6/14/2011 12:38 PM ET|
What's the problem at Best Buy?
Disinterest in big-box stores, fierce online competition and still-struggling consumers have soured investors on the electronics giant. But the Blue Shirts should make it through.
Is it time to say bye-bye to troubled Best Buy?
A lot of big-picture trends are running against the electronics giant and its team of Blue Shirts:
- Online competitors like Amazon.com (AMZN, news)continue to steal business from Best Buy (BBY, news)with better prices. One running joke has it that Best Buy's role now is to serve as Amazon's showroom. Big chains like Wal-Mart Stores (WMT, news)also compete heavily on price.
- Who buys CDs and DVDs at Best Buy (or anywhere) anymore, now that it's much more convenient to download them or to watch or listen online?
- Consumers are on the ropes. About 6 million of the jobs lost in the U.S. since the recession started have yet to be replaced.
- And for those who do have jobs and money, there's no new consumer-electronics craze on the horizon, like flat-screen TVs, to drive people into Best Buy's big-box stores. Sure, Apple (AAPL, news)keeps cranking out hit products like the iPad -- but Best Buy has to complete with Apple's own stores for those.
All of these trends continue to put downward pressure on Best Buy results. The company reported a 1.7% decline in sales at stores open more than a year, as well as lower profit margins. On June 14, Best Buy also reported earnings of 35 cents a share, a penny lower than a year ago. Last year's sales fell by a similar amount, following two years that saw healthy sales gains of 5% or more.
The market hasn't forgotten that similar trends forced Circuit City to close its big boxes in 2009. (The brand survives online.) Since Thanksgiving, shares of Best Buy have fallen 34% to about $30, yet it still ranks among the most heavily shorted Standard & Poor's 500 Index ($INX)stocks, as many investors bet it will fall even further.
Can Best Buy weather the storm? I think so, although it may look different in the future. In fact, the stock may be a buy for investors right now. To see why, here's a look at the challenges that have investors nervous, and why Best Buy should overcome them.
The big box is dead
Across retailing, from Wal-Mart to Target (TGT, news)and Kohl's (KSS, news), national chains are moving to smaller stores. "The biggest winners are the people with smaller boxes," says Howard Davidowitz of Davidowitz & Associates, a retail consulting and investment banking firm, citing the success of retailers like Dollar Tree (DLTR, news). "There's a sea change out there."
The backstory: In a sense, big-box stores -- which sprung up in the 1980s -- were the precursors of Internet shopping, says Eric Johnson, a professor at the Tuck School of Business at Dartmouth. They offered a vast array of products in one place at cheap prices. When the actual Internet came along, big-box stores looked outmoded. "There really isn't anything compelling about big-box stores anymore. They can't compete on cost or product offerings," says Johnson.
Consumers now favor smaller stores that force retailers to select the best merchandise rather than just putting everything on the shelves, says Davidowitz. "That's one of the reasons consumers hire retailers."
In this environment, Best Buy looks like a paintball target. Most of its 1,317 U.S. stores, 1,100 of them, are big box.
But the Blue Shirts are on the case.
In a recent meeting with analysts, Best Buy announced plans to reduce the square footage of its big-box stores by 10% over three to five years. The chain will also lease out floor space to other retailers, says BB&T Capital Markets analyst Anthony Chukumba.
The retailer also plans to add 600 to 800 small-format Best Buy Mobile stores over the next five years, on top of a current base of 180. That'll help boost profit margins, which are higher on smartphones and mobile-phone-service contracts. Best Buy has only a 6% market share in mobile phones, compared with a 22% share in most lines of consumer electronics, suggesting there's plenty of room for growth, says Chukumba.
Besides, while smaller stores are popular, it's not really clear that the big box is dead, maintains George Whalin, a retail sector expert at Retail Management Consultants. He cites the recent success of Costco (COST, news), Macy's (M, news)and Nordstrom (JWN, news). "The superstore is dead -- that's just nonsense," says Whalin.
Amazon, Apple and Netflix steal business
There's no question that a lot of Best Buy's business is shifting to online retailers. Internet delivery of music and video is hurting Best Buy CD and DVD sales, which used to drive a lot of traffic into its huge stores, points out Stephan Hoch, a marketing professor at the University of Pennsylvania's Wharton School. Entertainment-related revenue plummeted 13% last year at Best Buy.
Plus, in TVs, laptops, tablets and cameras, online retailers like Amazon can beat Best Buy on price, since they have lower overhead and typically do not collect state sales tax. A lot of consumers check out products in Best Buy stores, then buy them online at a lower price.
The Blue Shirts will no doubt have a tough time competing with Apple's iTunes store and Netflix (NFLX, news). But they have an ambitious plan for gadget sales: become more like Amazon. Best Buy plans to offer a lot more consumer electronics products on its website, including plenty of models it does not offer in stores. It will also allow third-party vendors to sell there, just like Amazon. Best Buy hopes to double online business to $4 billion over five years.
Meanwhile, the Blue Shirts are going to get help from states like California, which is taking steps to make Amazon and other online retailers collect state sales taxes. Best Buy already has to collect state sales tax because it has a physical presence in most states, putting it at a disadvantage.
