Best Buy's Dividend Increase Doesn't Make Sense

BBY Dividend Chart

BBY Dividend data by YCharts.

Best Buy (NYSE: BBY  )  on Wednesday announced that it would raise its quarterly dividend by 12%, from $0.17 to $0.19 per share. Although management explicitly cited the move as a sign of confidence in the company's future, investors should keep in mind that Best Buy still faces considerable challenges as online retailers such as (NASDAQ: AMZN  )  actively gain market share from brick-and-mortar stores in electronics retail. Maybe saving the cash would have been a better way to go.

Against the wind
Best Buy and other retailers focused on electronics are going through a remarkably difficult time. Electronics are particularly prone to showrooming, in which consumers test the products in a physical store before placing an order online -- often on Amazon -- for home delivery and competitively low prices.

Competitor RadioShack (NYSE: RSHCQ  )  this week reported a dismal financial performance for the quarter ended on May 3. The retailer announced big declines in both sales and earnings, and it faces significant financial pressure due to a highly leveraged balance sheet.

Total revenue declined 13.2% to $736.7 million during the quarter. Even worse, RadioShack delivered a worrisome drop of 14% in comparable-store sales versus the same period in the prior year. RadioShack also suffered from a falling profit margin, and its operating loss widened from $10.3 million in the same quarter of 2013 to $81 million in the last quarter.

Best Buy is not under the same level of financial stress as RadioShack, but the company is being materially hurt by Amazon and the online retail revolution. Best Buy announced a 3% decline in sales, to $9 billion, during the quarter ended on May 3, while global comparable-store sales fell 1.9%.

Sales in the U.S. fell 2.1% to $7.78 billion on the back of a 1.3% drop in domestic comparable-store sales. Domestic online sales increased by 29.2% versus the prior year, to $639 million, which was one of the brightest spots in the earnings report. However, online sales are already included in same-store sales calculations, so the increase was not enough to compensate for the decline in sales at physical locations.

Besides, if online is the name of the game in the industry, Amazon has a natural advantage, so Best Buy and other traditional electronics chains will be fighting an uphill battle against the online retail juggernaut.

On dividends and signals
In its press release, Best Buy was quite explicit about the reasoning behind the dividend increase: "Our decision to increase the amount of cash we are returning to shareholders is indicative of our improved cash position and our confidence in the cash-generating power of our multi-channel business model."

However, Best Buy still forecasts that sales will continue declining over the coming quarters. From the company's recent earnings release:

As we look forward to the second and third quarters, we are expecting to see ongoing industrywide sales declines in many of the consumer electronics categories in which we compete. We are also expecting ongoing softness in the mobile phone category as consumers eagerly await highly anticipated new product launches. Consequently, absent any major product launches, we are expecting comparable sales to be negative in the low single digits in both the second and third quarters.

Best Buy operates in a cyclical and very difficult environment, sales are declining, and management is not foreseeing a turnaround in the medium term. The company has embarked on an aggressive low-price guarantee program that requires Best Buy to match the prices offered by multiple competitors, including Amazon. This may be a necessity to compete effectively in the current industry environment, but it also means profit margins will remain under heavy pressure over the coming quarters.

The company has a healthy balance sheet, and there is no reason to believe the dividend will be financially unsustainable. But profitability is razor thin, and Best Buy could easily turn to a loss if the situation continues to deteriorate for the industry in general and the company in particular. Management should have waited for clear and sustainable signs of a turnaround before raising the dividend.

Foolish takeaway
Dividend increases make sense when a company's financial soundness is unquestioned and when it generates more than enough cash to operate the business and make the necessary investments to sustain growth. Best Buy still faces difficulties in turning the business around, so making growing capital distributions to shareholders does not seem like the best use for the company´s cash.

Are you ready for this $14.4 trillion revolution?
Have you ever dreamed of traveling back in time and telling your younger self to invest in Apple? Or to load up on at its IPO, and then just keep holding? We haven't mastered time travel, but there is a way to get out ahead of the next big thing. The secret is to find a small-cap "pure-play" and then watch as the industry -- and your company -- enjoy those same explosive returns. Our team of equity analysts has identified one stock that's ready for stunning profits with the growth of a $14.4 TRILLION industry. You can't travel back in time, but you can set up your future. Click here for the whole story in our eye-opening report.

Read/Post Comments (2) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On June 15, 2014, at 4:12 AM, Tuxster12345 wrote:

    Let's just call Best Buy's dividend increase what it is -- a bribe to shareholders.

  • Report this Comment On June 16, 2014, at 4:16 PM, RoscoePColetrane wrote:

    So let me see if I understand your logic...I walk into my local Best Buy. I find that laptop or tablet or game console or whatever. I compare it to others. I choose one that is best for me. I completely ignore their price match policy that's been in effect for over a year now and I run home, order it from Amazon, wait 2 to 3 days to get it then hope that there's nothing wrong so that I don't have to mail it back?

    Come on...please stop with this show-rooming nonsense. There are two issues for Best Buy.

    One, is the impact of price matching on margins. But let's be frank...having a coveted omni-channel distribution network does come with a cost and will ultimately benefit BBY. Case in point, on-line sales that have begun to incorporate ship-from-store increased a whopping 29%!

    Two, is the cyclicality (for lack of a better word) of the consumer electronics industry. Conveniently omitted from your article is that, according to the NPD Group, consumer electronic sales declined 2.6% in 1Q, far worse than BBY's comp sales decline of 1.3% implying that BBY actually gained market share during the quarter! As new products/upgrades are introduced later this year, we can expect sales at BBY to rise materially.

    One item consistently overlooked by you Motley Fool AMZN bulls is that there is a cost to AMZN in continually undercutting its competitors and thats its cash flow generation. Despite having higher 1Q sales of $19.7 billion (compared to BBY's $14.4 billion), net income attributable to shareholders is only $108 million compared to $461 million for BBY. Best Buy's business is still very profitably run as it generates tremendous cash flow to easily fuel its dividend increases.

Add your comment.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 2993627, ~/Articles/ArticleHandler.aspx, 9/3/2015 9:37:55 PM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

Andrés Cardenal

Andres Cardenal, CFA is a tenacious researcher of the best investment opportunities around the world. Andres is an economist and CFA Charterholder living in Buenos Aires, Argentina. Naturally flavored. Follow me on Twitter for more investment ideas:

Today's Market

updated 21 minutes ago Sponsored by:
DOW 16,374.76 23.38 0.14%
S&P 500 1,951.13 2.27 0.12%
NASD 4,733.50 -16.48 -0.35%

Create My Watchlist

Go to My Watchlist

You don't seem to be following any stocks yet!

Better investing starts with a watchlist. Now you can create a personalized watchlist and get immediate access to the personalized information you need to make successful investing decisions.

Data delayed up to 5 minutes

Related Tickers

9/3/2015 4:05 PM
BBY $36.72 Up +0.29 +0.80%
Best Buy CAPS Rating: *
AMZN $504.72 Down -5.83 -1.14% CAPS Rating: ***
RSHCQ $0.13 Up +0.02 +0.00%
RadioShack CAPS Rating: *