When a retailer is backed into a corner, the company has two different choices. It can either ignore its issues, or it can adapt to survive. Best Buy (NYSE: BBY) seems to have finally come to its senses and is taking steps to prosper in the future. That said, the company still needs to make one fairly obvious choice.
Retail isn't a game... or is it?
One of the bigger stories in the next year or so will be the evolution of the gaming industry. Whether it's Amazon.com (NASDAQ: AMZN), GameStop (NYSE: GME), or Best Buy, each company knows that new gaming consoles and new software means big money.
Since the Xbox One and PlayStation 4 were announced, there has been a lot of debate over whether their $499 and $399 prices would be an issue. However, this initially seems to have been laid to rest given that both consoles sold more than 1 million units in the first 24 hours. Given the strength of these devices and the software titles being released for them, each of the above retailers stands to benefit.
In the last few years, Best Buy has moved from being concerned that it is a showroom for online retailers to knowing that it's a showroom and accepting this fact. The company called price competitiveness "table stakes" in its current earnings report. This equates to an admission that Best Buy must be price-competitive to stay in the game.
The fact that the company is willing to match prices against Amazon, Wal-Mart, Target, and others shows that it is tired of losing sales to other retailers. With a gross margin in the quarter of just over 23% compared to over 24% last year, it's clear that pricing pressure is real. However, these lower margins helped to increase domestic sales.
Though Best Buy has some work to do to try to match Amazon's gross margin of more than 26% or GameStop's gross margin of more than 28%, the company needs sales growth more than high margins at this time. Given that domestic sales make up more than 80% of Best Buy's revenue, it's extremely important that the company maintain this sales momentum.
With the addition of the Samsung Experience store-within-a-store and the Microsoft investment in its Windows Store, Best Buy is now directly supported by two of the more important names in technology. The company already prominently featured Apple products, and you could make the argument that Best Buy's greatest advantage is the showroom that it provides to its vendor partners.
Why did this take so long?
If investors are cheering Amazon every time the company decides to build a new warehouse, they ought to be ecstatic about Best Buy choosing to roll out the ship-from-store capability at 400 of its locations. To say that this could be a serious threat to online retailers is an understatement, as Best Buy still maintains hundreds of big-box locations that could all be used as mini warehouses.
This is one competitive advantage that Best Buy and other big-box retailers possess that smaller retailers can't take advantage of. Though GameStop has more than 6,000 locations, it would be nearly impossible for a small GameStop location to operate as a warehouse for its immediate vicinity. On the other end of the spectrum, though Amazon may build much larger warehouses, it's unlikely that the company will ever reach the number of locations that Best Buy and other retailers already occupy.
This isn't working
If there's one big problem with the Best Buy turnaround story, it's the company's international division. Best Buy International reported that 80% of its products showed same-store sales declines of at least 5.5%. In addition, the company's international operations posted a gross margin of just over 21%, significantly less than the company's domestic operations.
There might not be a clearer picture of Best Buy International's struggles than the 11% decline in this division's sales. When you consider that Amazon posted a 15% increase in international sales, it seems clear that overseas, these two companies are headed in opposite directions.
With international sales representing less than 20% of total revenue, the company is already closing stores in Canada and China. It looks like it's time for this part of Best Buy to go away.
Wrapping it up
With Best Buy returning from the ashes of near-forgotten retailers, investors have been treated to quite a ride. At this point, Best Buy seems to be poised to survive. The question is, will the company thrive in the future?
The upgrade cycle in the gaming business should certainly help sales, and the company's focus on mobile will be a key factor in Best Buy's future success. However, until the company wraps up and either sells or divests its international operations, its stock won't be the best buy that it could be. The company's turnaround has been impressive, but this one obvious choice would continue Best Buy's momentum.
A gift to your portfolio for 2014
The market stormed out to huge gains across 2013, leaving investors on the sidelines burned. However, opportunistic investors can still find huge winners. The Motley Fool's chief investment officer has just hand-picked one such opportunity in our new report: "The Motley Fool's Top Stock for 2014." To find out which stock it is and read our in-depth report, simply click here. It's free!