Best Buy (NYSE:BBY) is struggling at the moment. Ahead of Best Buy earnings on Tuesday morning, BBY stock trades at an 11-month low. Most of the pressure has come of late: Best Buy stock has dropped about 24% from August highs.
That might seem like a buying opportunity. Best Buy has essentially no peers left in electronics retailing. Fears of the “showroom effect” — customers going to Best Buy to inspect products and then ordering them from cheaper online retailers like Amazon.com (NASDAQ:AMZN) or eBay (NASDAQ:EBAY) — have been quieted. Same-store sales growth has accelerated nicely, from barely positive figures in FY15-FY17 (Best Buy fiscal years end in January) to 5.6% last year and a guided 3.5-4.5% this year.
I’m skeptical, however. I wrote a year ago that Best Buy’s business niche supported the price at which it was then trading: about $55. I still think that’s roughly the case. Recent numbers do look impressive. But longer-term headwinds remain. And a market clearly a bit more nervous about retail stocks is likely to punish any sign of weakness in Best Buy earnings on Tuesday.
Best Buy Earnings Could Be Good – and Still Risky
Analysts aren’t expecting much from Best Buy earnings. Consensus estimates project a 2.7% increase in revenue for the quarter, and ~10% earnings growth even with some help from tax reform. Q4 numbers are even more pessimistic, with a 4.5% revenue decline modeled in, albeit due solely to store closures.
Certainly, there’s room for Best Buy earnings to come in nicely ahead of expectations – both in terms of Q3 actuals and Q4 guidance. Comps have been strong for six quarters. Guidance shows management’s confidence in the second half as well. The competitive environment hasn’t really changed, either. Amazon still is Amazon, but there aren’t any new rivals out there.
In fact, if anything, Best Buy might get some help. The bankruptcy of Sears Holdings (NASDAQ:SHLD) could remove another (and desperate) competitor for the holidays. Toys ‘R’ Us has shut down. JC Penney (NYSE:JCP) is struggling. If consumers are going to buy electronics in a store — and economic numbers suggest they will — they’re going to buy them at a Best Buy.
The Long-Term Risks to Best Buy Stock
The question, then, is why Best Buy stock continues to fall heading into the report. Certainly, a weak broad market hasn’t helped. Walmart (NYSE:WMT), Target (NYSE:TGT), and even seemingly bulletproof Amazon stock have declined as well.
But I’d also point out that when it comes to BBY stock — and retailers on the whole — investors have benefited of late by looking past the current quarter and trying to “skate to where the puck is going, not where it is”. Retailers’ profits didn’t look terrible in 2015 and even 2016, but stocks started to plunge after the election ahead of a difficult holiday season. The group then rallied in mid- to late 2017, ahead of ‘omnichannel’ efforts to combat those competitive pressures.
Taking that forward view of BBY stock, there are some risks here. Prices in electronics continue to fall. A tie-up between Apple (NASDAQ:AAPL) and Amazon creates a new near-term threat. Best Buy has no rivals left — but it’s benefited for years now from the steady collapse of competition, ranging from Circuit City to Toys ‘R’ Us to myriad local and regional retailers. That tailwind is going to fade.
Meanwhile, this is a somewhat cyclical stock — consumers pull back on TVs and computers in a recession — and one tied at least in part to home spending. Those types of stocks have been absolutely hammered this year. A market nervous about cyclicals and big-ticket spending is going to sell BBY stock – and earnings may not fix that problem.
BBY Stock Out of Earnings
Given the chart, Best Buy earnings need to be something close to spectacular. Even that may not be enough. Investors are repricing BBY stock for limited growth going forward.
I don’t think that’s necessarily wrong — as I argued a year ago. Being a retailer of items whose prices steadily fall is difficult. There’s a reason why pretty much everyone else in the industry has gone out of business.
That doesn’t mean Best Buy is going out of business, of course. But it does put a ceiling on its growth expectations. Right now, investors are doing exactly that. And for Best Buy stock to rebound, Best Buy earnings are going to have to be strong enough to change their minds.
As of this writing, Vince Martin has no positions in any securities mentioned.