Best Buy Founder Looking For Graceful, Confusing Exit

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If you were Best Buy founder Richard Schulze, how much would you pay to acquire the shares of Best Buy that you don't already own? $24 a share? $26? $30? Surely it'd get too expensive for you above $30 or so?*

Nope! The more expensive it is for him the more money he saves, or rather gets, because he is not offering to buy Best Buy, but to sell it. From the Journal:

In his letter to the board, Mr. Schulze said he would finance the transaction through a combination of investments from private-equity firms, his equity investment of approximately $1 billion, and debt. His adviser, Credit Suisse, is "highly confident" Mr. Schulze could arrange the necessary debt financing, according to his statement.

Because Mr. Schulze's holding of 68.9 million shares would be worth at least $1.65 billion, his proposal indicates he would divest himself of some of his personal stake as part of a transaction.

I had trouble believing this - perhaps he rounds down unconventionally, or he meant he was kicking in an extra $1bn in cash for the equity check? - but it seems to be true. Schulze's press release says that "he plans to finance the proposed acquisition through a combination of investments from the private equity firms, reinvestment of approximately $1 billion of his own equity, and debt financing," which sure does sound like he's kicking in some but not all of his shares. If so, the higher the price, the better of Schulze is: at $24, he can have his billion-dollar stake while cashing out $650mm, at $26 he gets $790mm, and at $30 he takes out over a billion dollars. He is perhaps more diluted in the new company at these levels - and/or the newco is more leveraged - but ... um ... that's usually what happens when someone gives you money in exchange for stock, isn't it?

This activity where someone gives you money in exchange for stock and then you don't have the stock any more (but you have the money) is normally called "selling," so why call it "buying" here? One obvious answer is that regular old selling didn't look so hot for Schulze: BBY's stock was down 27% over the last year (pre-today), and Schulze started looking into selling two months ago. Presumably he was quickly persuaded that a public offering of the founder's 20% stake in a floundering company would not be a smash hit, and has been shopping that stake to private buyers ever since.

Those potential private buyers, understandably, are more interested in a levered strip-for-parts private equity play for Best Buy than they are in a minority stake in an aimless but independent public company. So they asked to buy the whole company, which Schulze can't deliver on his own - but which he can be helpful in obtaining via a letter-writing campaign and residula founder goodwill. And, being no dummies, the private equity sponsors want him to stick around for a while with $1bn of his own money and his knowledge of where the bodies are buried.

There's nothing wrong with this from Best Buy's perspective: Schulze's incentives are pretty well aligned with those of shareholders, in that his goal is presumably to extract the highest possible price out of his private equity sponsors. But, given that dynamic, there's no particular reason to think he's yet gotten any serious interest from those (unnamed) sponsors: why would they go too far down the line of planning a bid with him when his interests are at this point sort of the opposite of theirs? Schulze is not so much a joint bidder with potential sponsors as he is a zealous marketer to them, trying to create a transaction from nothing by bringing together unenthusiastic buyers and an unwilling seller and taking his cut in the middle.

Still, despite quite a bit of media and analyst skepticism, the market seems to have taken some hope from Schulze's bid, er, ask. BBY is up 13% today, and more to the point:

Best Buy Co.’s credit rating was cut to junk by Standard & Poor’s because of the prospect that a buyout by the retailer’s founder would add debt. The rating was cut one level to BB+, the first level below investment grade, Jayne M. Ross, an analyst for S&P, said today in a statement. ... Best Buy’s $650 million of 5.5 percent bonds due in March 2021 rose 2.5 cents to 94 cents on the dollar at 2 p.m. in New York, according to Trace, the bond price reporting system of the Financial Industry Regulatory Authority.

All of Best Buy's bonds are up, actually, which I would love to say is just the usual market reaction to S&P downgrades but is more likely because the bonds have a change of control put at 101.** And like shareholders - both public holders and Schulze himself - the bondholders are thrilled at the possibility, however remote, of getting out at a premium.

Richard Schulze Schedule 13D/A [EDGAR]
Best Buy Calls Founder's Unsolicited Bid 'Highly Conditional' [WSJ]
Best Buy bid looks about as shaky as its target [Breakingviews]
Best Buy's poor pop [Term Sheet]

* I mean, at $30 it's an EV/EBITDA of almost 4x, which ... doesn't seem that high to me? To be fair I am not an expert in the business of selling video games out of giant stores but I gather it does not support high multiples?

** Update: A reader points out there's also a coupon step-up for ratings - so they might actually have traded up due to S&P's downgrade.

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