Take A Page Out of Seth Klarman's Book and Buy Borders (BGP)

Today we want to take a look at Borders Group, Inc. (NYSE: BGP), a stock Baupost Group, a hedge fund run by deep value investor Seth Klarman, showed a 8.22% stake in (4,971,600 shares) as of the quarter ended 3/31/08. The firm did not show a stake in Borders at the quarter ended 12/31/07.

Baupost Group is $7+ billion investment group, which has returned approximately 20% annually since its inception. According to a March '07 New York Times article, the fund has posted declines in only 11 of the total 97 quarters since its debut. Klarman was in the first group of inductees to Alpha magazine's Hedge Fund Hall of Fame. You can see more news on Klarman here.

Shares of book, movie and music retailer Borders have been slammed for some time as more and more people shop online for these items instead of at Border's stores. Border's online strategy has been lackluster to date, but the company recently launched a new independent Borders.com which they hope will be profitable by 2009. In addition, the weak US economy has pressured sales at most retailers, including Borders. The shares have lost 75% of their value over the last year.

So, with Borders you have a bleeding brick-and-mortar biz, an unproven web biz and a weak consumer. Not your most rosy of scenarios. But is the worst now over? Would it be wise to follow Baupost Group into Borders Group now? While a very risky trade, I think Borders could see double digits again over the next year. Shares of Borders are currently below $6, so upside of nearly 70% could exist.

What is the key catalyst that could drive Borders to double digits? A BUYOUT!

Borders Group is constantly rumored as a buyout target. The company is currently considering "strategic alternatives", a fancy name for a sale. The most logical suitor for Borders is rival Barnes & Noble Inc. (NYSE: BKS), and recent reports suggested Barnes & Noble was exploring a bid for the company. Borders publicly stated that the strategic alternative process remains ongoing and it has not engaged in substantive discussions regarding any specific transaction to date.

Activist investor William Ackman has been involved with Borders Group through much of the worst of its decline and would love nothing more than to see this company sold. Ackman has been loading up more shares recently to bring his cost basis down and recently helped the company with some financing as the credit crunch cut off access to reasonable financing for the company. As part of the financing, Ackman received a backstop purchase offer ("put") of $135 million for Borders international subsidiaries. He also received 9.55 million warrants to purchase common shares, exercisable at $7.00 per share. He will get 5.15 million more warrants in the any of the following three conditions occurs: the company exercises the put related to the sale of the international subsidiaries, a definitive agreement relating to a change-of-control of the company is not signed by October 1, 2008, or the company terminates the strategic alternatives process.

With an ongoing sales process, and investors aggressively pushing for a buyout, don't be surprised when you wake up one day to find that the company is gone - sold to the highest bidder!

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