Even in quarantine and in a recession, there are a few things that many of us need to buy. That definitely includes electronic devices, which are necessary for working, learning, and socializing from home. However, many people will also be doing home workouts, running outside, or wearing casual shoes around the house, which should also make this period viable for sneaker sales as well.
Yet between sneaker slinger Foot Locker (NYSE:FL) and electronics specialist Best Buy (NYSE:BBY), investors should definitely gravitate toward the latter. Not only was Best Buy a stronger company heading into the crisis, but its relative strength over Foot Locker is also only likely to accelerate in the months and years ahead.
Both companies reported their first-quarter results last week, illustrating the key differences in their business models, sensitivity to stay-at-home orders, and giving a sneak peak into why Best Buy is the more solid pick of the two.
Best Buy's digital offerings are soaring
During the May quarter, in which Best Buy, Foot Locker, and other retailers were forced to shut their doors to customers, Best Buy's business resilience was clearly on display. Best Buy's domestic online sales accelerated to a whopping 155.4% growth rate, accelerating from just 14.5% in the year-ago quarter, making up 42.2% of sales, versus only 15.4% of sales a year ago.
When the world went all-digital, Best Buy was ready, having reaped the benefits of its digital-based business transformation initiated years ago by then-CEO Hubert Joly and continued today by current CEO Corie Barry. Even with Best Buy switching to a curbside-only pickup model halfway through the quarter ended on May 2, the company still retained 81% of its sales from the year-ago period once stores were closed to foot traffic, showing the resilience of Best Buy's business model and product offerings even in the COVID-19 era. Even though Best Buy's revenue declined 6.7% during the quarter, that was far, far better than the 43.4% plunge in sales seen at Foot Locker.
Those two wildly different numbers suggest that Best Buy's business is much better equipped to handle the coronavirus era than its rival Foot Locker. While Foot Locker does have its own digital offerings, judging by the first-quarter results, there are still many other digital alternatives available for customers to acquire sneakers online.
Could Nike, Adidas go more DTC?
Of course, Foot Locker hasn't been asleep at the wheel in terms of digital. It's just that Foot Locker's core competence is as a brick-and-mortar retailer, not an e-commerce player. Last year, Foot Locker's direct-to-consumer revenue grew only 4.9%, making up 16% of sales. According to Digital Commerce, Foot Locker's digital growth lagged behind the overall industry in 2018, and the retailer even lags behind key vendors Nike (NYSE:NKE) and Adidas (OTC:ADDYY) in terms of overall digital ales.
In fact, Susquehanna analyst Sam Poser predicts that these key brands could double down on their own digital direct sales amid the coronavirus pandemic, potentially cutting Foot Locker out of the customer relationship even more, saying in a recent note:
The Covid-19 crisis has led to key brands, such as Nike, to hone their owned digital DTC platforms and add many customers to their databases. FL's increased e-commerce business has also likely led to growth of its own customer data base as well. The question of how much of Nike's marketing prowess will be used to drive consumers to Foot Locker, rather than using its newfound strength to directly drive sales to Nike stores, remains. Prior to the crisis, we were of the mindset that Nike needed FL to reach the full breadth of Nike's potential customers. Today, while Nike still needs FL, this need is likely to a lesser extent than it had been prior to the crisis, especially if it takes a long time for consumers to return to the mall environment.
Of course, the threat of key brands going around third-party retailers is also a concern for Best Buy, but with big-ticket electronics requiring somewhat more hand-holding and inventory being harder to manage internally, direct electronics sales appear less of a threat to Best Buy than direct shoe sales are for Foot locker.
A services business is key
In addition to having a more resilient product offering and digital channel for the COVID-19 pandemic, Best Buy also has a services component to its business that Foot Locker doesn't have. The company launched its total tech support feature back in 2018, offering its customers service for all of a household's electronics for a flat subscription fee.
Obviously, your sneakers don't exactly need high-touch, after-purchase support once you buy them, and your shoes are not exactly essential for communicating with the outside world. And while Best Buy's services revenue took a 16.8% dip in the first quarter because technicians weren't able to enter people's homes and in-store consultations were eliminated, as more and more of the country opens up, I expect services revenue not only to increase, but for Best Buy's services to also more firmly cement its overall customer relationships, benefiting other product categories as well.
Digital wins again
Although many brick-and-mortar retailers are quite cheap today, there's a reason for that, as the long-term trends toward a more digital economy should only be turbocharged amid coronavirus, benefiting Best Buy more relative to apparel retailers such as Foot Locker. It's perhaps not surprising that while Best Buy is maintaining its 2.8% dividend, Foot Locker just suspended its dividend indefinitely as it battles the severe foot traffic slowdown.
While the pandemic certainly isn't Foot Locker's fault, these larger structural changes are more than even the most skilled management team can alter. That's why Best Buy is the better retail stock today.