Best Buy Casts a Dark Shadow Over Electronics Retailers

Best Buy's disastrous earnings report has investors worried about the prospects of electronics retailers.

Jan 20, 2014 at 10:00AM

Best Buy (NYSE:BBY) was one of the major feelgood stories of 2013, as a seemingly successful turnaround boosted the company's top and bottom lines, sending shares on a massive rally over 2013. However, the company's most recent earnings report seems to have come as a nasty shock to investors. Best Buy's stock plunged more than 28% on the news, as discounting efforts to match the prices of retailers such as (NASDAQ:AMZN) ate into margins. Other electronics retailers such as GameStop (NYSE:GME) also reported disappointing figures.

Is the report a signal that there are dark days to come for US electronics retailers?

Weak holiday sales
According to some analysts, Best Buy's holiday results were nothing less than shocking. The results were especially poor in the light of the optimism which surrounded the stock during 2013, a year which saw Best Buy shares skyrocket more than 230% on hopes of a successful turnaround story. These hopes now seem all but eroded.

Despite competitive discounts, same-store sales for the holiday period dropped 0.9%, with US revenue of $9.7 billion down 1.5% year over year and international revenue down 0.8%.

According to CEO Hubert Joly, holiday revenue was negatively affected by the brutal discounting environment over the period, which according to management did not significantly increase industry demand, as well as by store traffic declines and poor demand for mobile phones.

Clearly, most major retailers are feeling the pinch from the aggressive discounting environment during the holiday season, but Best Buy's expected 175-185 basis- point drop in operating margin was a severe disappointment to analysts. On the other hand, Best Buy's efforts seem to have boosted the company's market share during a broad industry decline over the holidays.

It appears as if the consumer-electronics chain will now be forced to step up its cost-cutting efforts, now having achieved some $550 million in savings. According to Joly, the company will need to be even more frugal and lean. Despite these factors, however, management is still optimistic as to the company's turnaround prospects, stating that the strategy is a multiyear effort which is still in its early stages.

Out-competed by Amazon
The opinion of management, as well as many analysts, seems to be that the company was simply out-competed on price among other factors. Amazon, the heavier-than-800-pound gorilla in online retail, continues to outsell most of its rivals, and while Best Buy's online sales are up 9% year over year, its online efforts are still a long way from catching up to Amazon. The e-commerce beast reportedly had its best holiday season ever, shipping more than 36.8 million products globally on Cyber Monday.

Best Buy announced it would be matching Amazon's prices as early as November, and stated at the time that the move would impact the company's profits. Clearly, analysts and investors had not anticipated the severity of the drop, but the problem does not seem confined to Best Buy.

A similarly disappointing report was given by GameStop, America's No. 1 brick-and-mortar video game retailer. The release of a new generation of consoles failed to offset a steep decline in software sales, which sent the stock plunging more than 20% on the news.

Investors seemed worried about the rise of digital distribution of software titles, which would eat into GameStop's core business of selling new and used video games. All in all, it doesn't seem like most electronics retailers had a very profitable holiday season.

The bottom line
Best Buy shares got crushed, following weak holiday sales numbers and weaker-than-expected margin guidance. The company's efforts to match prices with the likes of Amazon have clearly eaten into profits, although management is still convinced that the turnaround story is intact. The company's results seem to follow a broader electronics-retail trend this holiday season, as Amazon's dominance in the industry seems to become ever more solidified.

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Daniel James has no position in any stocks mentioned. The Motley Fool recommends The Motley Fool owns shares of and GameStop. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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