Best Buy Knows How to Generate More Business

Stock: Best Buy (ticker BBY) 

Sacrificing short-term profits may yield into more business in return.

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Best Buy was recently reported to use salesman to generate more business. At first, this could be counter intuitive and now that online sales are slowly growing each year.

Nonetheless, CEO Chief Executive Hubert Joly sees this new program would allow the company to “unlock latent demand.”

Meanwhile, the $16.6 billion technology products and services retailer recently reported its second quarter results.

In the first half, Best Buy reported 2.9% growth in revenue to $17.47 billion and a contrasting (-)7% drop in profits to $397 million resulting in 2.3% margin compared to 2.5% a year earlier. In review, cost of sales rose 4.1% resulting in lower profits in the period.

For 2018, Best Buy forecasted that it would generate ~4% revenue growth (vs. (-)0.32% decline last year), and 2.5% on a 52-week basis. The company has 53 weeks in this fiscal year.

“We are pleased today to report strong top and bottom line growth for the second quarter of fiscal 2018.

“Our higher-than-expected comparable sales of 5.4% were driven by stronger consumer demand for technology products and by the strong execution of our strategy. Against a backdrop of continued healthy consumer confidence, we believe broad-based product innovation is resonating with consumers and driving higher spend. And, with our effective merchandising and marketing activities, combined with our expert advice and service available online, in-store and in-home – we are garnering an increasing share of those dollars.

“I want to thank all our associates across the U.S., Canada and Mexico for their hard work, dedication and customer focus as we Build the New Blue. Without them, none of this is possible.”

Hubert Joly, Best Buy chairman, and CEO

Valuations/Total returns 

Despite having provided 28.76% total gains for its shareholders so far this year (vs. the S&P 500’s 11.3%), Best Buy still remained undervalued compared to peers.

The company had trailing P/E ratio 14.4 times vs. industry median 20.25 times, P/B ratio 3.81 times vs. 1.67 times, and P/S ratio 0.43 times vs. 0.7 times.

Best Buy also had trailing 2.29% dividend yield with 32% payout ratio.

Average fiscal 2018 revenue and EPS estimates indicated forward multiples 0.4 times and 13.4 times.

Best Buy

According to filings, Best Buy is incorporated in the state of Minnesota in 1966. Today, the company is a leading provider of technology products, services, and solutions. Best Buy offers these products and services to customers who visit its stores, engages with Geek Squad agents or use the company’s websites or mobile applications.

Best Buy had approximately 1,200 large-format and 400 small-format stores at the end of fiscal 2017. The company’s stores are a vital component of Best Buy’s omnichannel strategy and represent an important competitive advantage. In the U.S., Best Buy has the ability to ship from all of its Best Buy stores.

The company has operations in the U.S., Canada, and Mexico. In its recent fiscal year, Best Buy generated 92% of its revenue in the United States.

Best Buy has two reportable segments: Domestic and International.

The company’s Domestic and International segments have offerings in six revenue categories: Consumer Electronics (34% of fiscal 2017 revenue), Computing and Mobile Phones (45%), Entertainment (7%), Appliances (9%), Services (5%), and Other.

Domestic

The Domestic segment is comprised of the operations in all states, districts, and territories of the U.S., under various brand names including Best Buy, bestbuy.com, Best Buy Mobile, Best Buy Direct, Best Buy Express, Geek Squad, Magnolia Home Theater and Pacific Kitchen and Home.

In the first half, domestic revenue grew 3% year over year to $16.18 billion (93% of sales) and generated an operating margin 3.8% compared to 4.2% a year earlier.

In addition, comparable sales or revenue from Best Buy stores, websites and call centers operating for at least 14 full months rose 3.4% year over year compared to 0.4% a year earlier.

Further, domestic comparable online sales, meanwhile, rose a healthy 26.8% compared to 23.8% a year earlier.

International

The International segment is comprised of all operations in Canada and Mexico under the brand names Best Buy, bestbuy.com.ca, bestbuy.com.mx, Best Buy Express, Best Buy Mobile and Geek Squad.

International revenue increased 2.1% in the first half to $1.28 billion and generated an operating income of $7 million compared to nil a year earlier. Comparable sales—a key metric—for international business also registered 4.4% compared to none in the same period last year.

Sales and profits

In the past three years, Best Buy recorded an average revenue declined of (-)2.4%, average profit increase of 32.2%, and profit margin average of 2.82% (Morningstar).

Cash, debt and book value

As of July, Best Buy had $1.37 billion in cash and cash equivalents and $1.35 billion in debt with debt-equity ratio 0.31 times compared to 0.32 times a year earlier. Overall equity increased by $28 million year over year, while debt declined by $30 million.

3.2% of the company’s $13.4 billion assets were identified as goodwill and intangibles while book value increased 0.65% to $4.35 billion.

Cash flow

In the first half, Best Buy’s cash flow from operations declined (-)47% year over year to $692 million brought by lower profits and cash outflows in relation to its merchandise inventories and other liabilities.

Capital expenditures were $296 million leaving the company with $396 million in free cash flow compared to $1.02 billion a year earlier. Meanwhile, Best Buy raised $125 million through share issuance while having provided $979 million in dividends and share repurchases—about 2.5 times free cash flow.

Best Buy also allocated $20 million in debt repayments.

The cash flow summary

In the past three years, Best Buy allocated $1.79 billion in capital expenditures, raised $268 million in share issuances, reduced debt by $402 million, generated $4.01 billion in free cash flow, and provided $3 billion in dividends and repurchases at an average free cash flow payout ratio of 103.5%.

Conclusion

Best Buy’s recent move in hiring more salesmen to facilitate more business could eventually be rewarding. Meanwhile, the company’s recent first half operations indicated a healthy turnaround from its prior year operations. Further, all of the Best Buy’s revenue categories (consumer electronics, etc) experienced health comparable sales figure in the quarter alone resulting in overall revenue growth.

The company does look like it would deliver on its outlook this year, albeit profits may remain susceptible as average analysts estimate it would be higher.

Having suitable cash on its balance sheet that matches all the outstanding debt, Best Buy also has a rather strong balance sheet while having maintained generous payouts to its shareholders in recent years.

Analysts have an average hold recommendation on Best Buy with a target price of $59.99 a share vs. $54.26 at the time of writing. Using company revenue growth estimates multiplied by 3-year P/S average and a 12% margin indicated a per share figure of $39.4 a share.

In summary, Best Buy is a hold.

Disclosure: I do not have shares in any of the companies mentioned.

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