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Is Best Buy Losing its Edge?

By: Trefis
Posted: 1/19/2011 9:45:00 AM
Referenced Stocks: BBY;COST;GME;RSH;WMT

Best Buy ( BBY ) is a specialty electronics retailer that competes with general retailers like Wal-Mart ( WMT ) and Costco ( COST ) as well as other specialty retailers like GameStop ( GME ) and Radio Shack ( RSH ). Our price estimate for Best Buy stands at $38.48 , which is about 8% above market price.

We estimate that 70% of the company's value comes from its Best Buy stores in the U.S. The company recently reported its December sales, which despite being in line with expectations, were nevertheless disappointing. The U.S. business has been affected more as domestic (U.S.) monthly revenues declined by 3.2% year-over-year (YOY) in December vs. a 4.5% increase for the international segment. Monthly domestic comparable store sales were down 5% YOY vs. roughly flat for international operations. This result was expected as the company has suffered market share declines and pressure from an unfavorable inventory mix during the holiday season, as we've previously discussed ( Best Buy Inventory Levels Could Prompt Discounting, Putting Pressure on Profit Margins ).

While holiday shopping and inventory mix could challenge Best Buy over the short-term, the company could also be experiencing early signs of more long-term concerns.

Does the Proliferation of Smartphones Create Long-Term Challenges for Best Buy ?

Best Buy specializes in electronics, unlike Wal-Mart which sells almost all kinds of goods. Its differentiating factor is its support service and product expertise from salespeople. Customers often choose Best Buy over discount retailers with the expectation of receiving help in making more informed decisions regarding products featuring cutting-edge technology. However, systematic shifts in consumer purchase patterns could erode this advantage.

With the surging proliferation of smartphones and devices that allow users to quickly search product ratings and rankings from any location, customers now have a sea of resources at their disposal. The development reduces customer dependence on expert salespeople to navigate a variety of television, tablet, and smartphone options. Any customer interested in a product can now pull out their smartphone and instantly compare prices and functionality without waiting for help from the store's sales staff. As smartphones continue to penetrate the mobile market, Best Buy's edge could come under pressure.

But Best Buy's advantage goes beyond product expertise. The retailer also tends to be the first destination of product releases, attracting early adopters with its initial exclusivity. However retailers like Wal-Mart are making efforts to close this gap as well. There was a time when Apple's (AAPL) iPhone was only available at specialty retailers like Best Buy (apart from AT&T and Apple stores). However, the newest model (iPhone 4) is now available at both Wal-Mart and Best Buy stores.

These trends could give Best Buy fits beyond the recent holiday season struggles, and hinder growth in recorded revenue per square foot. The chart above highlights how changes to this metric could affect the company's stock value.

While we remain bullish on valuation for Best Buy stock, we note that accelerating shifts in consumer purchase habits, along with increasing pressure from competitors, could produce downside to our base forecasts.

You can see the complete $38.48 Trefis price estimate for Best Buy's stock here.