Wal-Mart is eating Best Buy's lunch
Since consumer electronics are commodity products, the main way to compete is by offering lower prices. Best Buy critics maintain that Wal-Mart is better at this game. Wal-Mart also has the flexibility to devote more floor space to consumer electronics during peak selling seasons like the winter holidays, says the Wharton School's Hoch.
But the bears are missing something here. A big part of Best Buy's strategy is to "demystify and humanize" technology, the company says -- not just sell it. Best Buy will continue to attract shoppers with expertise and services they can't find at Wal-Mart, says Chukumba.
Besides the Blue Shirts, who guide consumers to what's best for them, Best Buy's Geek Squad offers technical support and help with installation. An innovative "buy back" program helps eliminate consumer fears that their tech products will quickly become obsolete by letting them lock in a sale of gadgets back to Best Buy, at a preset price. This service is new, but so far it's popular for smartphones and tablet computers.
Plus, you can expect electronics manufacturers like Samsung Electronics (SSNLF, news), Sony (SNE, news)and Toshiba (TOSBF, news)to offer special product lines via Best Buy. They know they need at least one big retailer that does a good job of explaining their products, says Whalin. Finally, Best Buy will usually match prices at other brick and mortar stores, so Wal-Mart's price advantage isn't as big a threat as it is made out to be, says Chukumba.
No new hot tech product to juice sales
A big problem for consumer electronics retailers is that they do very well for a few years when a hot new product comes out -- most recently, the flat-screen TV. "But then when those technologies abate, the retailer is stuck. It has too many pushcarts and not enough fruit to sell," says Mark Cohen, a Columbia Business School marketing professor and former CEO of Sears Canada.
This is a big reason Best Buy sales advanced just 1.2% to $50.3 billion last year -- with the gain all from new stores. Sales at stores open for more than a year declined 1.8%. U.S. sales dropped slightly to $37.1 billion, following healthy gains of 5% to 6.4% in the two prior years. Blame it on weaker sales of flat-screen TVs, now that so many people have them.
Apple does keep churning out hot new products like the iPad. And it is sharing some of them with Best Buy -- but not nearly enough to change the retailer's picture.
The next big trend could be 3-D TV, or it could be some other tech fad. But it will come along; that's the pattern with technology. Meanwhile, look for several iPad competitors to help Best Buy in the near term, says Chukumba. He cites the Xoom from Motorola Solutions (MOT, news), the Playbook from Research In Motion (RIMM, news)and the Samsung Galaxy Tab as iPad rivals. If you think no one can challenge Apple, remember the way Android phones came on strong to compete with the iPhone.
The cautious consumer
Consumer spending may be the trickiest challenge of all for Best Buy, and not only because it's totally out of Best Buy's control. Things look grim again on the economic front. My own guess is that the current soft patch in the economy is temporary -- brought on by supply chain disruptions in Japan and high gasoline prices. Barring another tsunami, the supply chain difficulties in Japan will get resolved at some point. And gasoline prices are already coming down. They should fall further once tensions in the Middle East calm down.
Once things look better, Best Buy will get the business.
Why Best Buy can adapt
As tough as the moment looks now, the future isn't all blue for the folks in the blue shirts.
After all, Best Buy is still the biggest consumer electronics specialty retailer -- with a 20% share of this $180 billion market. While other consumer electronics retailers have come and gone, Best Buy has shown amazing staying power more than four decades, thanks to its wily ability to adapt and evolve.
The retailer started off as a small stereo store in Minnesota in the mid-'60s called Sound of Music. It successfully managed the changeover to the "superstore" concept and the shift away from commission-driven sales to self-service. It's taken positive steps to compete with Amazon by adding services you can't get online, like the setup-and-repair experts in its Geek Squad. And it has successfully moved into smartphones and moved overseas to China, buying a big consumer electronics retail chain there called Five Star.
Retail sector analysts cite the strength of Best Buy's management and that time-tested ability to evolve and adapt. "They are very adept and extremely intelligent," says Davidowitz. "I would bet on them doing OK."
CEO Brian Dunn cites Best Buy's "ability to change and adapt" as one of its key strengths. "The nature of our business requires us to constantly innovate," he said in a recent conference call. Dunn knows what he's talking about because he's seen it all. He worked his way up to the top from store associate in 1985, when Best Buy had only a dozen stores. The résumés of other top execs are peppered with the names of successful mass retailers like Wal-Mart and Coca-Cola (KO, news). Best Buy founder Richard Schulze is still chairman.
Another key factor here is that the company has been smart enough to keep a strong balance sheet along the way to avoid the bane of retailers in hard times: bankruptcy. Best Buy has more than $1 billion in cash. And it will generate as much as $2.5 billion in free cash flow this year, says Chukumba. It's returning much of that money to shareholders through ongoing buybacks and a 2.1% dividend yield.
