EUR 850.00 For Business Accounts Only

Morningstar | Best Buy Starts Fiscal 2020 on Strong Note, but Tariffs Likely to Curb Near-Term Upside Potential

No-moat Best Buy's solid start to fiscal 2020--comps of 1.1% (versus guidance of 0%-1%, 40 basis points of gross margin expansion to 23.7%, and adjusted EPS of $1.02 versus guidance of $0.83-$0.88)--should have been the top story coming out its first-quarter update, but questions about the impact of China import tariffs dominated headlines. Best Buy noted that it has been able to absorb the 10% increase on List 3 imported goods--which represented 7% of its cost of goods sold and largely accessory products--since it went into effect last September through early procurement and working with vendors to source from other regions. However, management also noted that the 25% rate that went into effect on May 10 will result in higher consumer prices, which we expect to impact higher-ticket product demand.

While tariffs are the key unknown for the year, we believe Best Buy's strong first-quarter performance shouldn't be glossed over. We still identify fewer opportunities for near-term comp upside due to tariffs as well price compression in certain categories (4K and gaming), extended mobile phone replacement cycles, and new competitors to Best Buy's services (Total Tech Support/GreatCall), but we still see guidance calling $42.9 billion to $43.9 billion in revenue, flat enterprise operating margins of 4.6%, and adjusted EPS of $5.45-$5.65 as reasonable targets for the year. Our confidence stems from new sales strategies such as lease-to-own, gross margin benefits from the continued sales shift to services, and other merchandise margin optimization efforts, which should be sufficient to drive results toward the high end (or slightly ahead in the case of EPS) of guidance for the year.

There is no change to our $62 fair value estimate. Shares appear fairly valued--but still a solid income play with a $2.00 per share dividend and potentially $1 billion in buybacks planned this year--but we believe better entry points may arise if tariffs overshadow near-term fundamentals.