Is Best Buy Still the Best Choice for Both Consumers and Investors?

As buyers of consumer electronics place a stronger emphasis on price and affordability over factors such as branding, Best Buy's dominance of the consumer electronics market is likely to become a thing of the past.

Apr 15, 2014 at 2:27PM

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Source: Best Buy.

Although Best Buy (NYSE:BBY) is still the largest multi-channel consumer electronics retailer in the world, it isn't the default choice for consumer electronics purchases. As consumer electronics become increasingly commoditized, pricing and affordability have a greater impact on purchasing decisions than either brands or prime locations. This benefits Best Buy's competitors like Wal-Mart (NYSE:WMT) and Conn's (NASDAQ:CONN).

Cheaper, but not the cheapest
Since most retailers, including warehouse clubs, mass merchants, and online retailers, typically carry the same assortment of consumer electronics, price becomes a critical differentiating factor for consumers. Interestingly, a 2012 Marketing Evolution Brand Tracker survey indicated that while 71% of respondents felt that Wal-Mart offered products at prices lower than others, only 23% of them thought the same of Best Buy.

Realizing that it has a price perception issue, Best Buy initiated a low price guarantee program, where it will match the prices of local retailers and designated major online retailers. But the price guarantee only applies at the time of purchase and is limited to one price match per identical item per buyer.

Price perception is one issue; reality is another. Retail giants like Wal-Mart simply have lower cost structures than Best Buy and therefore have a real advantage in pricing. In a bid to remain price competitive, Best Buy has also started to work on margin enhancement and cost reduction initiatives.

Best Buy has changed the space allocation in a number of its stores to enhance revenue and profit per square foot. More space is allocated to smartphones, tablets and related accessories; while musical instruments are making the way for clearance items.

Second, Best Buy is trying to improve supply chain efficiency through actions such as freight consolidation (to save on shipping costs) and vendor rationalization (to increase purchasing power).

Third, Best Buy plans to reduce selling, general & administrative expenses by cutting redundant headcount and costs. In its last fiscal year, Best Buy exceeded its original cost reduction target of $725 million and achieved $765 million in cost savings.

While Best Buy's initiatives are encouraging, the fact of the matter is that Best Buy still has a long way to go when it comes to matching Wal-Mart's lean cost structure. To make things worse for Best Buy, Wal-Mart is moving aggressively to gain more market share in the consumer electronics space.

Recently, Wal-Mart has started to discount certain consumer electronic brands. Examples include 55-inch TVs below $1,000 and tablet PCs going for under $100. With net profit margins more than twice that of Best Buy, Wal-Mart has greater leeway in lowering prices to compete effectively.

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Source: Best Buy.

Credit and affordability
While most consumer electronics have become staples for consumers, these products remain a luxury for certain segments of the U.S. population. This is where the availability of credit helps to improve the affordability for lower-income consumers.

While Best Buy provides third-party financing options to its consumers, it doesn't have an in-house credit program targeting below average income customers like Conn's. As a result, Best Buy loses a significant chunk of customers with lower disposable income and poor credit histories.

In contrast, Conn's has a core and loyal base of customers with annual incomes of approximately $40,000 and credit scores below the national average, thanks to its 40 year old in-house financing program.

The results speak for themselves. An average Conn's customer tends to purchase a higher tier television set at above $1,000, while the average consumer will be content with one below $500. In addition, Conn's also has a high proportion of repeat customers, which make up about 71% of current credit balances.

There is significant demand for electronics from consumers who face affordability issues. Best Buy doesn't differentiate itself from retailers that similarly offer third party credit and is giving up this consumer segment to competitors like Conn's.

Foolish final thoughts
The future of Best Buy isn't promising. On one hand, Best Buy isn't as price competitive and cost efficient as Wal-Mart. On the other hand, Best Buy is missing out on the opportunity to capture a share of lower-income consumers, who can't afford to buy consumer electronics without credit, as it doesn't have an in-house credit program like Conn's.  

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Mark Lin has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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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