Best Buy (BBY) was the third-best performing S&P 500 stock in 2013, up 237%. Only Micron Technology (MU) and Netflix (NFLX) did better.
Can it keep it going in 2014? I doubt triple-digit returns are in the cards but another year of gains is very doable. Although most analysts are fairly bullish on BBY stock there are some who doubt that it has anything left in the tank.
I’ll look at some of the reasons for these doubts and explain why I’m still a big believer in the company despite these questions.
BBY Stock Doubts
Brian Yarbrough, analyst with Edward Jones & Co., believes BBY is rebuilding earnings on the back of internal cost-cutting and not by growing its business. Further, if Amazon (AMZN) continues to lower its prices and BBY follows suit, the cost-cutting is eventually going to run out of steam, as will profitability.
Dan Wewer of Raymond James said in November after its Q3 results that BBY needed both an improvement in its same-store sales growth and margins in order for BBY stock to outperform its peers. But he didn’t expect that to happen over the holidays. We’ll find out Feb. 27 when BBY releases Q4 earnings.
Jim Cramer sees Best Buy stock cooling off. In his Mad Money show on Jan. 3, Cramer said the following about BBY stock:
“The problem here is that the stock has pretty much won over everyone who had been a skeptic. Now the big analyst bashers are all backers and when that happens it’s better to have one foot out the door than both feet in…”
He went on to state that he felt that it wasn’t a buy until its price had dropped by a meaningful amount. So while he’s not an outright bear he wouldn’t own it at current prices.
That brings me to the ultimate bear: Wedbush Securities’ Michael Pachter who said in a December interview with Benzinga, “I literally think you’re gonna see Best Buy gone in five or six years.” Pachter’s argument is a simple one — Amazon will crush them with low prices despite Best Buy’s price match because it’s so much more convenient. It’s a commonly touted argument against owning BBY stock in the long-term.
But before you rush out and sell BBY, remember that this is the same Michael Pachter who questioned Hubert Joly’s experience when he was hired as CEO in August 2012. Pachter, as is common with analysts, is now doubling down on his bet unable to admit that his assessment of Joly was 100% wrong.
Joly was a director of Ralph Lauren (RL) for three years prior to his hiring with 30 years business experience much of it as a turnaround specialist. One of his first acts as CEO was to hire Sharon McCollam, one of the best CFOs in retail or any industry for that matter — Joly knows what he’s doing. Pachter’s letting his pride get in the way.
It’s Just Noise
Best Buy’s future is clearly still murky, and Amazon’s not going away. That said, many people (myself included) believe it’s on the right side of its turnaround.
During the holiday season, BBY was hunting for market share and willing to sacrifice profit margins to get it. Fourth-quarter results will likely be disappointing when it comes to profits, but I’d be very surprised if same-store sales in its US stores weren’t better than the 0.9% achieved in holiday 2012.
In November I did a pre-BBY earnings rundown that ended with my bold prediction that BBY stock would hit $60 (I must’ve had malaria) by the end of January. Best Buy reported Q3 earnings before the markets opened Nov. 19. With an extremely promotional retail environment on the horizon, BBY cautioned investors that profits would be lower as a result.
That news knocked the stock down 11% to below $39; it currently trades a couple bucks lower. Clearly, with Q4 earnings not out until Feb. 27 and likely to be mediocre, there’s no hope of reaching that number in the near term. However, I think it’s entirely possible to reach $60 by the end of the year. But all bets are off if it doesn’t deliver a Q4 same-store sales increase at its U.S. stores. That’s a must.
Just as the same-store sales increase at its U.S. stores is critically important, it’s also helpful if its online business shows continued signs of improvement. In Q3, BBY generated a 15% increase in its online sales year-over-year in the U.S. I’d seek out that number as well when earnings come out.
I can’t say for certain how much of Best Buy’s cautionary stance in November is already baked into its price. BBY stock has lost about 13% so far, and I could easily see another double-digit drop once earnings come out.
I like BBY stock for the long term. However, you might consider selling February or even March $32 puts to generate some income while saving yourself some losses from buying today should the dip actually take place in March. Normally, I’m not a big advocate of options, but this is one time where it makes sense.
Regardless of what happens the next two months it should be very interesting for Best Buy and BBY stock.
As of this writing, Will Ashworth did not own a position in any of the aforementioned securities.