What Makes Best Buy a Buy
By Sam Stovall
On Aug. 6, Amrit Tewary, S&P's Household Durables and Consumer Electronics analyst, upgraded his investment opinion on shares of Best Buy (BBY ) to 5 STARS (buy) from 4 STARS (accumulate). The reason? Tewary believed that the retailer's recent share-price weakness offered an attractive buying opportunity.
After taking note of the upgrade, I then saw that despite Best Buy's pullback prior to Aug. 6, the S&P Computer & Electronics Retail subindustry index became the newest member of the -- the list of industries with top S&P Relative Strength rankings -- and decided this could be a story worth telling. (Best Buy shares have recovered nicely in the past few trading days, as the company raised its earnings-per-share outlook for the current quarter on Aug. 7. S&P maintains its buy rating.)
Tewary's near-term investment outlook for the group of computer and electronics retail stocks that he covers is generally neutral, reflecting current valuation levels, company-specific factors, the extent to which new products or technologies are likely to be fueling near-term sales and profits, and the prospect of profit margin pressure.
Over the long term, he expects these retailers to benefit from a shift toward consumers using digital products and services. He warns that investors should keep in mind that these stocks can see sharp, relatively quick price movements.
Tewary expects that further development and acceptance of digital products will boost future sales of consumer electronics. As new products are introduced, he sees inventory management and product mix -- with the desired outcome that higher-margin items account for a greater proportion of sales -- becoming increasingly important in determining which retailers are the most successful.
Looking forward, the analyst anticipates a growing convergence between computers, TVs, cameras, and telecom equipment. This should include portable devices that make it increasingly easy to access information and entertainment.
As to Internet's impact, a growing availability of entertainment to download at home is likely to hurt long-term sales of prerecorded disks and cassettes at stores, in S&P's view. Tewary believes that the extent that the Net is used as a medium for downloading or distributing recorded entertainment is likely to depend, in part, on the pace at which consumers switch to high-speed access via cable modems and digital subscriber line service.
Also, he expects that retailers will have increasing opportunities to sell devices that play downloaded content and possibly to sell new subscription services for music and video.
Tewary views Best Buy as the best-positioned and most strategically focused retailer in S&P's consumer-electronics group. He sees it benefiting from steps to boost productivity and growth in key digital product categories. As of Aug. 11, the shares traded at about 19.5 times S&P's fiscal 2004 (ending February) EPS estimate of $2.45 -- a discount to the average historical price-earnings ratio of 23.
Besides Best Buy, other members of this subindustry index include Circuit City Stores (CC ) and Radio Shack (RS ), each of which is ranked 3 STARS (hold). Ultimate Electronics (ULTE ), another group member, doesn't carry an opinion from S&P.
Industry Momentum List Update
For regular readers of the Sector Watch column, here's this week's list of the 11 industries in the S&P Super 1500 with Relative Strength Rankings of "5" (price performances in the past 12 months that were among the top 10% of the industries in the S&P 1500) as of August 8, 2003.
* S&P's stock appreciation ranking system for the coming 6- to 12-month period: 5 STARS (buy), 4 STARS (accumulate), 3 STARS (hold), 2 STARS (avoid), 1 STAR (sell).
Stovall is chief investment strategist for Standard & Poor's