. What revenue stream is going to determine the treatment of those payments and the recognition of income?

Michael P. Huseby – CFO: Well, first off, if just want to say, we are happy that we got the economics and the strategic relationship fostered by the Microsoft relationship have closed it and are starting to realize the benefits, initial payments have been received other than the $300 million that was invested. In terms of the accounting the advance payments – the payments that we’ve described as $660 million advance payments to revenue share and $25 million to help support operations are flowing through P&L over the five-year term of the agreement. The agreements – this is happening because all the agreements we entered into with Microsoft back in April and that we closed in October are viewed as a single arrangement. So the three primary elements of the commercial agreement which are the revenue share advances, the operating cost advances and then the revenue share payments that we make to Microsoft are viewed as a single – multiple element arrangement and because of that the advance payments are recorded as a liability when they are received and then the revenue share we pay to Microsoft over the term of the arrangement will be considered repayment of the liability and broken down between retiring a liability and interest expense. So the benefits of the P&L increase as revenue from content sales – digital content sales ramps up over the term of the arrangement.

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Matthew Fassler – Goldman Sachs: And is that, Michael, digital content sales across specific platforms that relate to Microsoft, for example, their capital – I was just concerned through the Windows 8 app?

Michael P. Huseby – CFO: Yes, through the Windows 8 app and also there are certain other within the Microsoft arrangement, for example, Windows phone and other devices that are Win 8 devices – were – devices on which Win 8 runs Microsoft and we have agreed to any agreements, other revenue sources.

Matthew Fassler – Goldman Sachs: Second question for William or I guess anyone else just kind of a high level question on the interaction of NOOK business and the College business. Can you talk to us about how the stores if at all are enabling you to kind of achieve kind of franchise situation with universities as it relates to their professors or the class of digital content, obviously, you have the physical presence and how are you actually using that to ensure that you have a prominent digital presence on campus?

William J. Lynch, Jr. – CEO: Well, first of all, digital education – the shift to digital from analog content in higher ed digital education is just starting to happen. So, there should be a recognition that we think we’re three years behind what we saw on the trade side. Having said that, our CAGR suggest we’re going to see digital education content growth over the next five years something approximating 50%. So, the way we’re going to approach that is we made no secret we’re investing, starting to invest in the digital education platform and have been investing and we’re going to use the 620 some odd schools and our relationships with schools and faculty to run pilots as we have been doing for the distribution of digital education materials. We service close to 5 million students in those schools. We have relationships with faculty and administrators and so what we’re doing is and rather quietly trying to hone that platform and you’ll see us make some announcements in the future. So, schools like Columbia, Penn Harvard, Michigan those are all college – Barnes & Noble college bookstores where we have those relationships and so what we’re trying to do is get the product right and make some strategic moves to position us well as that market emerges again behind consumer trade.

Matthew Fassler – Goldman Sachs: Then one more question before I give the mike to someone else. The growth in digital content seems to be moderating certainly for you, a 30% is very good number, you were 46% last quarter, the numbers for the marketplace are sort of tough to get to, but they also seem to be moderating a bit. What’s your take on the likely trajectory of growth in this market, given that we’re still fairly early in penetration? Is this a number for the market and for Barnes & Noble that you think continues to decelerate. Is there a reason why it would pick back up?

William J. Lynch, Jr. – CEO: You are right that growth in eBooks, in particular, moderated in the quarter and that was more broadly – if you talk to the publishers and I spoke – we speak to them all the time. If you look at the Killing Lincoln book versus Killing Kennedy, last year is an example, I had a publisher CEO tell me, it was the first time they had seen where electronic hadn’t gained on physical as a format year-on-year, so – and we think that’s an anomaly, but clearly E is going to continue to grow and be the fastest growing format. But what you see is, October is historically over the last three years the smallest growth month for E and there are reasons for that. What you see is, January is the fastest growth month for E and there is reasons for that. When you sell these digital devices that are connected to digital bookstores and you got innovative products like NOOK HD and HD+ being opened by the millions on December 25. These people light them up, often new users to E, these people light up those screens and suddenly start ordering digital books and those first few months we see are the biggest in terms of attach rate on the new cohort. So, October for anybody, the publishers, us, I’m almost sure for Amazon is likely the slowest growth month in E, January and Q1 is the fastest growth and it’s because you’re just adding a whole lot of screens in digital book stores into the equation. So, hopefully that helps. We feel like we believe we maintained – maybe even slightly grew share. We unlike the last few quarters we don’t have confirmation that we grew share but we certainly believe we maintained our healthy 25% to 30% share this quarter in digital book.

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