Best Buy Miss Puts Future on Layaway (Market Update)

Published Sept. 15, 2009 at 4:00 a.m.

Profits Take Hit, But Best Buy Raises Guidance

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Recent economic reports indicate that the recession probably ended over the summer, and consumers may finally start heading back to the malls this fall, providing retailers a much-needed sales lift. But will they open their wallets for big-screen TVs, home theater systems and video-game consoles — goods that can cause marital strife when household budgets are tight? That’s the question traders will put to Best Buy (BBY), which reported second-quarter results this morning. The company beat Wall Street revenue estimates but missed on earnings, reporting 37 cents a share for the quarter versus estimates of 41 cents. The firm raised the low-end of its guidance for the full year to $2.70 to $3.00 a share and will host a conference call this morning to discuss the results, ideally shedding more light on expectations for the upcoming holiday shopping season.

Like other specialty retailers, Best Buy has seen revenues and profits slump as consumers have cut back on non-essential spending. Sure, Americans still want that 52-inch flat-panel TV. But with nearly 10% of the country officially unemployed, most folks are holding off on big purchases. “Everything you see anecdotally is that consumers are saving more and not spending,” says Wedbush Morgan analyst Michael Pachter. Best Buy has been cutting costs to deal with the slump and has slowed the pace of new store openings. But it’s also been discounting TVs aggressively, pressuring profit margins. 

Best Buy has picked up sales from bankrupt rival Circuit City, but it’s also facing stiffer competition from Wal-Mart (WMT) and Target (TGT), which have beefed up their electronics departments with wider selections and new merchandising programs. Pachter says that Best Buy is competitive with the big discounters on price, offers a wider selection and beats them for customer service. But the company is also fighting online retailers, which tend to be less expensive if only because they often save consumers the sales tax. With households watching every penny, the online retailers could continue to win sales from Best Buy — a trend that may not relent even when the economy bounces back. “It’s a continuing headwind,” Pachter says.

IN OTHER NEWS:

• Fighting back against new U.S. tariffs on its tires, China unveiled data Tuesday showing that tire exports to the U.S. fell during the first half of the year, challenging accusations that China is flooding the market. LINK
• Kraft Foods (KFT) may sell assets like Maxwell House and Oscar Mayer to finance a takeover of Cadbury (CBY). LINK
• The recession caused the first worldwide contraction in assets under management in nearly a decade, according to a new report from the Boston Consulting Group. LINK

Photoshop Maker Looks for Clarity on Software Sales

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Just about anyone with an office job uses software made by Adobe Systems (ADBE) -- whether it’s the company’s ubiquitous Acrobat PDF Reader (downloaded more than 500 million times since 1993) or specialized creative products like PhotoShop or Illustrator. But Adobe has seen sales slow as media companies have cut back on its software suites. The firm is scheduled to report fiscal third-quarter results after the markets close today and its guidance could help reveal whether software spending is rebounding.

Wall Street isn’t looking for a blowout quarter. Analysts expect Adobe to report its fifth consecutive quarter with year-over-year revenue declines, posting earnings of 34 cents per share on sales of $686 million, according to Thomson Reuters. More telling will be whether Adobe raises guidance for its next quarter. Traders already seem to have concluded that it will. The company's stock has rebounded sharply off its March lows and is up 54% for the year. And it now trades at 20 times estimated 2010 earnings, a premium to other software companies.

The big question is whether Adobe can accelerate revenue growth fast enough to satisfy the Street. Thomas Weisel analyst Blair Abernethy wrote in a note last week that Adobe should benefit from a product upgrade cycle heading into 2010 and could see increased sales as consumers and businesses upgrade their computers with new Windows and Mac operating systems. He also writes that the recession “should help enhance” Adobe's sales with freelancers and other end-users who need to sharpen their skill in a tough jobs market. Whether those unemployed graphics designers and web editors can afford Adobe's software suites is another matter, of course. Look for the stock to trade heavily in advance of the earnings release after the close.

IN OTHER NEWS:

• Wholesale prices in the U.S. rose 1.7%, more than twice as much as forecast in August, according to a new government report. LINK
• Capital One Financial (COF) said U.S. credit-card defaults fell in August, suggesting that consumers' financial health may be improving. LINK
• Sales at U.S. retailers rose at their fastest pace in three-and-half years in August, according to new data out from the Commerce Department. LINK

Treasury Could Make Tidy Profit on Citigroup stake

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Governments aren’t known to be the savviest investors, but it looks like the U.S. could make a buck on its investment in Citigroup (C). The troubled bank, which has received over $50 billion in bailout funds, has approached the Treasury Department about raising capital to start paying back the government's stake, and Washington is receptive to the idea, according to news reports. The government owns 34% of Citi and could shed some or all of its 7.7 billion common shares in the fourth quarter (it would still hold preferred stock). The Treasury converted preferred shares into common stock at $3.25 a share, and at Monday’s closing price of $4.52, taxpayers are sitting on a paper profit of $9.8 billion.

Citi wouldn’t be the first big bank to repay its bailout funds. The Treasury has been allowing banks to return TARP money if they can prove they have adequate capital levels on their balance sheets and won’t need further assistance (remember the stress tests?). JPMorgan Chase (JPM), Goldman Sachs (GS) and Morgan Stanley (MS) repaid their TARP money over the summer and Bank of America (BAC) and Wells Fargo (WFC) have pledged to return their funds. Other banks are still paying interest on the preferred stock they issued to the Treasury in return for assistance. President Obama said yesterday that the government has earned a 17% return on its investments in bailed-out financial firms so far (though that doesn't include the losses it's likely to take on its stake in firms such as AIG (AIG)). And the U.S. isn’t the only one making money. Switzerland netted a tidy $1.1 billion profit on the sale of its 9% stake in UBS (UBS) a few weeks ago when it sold $5.6 billion worth of stock.

Does all this mean the U.S. banking industry is now hale and hardy? Not quite. While it's an encouraging sign that banks like Citi are repaying their bailout funds, financial firms are still sitting on billions in problem loans and aren’t anywhere close to writing off all their bad assets, according to analysts. Losses in the commercial real estate market are rising and could be the next big wave of defaults. Plus, regulators don’t want banks to issue more debt to satisfy capital requirements, meaning banks will have to issue stock, diluting shareholders. The initial plans for Citi are for a joint-stock offering with the government, with the bank issuing up to $5 billion in shares while the government sells its stake, The Wall Street Journal reported, citing anonymous sources...Either way, common shareholders are likely to lose as the new stock hits the market.

IN OTHER NEWS:

• San Francisco Federal Reserve Bank President Janet Yellen said in a speech yesterday that the recession probably ended over the summer, but she expects the economic recovery to be "tepid" and slow. LINK
• German investor confidence rose to a three-year high in September, according to the ZEW Center for European Economic Research. LINK
• The British economy has probably turned a corner and started growing again, said Bank of England Governor Mervyn King, but the recovery will be slow and deflationary pressures remain a risk. LINK

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