Best Buy Losing its Cushion

StarTribune.com
Chris Serres

In recent years, Best Buy Co. Inc. has outperformed and outmuscled just about every retail chain still standing in the consumer electronics market, from Circuit City Stores Inc. to CompUSA.

But now, the Richfield-based retailer faces a growing threat from behemoth Wal-Mart Stores Inc. in two of its key categories: big-screen televisions and computer service.

Wal-Mart this month quietly began rolling out computer-service counters at 15 of its stores in the Dallas area. A Wal-Mart spokesman calls it a "pilot," but analysts believe the Bentonville, Ark.-based retailing giant may be trying to create its own version of Best Buy's highly successful Geek Squad.

Also worrisome, analysts say, is Wal-Mart's aggressive push into flat-panel television sets -- an area that has been a key sales driver for Best Buy.

In recent years, Wal-Mart has redesigned the television areas of its stores (what Wal-Mart officials call "the wall of eyes"), and dramatically widened its selection of flat-panel TVs to include more brands. Consumers responded, and sales of flat-panel TVs grew at double-digit rates in the past four months at Wal-Mart's established stores (those open at least a year).

The intensifying competition from Wal-Mart is just one reason -- along with a general trepidation concerning consumer spending in a slowing economy -- that investors have been unloading Best Buy stock, analysts say. Company shares declined 25 percent this year, and currently are trading within about $2 of the stock's 52-week low of $36.10, set July 15. Best Buy now trades at just 11.9 times trailing one-year earnings-per-share -- a 16 percent discount to specialty retailers as a whole.

"A lot of the fears and concerns that are out there are already reflected in the stock price," said Colin McGranahan, a retail analyst at New York-based Bernstein Research, which has a "market perform," or "hold," rating on the stock.

Things Heating Up for Best Buy

And recent consumer surveys by ChangeWave Research, an investment intelligence firm based in Rockville, Md., suggest that Wal-Mart is beginning to pick up some market share from Best Buy.

ChangeWave surveyed 4,525 consumers this month through an online questionnaire, asking people where they are most likely to shop in the next 90 days. Thirty-nine percent said they expected to shop at Best Buy for home entertainment and computer/networking products, down from 45 percent in a February survey. Meanwhile, the percentage of consumers who said they planned to shop at Wal-Mart for these items rose to 15 percent, from 12 percent in the earlier poll.

"This suggests the next 90 days will be very, very tough for Best Buy," said Paul Carton, director of research at ChangeWave. "There is a perception that people are getting a bargain at Wal-Mart, and that helps as the economy weakens and price becomes more of a determining factor" in driving retail sales.

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Analysts who follow Best Buy keep a close eye on TV sales, because they account for about 20 percent of the company's overall sales. Recent price cuts at Best Buy and elsewhere suggest that the country's love affair with large, flat-panel TVs may be waning, and that sets of all types are becoming commodities. Historically, the sales growth of new devices -- from black-and-white TVs to VCRs -- slows once they achieve a household penetration of 20 percent, according to a report by Goldman Sachs in New York City. Currently, the household penetration of flat-panel TVs is more than 30 percent, Goldman Sachs estimates.

"Importantly, Wal-Mart is pressing ahead with broader flat-panel TV assortments just as prices are moderating toward levels appealing to middle-income customers," Goldman Sachs analyst Matthew Fassler wrote in a July 17 research note, in which he reiterated a "sell" rating on Best Buy stock. "Increased prominence for the mass market is likely to eat into specialty retail market share, and to cap profitability," Fassler said.

As for Wal-Mart's foray into computer troubleshooting, few industry observers see it as an imminent threat to Geek Squad, which has more than 12,000 techies nationwide and a well-established brand. Even so, Wal-Mart has a history of turning pilot programs into large-scale initiatives. In 1998, Wal-Mart tiptoed into the financial services business by offering money orders at select stores. Today, Wal-Mart stores sell so many financial products, from cashing checks to paying bills, that some banks have cried foul.

"It seems a little bit out of character" for Wal-Mart to provide tech support, said Brady Lemos, a retail analyst at Morningstar in Chicago. "But I wouldn't bet against them.

"Wal-Mart certainly has the resources to make it work."

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