Best Buy’s Stock Still Attractive At $118?

Best Buy’s (NYSE: BBY) stock is up around 35% to around $118 levels year-to-date, compared to a 9% growth for the broader S&P 500. The retailer’s stock grew despite a 1% decline in revenues in the last 2 quarters. While Best Buy has outperformed the broader markets, we believe it can still grow further. Best Buy benefited from people transitioning to working from home earlier during the pandemic with the growth in sales of products such as batteries, PCs, laptops, LCDs, printers, and Refrigerators. We believe that consumers could continue to keep spending big on technology products including new video game consoles, streaming devices, and 5G smartphones going forward. Best Buy’s stock jumped 72% since the end of fiscal 2018 (year ending January 2018). Our dashboard, ‘What Factors Drove 75% Change In Best Buy Between FY 2018 And Now?‘ provides the key numbers behind our thinking, and we explain more below.

The stock price gain over the past two years can primarily be attributed to modest revenue and strong earnings growth for the company. Best Buy’s revenues were up 3.5% from $42.2 billion in fiscal 2018 to $43.6 billion in fiscal 2020 (year ended January 2020). This combined with an almost 49% jump in net income margin from 2.4% in fiscal 2018 to 3.5% in fiscal 2020, helped earnings per share grow 75%.

The reason for BBY’s stock outperformance over recent years can be attributed to the company executing its turnaround plan called “Renew Blue.”  The retailer has been executing on its strategy to cut costs, optimize square footage, grow online sales, and stabilize its revenue stream. The company returned to real growth in fiscal 2018, with revenue growth of 7% y-o-y. This growth followed largely flattish revenue growth in previous fiscal years.

Best Buy’s P/E multiple declined from 20x at the end of FY 2018 to 14x by the end of fiscal 2020. It then rallied back to about 20x now. This reflects a 41% increase in P/E multiple since January 2020. We believe BBY’s multiple will likely grow slightly from current levels on the back of increased demand in electronics, thanks to new product launches.

How Is Coronavirus Impacting Best Buy’s Stock?

In the fiscal first half, Best Buy’s total revenue declined only 1% year-over-year (y-o-y) to $18.5 billion on a 0.4% increase in comparable sales, even with lower advertising spending and a much smaller workforce. The retailer’s total operating expenses declined by about $300 million y-o-y (due to store closures and stores functioning as an appointment-only store after reopening for the first six weeks of Q2). This enabled Best Buy to grow its operating margin by 90 basis points y-o-y to 4.3%, driving a 22% surge in earnings per share to $2.26 during this period.

From a merchandise perspective, Best Buy saw strong sales of computing equipment, tablets, and appliances, partially offset by flat sales in gaming consoles and declines in smartphone deals in the fiscal first half. However, these weaker categories are expected to rebound moving into next year. Best Buy stands to benefit from Apple’s launch of 5G iPhones. In addition, Microsoft and Sony are also expected to launch their next-generation gaming consoles by the end of this year.

Notably, domestic online sales grew by a large 242%, growing to 53% of the domestic sales mix from 16% a year ago in Q2. This made Q2 the busiest quarter for online sales in Best Buy’s history by a wide margin. Consequently, Best Buy (generating more than 25% of sales online) was able to drive consumers to purchase electronics online without losing customers to e-commerce giant Amazon. That said, Best Buy’s stock price at levels of around $118 still provides a buying opportunity for investors willing to be patient. 

The actual recovery and its timing hinge on the broader containment of the coronavirus spread. Our dashboard Trends In U.S. Covid-19 Cases provides an overview of how the pandemic has been spreading in the U.S. and contrasts with trends in Brazil and Russia. Following the Fed stimulus — which set a floor on fear — the market has been willing to “look through” the current weak period and take a longer-term view. With investors focusing their attention on 2021 results, the valuations become important in finding value. Though market sentiment can be fickle, and evidence of an uptick in new cases could spook investors once again.  

What if you’re looking for a more balanced portfolio instead? Here’s a high quality portfolio to beat the market, with over 100% return since 2016, versus 55% for the S&P 500. Comprised of companies with strong revenue growth, healthy profits, lots of cash, and low risk, it has outperformed the broader market year after year, consistently.

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