Is Best Buy Back?

Best Buy (BBY) shot up nearly 10% in Tuesday trading thanks to beats on both the top and bottom lines for its second quarter, putting BBY shares near tripling territory for the year-to-date.

If you’re like most investors, you’ve gotta be wondering what the heck is going on.

A year ago, Wedbush analyst Michael Pachter lambasted newly hired CEO Hubert Joly, saying the following about the former hotel and hospitality executive: “We find Mr. Joly’s resume unimpressive…He lacks sufficient experience to engineer a turnaround at Best Buy.”

Pachter’s insightful words makes me think of the movie Good Will Hunting when Will Hunting boasts about getting Skylar’s phone number, saying, “Well, I got her number. How do you like them apples?”

Joly could boast right now, but he won’t because the man with supposed little experience knows the game is far from over:

The Past

When Joly was hired last August, he admitted it would take several months to learn about Best Buy’s business. By December, he had put together a game plan including the hiring of former Williams-Sonoma (WSM) executive Sharon McCollam as its CFO. Joly’s plan included six priorities, with e-commerce — an area it has woefully ignored — topping the list.

Anyone who follows Best Buy knows that the biggest threat to its existence are online-only retailers such as Amazon (AMZN). The term “showroom” had become Best Buy’s calling card — and a bad one at that.

To change this reality, Best Buy needed to become price competitive. So in March, BBY introduced “price matching,” which allows customers to go into their local store and get the same price they would pay at Amazon and 18 other online retailers. There are some caveats to this arrangement, but it has generally been well-received.

The other sore spot has been Best Buy’s e-commerce capabilities. It matters little that it offers price-matching if it can’t deliver the product. In the past, it was losing sales on between 2% and 4% of its online traffic each week because of out-of-stock inventory at its distribution centers. To rectify this, it has initiated a 50-store pilot program that turns the locations into additional fulfillment centers for the company. By Thanksgiving, it hopes to have a total of 200 stores handling online fulfillment.

This should definitely help increase Best Buy’s online sales, which accounts for 6.1% of its overall domestic revenue.

The Present

There definitely was some good news in Best Buy’s Q2 results. But once you subtract the $264 million legal settlement it will receive from several defendants regarding its lawsuit over price-fixing on LCD panels, its bottom line isn’t nearly as impressive. Still, it’s positive, and the trend is what counts in this situation.

Highlights of BBY’s second quarter for fiscal 2014:

  • International comparable store sales declined 1.8% vs. an 11.3% decline in Q2 2013.
  • Domestic comparable store sales declined 0.6% vs. a 3.3% decline in Q2 2013.
  • Comparable online sales increased 10.5% (over 16% when you include gaming pre-orders) year-over-year.
  • Online sales were 6.1% of domestic revenue vs. 5.3% in Q1 2014.
  • Adjusted non-GAAP operating income as a percentage of revenue increased 40 basis points in Q2 2014 to 2.6%.
  • Better-than-expected non-GAAP EPS of 32 cents — 23% higher than in Q2 2013.
  • Achieved $65 million in annualized cost savings, bringing its nine-month total to $390 million, or more than halfway to its $725 million objective.
  • Sold its 50% interest in Best Buy Europe for $526 million.
  • Reduced debt by $271 million or 12.4% year-over-year.
  • Delivered $19 million in positive cash flow from operations in the first six months of 2014 compared to -$222 million in the corresponding six months in 2013.

These 10 points clearly indicate Best Buy’s core business is getting stronger. If it continues to extract savings from its operations while delivering a much better customer experience in-store and online, shareholders can keep expecting good things from BBY.

The Future

Anyone who invests in the retail industry — especially in a business as competitive as electronics — knows that good times don’t last. There are going to be plenty of bumps in the road for Joly et al. as they continue to deliver on Best Buy’s Renew Blue initiatives. If you’re expecting perfection, you’ve come to the wrong place.

On the whole, however, you have to admit that Joly has done everything possible to get the company moving in the right direction. He even scrapped its popular Results-Only Work Environment (ROWE) in March to get employees back in the office and working together to fix a company that was obviously broken.

As a freelance writer, I have a very flexible work arrangement where I can work wherever and whenever I want; as a result, I completely support the ROWE concept in general terms. But it just doesn’t work in this industry. My wife has almost 20 years experience in retail store operations, and I’m sure there are times she would rather be at home than in the field — but that’s just not possible. Shutting down the program creates an equality between head office and store operation employees. You’d be surprised how many companies inadvertently create a class system within their organizations. This had to stop.

Ultimately, Best Buy still might not get back to its heyday when it routinely was generating operating margins above 5%, but its Q2 results are evidence enough that the company is doing its darnedest to not become a footnote in retail history.

For that, I credit Best Buy’s board for recognizing they needed to hire someone a year ago who had turnaround experience, understood people and was local to the Minneapolis area and could get started right away.

Bottom Line

Is Best Buy back? Not all the way, but far enough along to know it’s on the right side of its turnaround.

How do you like them apples?

As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.

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