2023-10-12 14:00:00 ET
Summary
- With the pandemic behind us, it is unsurprising that BBY has reported a normalization trend towards the pre-pandemic averages, with two more quarters left to lap the tougher YoY comparison.
- Despite so, we believe that the management has executed brilliantly, with stellar cost optimizations and great focus on profit margins, while delivering impressive shareholder returns at the same time.
- Nonetheless, there may be more headwinds to its prospects, attributed to the elevated interest rate environment and the restart of the US federal loan repayment from October 2023.
- The management also hinted a normalization trend in its net credit losses, with it "already higher than it has been the last few years" and potentially increasing beyond pre-pandemic levels moving forward.
- While we may rate BBY as a Buy, investors may want to size their portfolios according to their risk appetite and portfolio allocation, with recovery prolonged through 2026.
The BBY Income Investment Thesis Remains Robust Here
Best Buy ( BBY ) is an American consumer electronics retailer that has obviously benefitted from the pandemic, as remote work and the housing boom contributed to its stellar top and bottom line expansions then.
For example, the retailer reported FY2022 (CY2021) revenues of $51.76B (+9.5% YoY) and GAAP EPS of $9.84 (+43.9% YoY), well eclipsing its FY2020 (CY2019) levels of $43.63B (+1.8% YoY) and $5.75 (+10.6% YoY), respectively.
These were mostly attributed to the robust consumer demand across most merchandise, particularly in the computing/ housing appliances and gaming products for both FY2022 and FY2021 .
Then again, with the consumer demand dramatically pulled forward during the hyper-pandemic period, it is also unsurprising that BBY has reported underwhelming top-line of $9.58B (+1.2% QoQ/ -7.2% YoY) in FQ2'24, impacted compared to the peak of $16.93B in FQ4'21, but nearer to the FQ2'20 levels of $9.53B.
These numbers suggest a normalization trend towards the pre-pandemic levels, with two more quarters left to lap the tougher YoY comparison.
Despite the demand correction, BBY has yet to embark on overly aggressive price actions as well, as demonstrated by its stable gross margins of 23.2% (+0.5 points QoQ/ +1.1 YoY) and stellar inventory management at $5.65B (+8.4% QoQ/ -6.4% YoY) in the latest quarter.
Barring the FQ4'22 quarter when the management cleared $2.59B worth of inventories at promotional prices , resulting in impacted gross margins of 20.2% then, it appears that things have already normalized now, nearer to its FY2020 (CY2019) inventory levels of $5.17B (-4.2% YoY) and gross margins of 23% (-0.2 points YoY).
Despite the rising inflationary environment, the management has also displayed great cost optimizations in its operations, with stable operating expenses of $1.85B (inline QoQ/ YoY) in the latest quarter, similar to its pre-pandemic ranges.
On the one hand, BBY's balance sheet has remained stagnant over the past few years, with its long-term debts stable at $1.12B, similar to its pre-pandemic levels.
On the other hand, the long-term shareholders are likely encouraged by the management's laser focus on shareholder returns, with a 5Y Dividend Growth CAGR of +16.59% compared to the sector median of +7.10%.
This is on top of the sustained share repurchases worth $4.98B, with -43.4M of shares retired since FY2019, or the equivalent 16.5% of its overall float.
With the BBY stock being sustainably profitable with FCF generation of $1.83B (+122% sequentially) over the LTM, while being shareholder friendly, we believe its prospects as an income stock remains more than decent moving forward.
However, interested investors must note that the normalization in its top and bottom lines may also flow through its dividend growth moving forward, with things likely to moderate compared to the hyper-pandemic levels.
As a result, investors must also temper their expectations ahead, especially since the consensus forward estimates that BBY may record an impacted top and bottom line CAGR of -0.8% and +2.4% through FY2026, compared to its normalized levels of +2.7% and +12.1% between FY2017 and FY2023, respectively.
So, Is BBY Stock A Buy , Sell, or Hold?
BBY Valuations
As a result of its normalized growth trend, we believe that the moderation observed in BBY's valuations is to be expected, with its FWD P/E of 11.03x nearing its pre-pandemic averages of 11.80x.
Based on the consensus FY2026 adj EPS estimates of $7.60 and its FWD P/E valuations, we are looking at a long-term price target of $83.82, implying a more than decent upside potential of +19.3% from current levels.
BBY 5Y Stock Price
The BBY stock has also lost much of its hyper-pandemic gains, with it currently retesting its critical support levels of $70 at the time of writing.
Depending on how the market sentiments develop moving forward, we believe that there may be more headwinds to its prospects, attributed to the elevated interest rate environment and the restart of the US federal loan repayment from October 2023 onwards.
While BBY has not disclosed its net credit losses, nor does it plan to do so, during the FQ2'24 earnings call, the management has already hinted a normalization trend to its FY2020 (CY2019) levels, with the losses " already higher than it has been the last few years" and potentially increasing beyond pre-pandemic levels moving forward.
The same pessimistic sentiments have also been mirrored by multiple retailers, including Macy's ( M ) and Nordstrom ( JWN ), with bad debts and credit card delinquencies already above pre-pandemic levels.
With these headwinds potentially extending through 2024, we may see many retailers' prospects impacted, as expounded by Adrian Mitchell, the CFO of M, in the recent earnings call:
While we have seen an increase in revenues as interest rates have risen, that has been more than offset by higher bad debt assumptions and write-offs. These bad debt assumptions and write-offs are the result of rising delinquencies, which leads to higher net credit losses over time and contributes to increased bad debt within the portfolio. (Seeking Alpha).
In addition, BBY investors must also note that the impacted housing market in the US may trigger further headwinds to its declining FQ2'24 comparable sales for housing appliances and home theaters.
For example, the 30Y National Fixed Rate Mortgage Average remains elevated at 7.49% by October 05, 2023 (+0.59 points MoM/ +0.83 YoY) compared to the 2019 average of 3.8%.
As a result, it is unsurprising that most homeowners are staying put, with 82.4% of all American homeowners reporting an average fixed-rate mortgage rate of well below 5%.
With the Fed expecting to achieve its target inflation rate of 2% only by 2026, we may see the higher interest rate environment and tightened discretionary spending also continue for a little longer, with "2023 (also) on track to be the worst year for global smartphone shipments in ten years."
While BBY expects to benefit from the tech product refresh cycle in H2'23, we believe the stock may continue trading sideways at best, if not further slide to potentially retest its next support levels of $58s, implying an -17.4% downside from current levels.
Therefore, while we may rate the stock as a Buy, investors may want to size their portfolios according to their risk appetite and portfolio allocation, adding according to their dollar cost averages.
We expect the BBY stock performance to potentially underwhelm in the intermediate term before recovering along the macroeconomic outlook and consumer sentiments by 2026, if not earlier. Therefore, the stock is also only suitable for patient income investors, who are willing to wait out a few years of uncertainties.
For further details see:
Best Buy: This Dip Is Only For The Brave And Patient