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Microsoft Corp. (NASDAQ: MSFT) and Barnes & Noble Inc. (NYSE: BKS) announced this morning that the two companies were forming a “strategic partnership,” called ‘Newco’ for purposes of the announcement, that would be a subsidiary of B&N and “will build upon the history of strong innovation in digital reading technologies from both companies. The partnership will accelerate the transition to e-reading, which is revolutionizing the way people consume, create, share and enjoy digital content.”

What B&N has done, essentially, is establish a value for its Nook business and gained a deep-pocketed partner to attack the tablet/e-reader market now dominated by the iPad from Apple Inc. (NASDAQ: AAPL) and the Kindle family of products from Amazon.com Inc. (NASDAQ: AMZN).

B&N’s Nook reader has been a mild success, but the company needs the bigger footprint it gets with the Microsoft partnership. Like Amazon’s Kindle Fire, the Nook uses its own version of Google Inc.’s (NASDAQ: GOOG) Android operating system.

Microsoft is investing $300 million in ‘Newco’ in exchange for about a 17.6% equity stake, placing a value of about $1.7 billion on the new subsidiary. The company will include B&N’s digital business, including its Nook e-reader, and the company’s College division. Microsoft’s coming Windows 8 operating system will include a Nook application.

Microsoft’s investment is pretty small, given the company’s $60 billion cash hoard. But it now has put a stake in the ground to let everyone know it plans to compete in the tablet market. And at some point, B&N will need more cash, which will only come from a spin-off or a sale of the new company. Guess who will be first in line?

Shares of B&N have nearly doubled in the pre-market this morning, to $26.87, a new 52-week high if it holds above the current range of $9.35-$18.73.

Paul Ausick