At $29, Best Buy trades for about 8.5 times next year's earnings, compared with an average of 14 times for similar retailers, says Mike Baker of Deutsche Bank Securities, who has a "buy" rating and a $37 price target on the stock. "The price of the stock has sufficiently captured what is going on," agrees Manulife Asset Management retail sector analyst Sarah Henry.
Put all this together and you have a stock that looks oversold and cheap. Sure, it could go lower, because the current lineup of challenges won't go away overnight. You might not make a quick score here.
But as a medium-term play -- one to own for, say, a couple of years while collecting the dividend -- it's a sensible buy.
At the time of publication, Michael Brush did not own or control shares of any company mentioned in this column. Brush is the editor of Brush Up on Stocks, an investment newsletter.
Michael Brush is the editor of Brush Up on Stocks, an investment newsletter. Click here to find Brush's most recent articles and blog posts.
VIDEO ON MSN MONEY
Best Buy...What a joke!
When we sold our first house and bought our second we went to Best Buy to buy a Washer, Dryer, Oven, Microwave, Dish Washer Refrigerator, 50" TV, 46 TV, Desktop Computer and a Lap Top Computer. 6 hours later and $15,800 we finally got what we wanted. We had to go through 8 sales people that were only interested in up selling, they had no interest in selling us what WE wanted. 3 days later the delivery came and every single item was damaged except the Desktop Computer and the Laptop. We wanted everything sent back and replaced. Best Buy refused and insisted that we take a 10% discount and keep everything. We paid cash for everything and they had us by the nuts! After 2 hours on the phone with CS, they finally agreed to take it all back and replace it. 10 days later the truck arrived for the second delivery........ It had all the same damaged stuff on it! We refused delivery and demanded our money back. It had now been 14 days we were in our new house with no appliances. It took another 14 days to get our money back in the form of a check that was less $3100.00 restocking fee. We had to hire an attorney to get the rest of our money back at a cost of $800.00 which we did not get back. We finally bought everything from Sears with no problems what's so ever. 1 hour in and out and everything was delivered the next day.
I WOULD NOT BUY FROM BEST BUY IF IT WAS THE LAST STORE ON THE PLANET.
I would rather cook my food over a camp fire, wash my clothes and dishes in a river, store my food in ice or salt and go without a computer or TV before I would ever walk into a Best Buy store again!
I HOPE THEY FAIL!
Never mind the market forces. Their attitude toward their customers and their customer service after the sale have brought them down.
Most customers could have told them that two years ago.
Now it might be too late to repair that poor image.
Atrocious customer service and long lines at the checkout, where there are almost always only just 1 or 2 registers open. They sure wasted money when they installed those other 6 registers that they never open. They sure are pretty though. Even at Christmas, 1st of the month and every other holiday, it doesn't matter.
But hey, just about any retail or grocery store we go to these days, operates in the same manner. It's the new standard in business and not the exception. In my day and by our high standards, almost every single employee at present would have been fired long ago. Stupid, lazy and unknowledgeable management and employees never have and never will be acceptable in my book.
The fish stinks from the head..... Retail management thinks everything sells itself, give no training to idiots, Here in Colorado their two largest competitors went out of business and they still can't make it.
Circuit City died for the same reason. Consumers vote with their checkbooks, and these kind of stores ignore the obvious until the bitter end.
Stay the cluck away from Best Buy.
My wife was robbed outside a Best Buy several years ago in the Atlanta Metro area. The robber stole the video camera she purchased for me at Best Buy. He hit her in the mouth with a set of keys on a chain. He bloodied and fattened her lips. When she went into the store to inform them she had been assaulted and robbed in front of their store, they did not offer to call the police, they did not offer to get her medical help, their response was, "we are not responsible for what happens outside the store." We wrote the corporate office detailing their lack of concern for her welfare at that store. We've never received a response. Of course the robber got away with not only with the camera but also the receipt. So much for that $600 purchase. We were hoping Best Buy could track the purchase through their system in order to catch the robber trying to return the camera for money. They claimed they couldn't do it.Since that time I have encouraged all my friends and anyone else who would listen to not patronize Best Buy. Since they could care less about my wife's safety and welfare, I could care less whether they go out of business. The sooner the better. Good riddance.
Have to agree - customer service is the worst. I will never shop at Best Buys again. When you walk into a store with few customers, five or six salespeople milling about, and not one reacknowledges your presence, let alone ask if you need help, then something is wrong. When I asked for some assistance, I was at first met with blank stares, and then finally, one of the salespeople deigned to wait on me - although his mind was clearly elsewhere.
From now on I will check things out at Best buy, but make my purchase through Amazoin.com - they have the customer service thing down pat, and generally better prices as well.
Copyright © 2013 Microsoft. All rights reserved.
Fundamental company data and historical chart data provided by Morningstar Inc. Real-time index quotes and delayed quotes supplied by Morningstar Inc. Quotes delayed by up to 15 minutes, except where indicated otherwise. Fund summary, fund performance and dividend data provided by Morningstar Inc. Analyst recommendations provided by Zacks Investment Research. StockScouter data provided by Verus Analytics. IPO data provided by Hoover's Inc. Index membership data provided by Morningstar Inc.