Best Buy Q2 Profits Decline As It Struggles With Competition And Economic Slowdown

Best Buy (NYSE:BBY) recently announced its Q2 results with approximately 90% decline in net income compared to Q2 2012. Like other brick and mortal retailers, Best Buy is struggling with increased competition from online retailers as well as the global economic slowdown. A day prior to the earnings release, it announced the appointment of Hubert Joly, former CEO of Carlson, a travel and hospitality company, as its new CEO and president. In this article, we discuss the key highlights of this quarterly release and their impact on the company’s value.

We have revised our price estimate for Best Buy from $27.56 to $22.69, which is at a premium to the market price. We updated Best Buy’s net debt position according to the latest balance sheet numbers. We also adjusted our estimates for gross margin and tax rate in accordance with the latest earnings release.

See our full analysis for Best Buy

Slowdown in economic growth

The global economic slowdown has adversely affected consumer discretionary spending. The markets in China and Europe are facing difficult times and are having a negative impact on Best Buy’s revenues. The economic conditions are still fragile in the U.S. and it might take a significant amount of time for the economy and consumer confidence to recover to pre-recession levels.

For Q2, Best Buy’s international operations suffered due to the slowdown in growth in China and Canada and increased competition in Europe. The comparable store sales for the international segment witnessed a 8.2% decline, primarily driven by lower growth in consumer spending in China.

Gross margin pressures

Best Buy expects the unfavorable sales mix within mobile phones and televisions to impact its gross margins.  In order to fend off competition and attract customers consumer electronics retailers are engaging in additional promotional activity that can impact margins.   We expect Best Buy’s margins to continue to decline in the coming years due to an increase in promotional activities.

Online competition and changing customer preferences

Best Buy reported strong growth of about 14% in online revenues, however, it still has a long way to go to grab a sizable portion of the growing e-commerce market. There has been a drastic change in the way consumers shop today. Revenues of brick and mortar retailers like Best Buy and Target are being adversely affected as customers visit the stores to browse through products and eventually buy them at cheaper prices online. (See our previous post: Best Buy Wants To Fight Showrooming With Improved Service)

In addition, there has been a significant decline in TV and computer sales over the past couple of years as consumers are more inclined to buy smaller gadgets like mobile phones, tablets and e-readers. The proportion of mobile and computing in revenues in the domestic segment increased to 44% (from 40% in Q2 2012) whereas that of consumer electronics shrunk to 33% (from 36% in Q2 2012) for the company.

Best Buy is at the helm of a major restructuring involving 50 store closures, job cuts and cost cuts. With the recent changes in leadership, it is yet to be seen what strategies the company will adopt to ensure growth in the long term.

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