Best Buy shares drop 15% after disappointing quarterly report

Shares of Best Buy plunged 15 percent Tuesday, after the retailer's quarterly report showed a drop in profit.

Analysts say the results show Best Buy needs to transform itself to better compete with heavyweight rivals like Amazon, Walmart and Target.

For the three months ending in November, sales at Best Buy stores open for at least 14 months — a key benchmark — rose very slightly. But the report shows Best Buy's net income fell by 29 percent, earning $154 million during the quarter.

CEO Brian Dunn tried to put a positive spin on the quarter, which included the hugely important day after Thanksgiving, Black Friday.

"While it's still early in the holiday season, we're pleased with our start," Dunn said. "We're excited about momentum we've seen in hot products like mobile phones, tablets and e-readers. And we remain confident about our ability to execute on our strategy and meet our earnings outlook."

Dunn said Best Buy achieved Black Friday records for customer traffic, sales and transactions. And Best Buy's website was the third most visited website in the country on Black Friday, he said.

But analysts said Best Buy had to cut prices to draw customers and boost sales, and that hurt profits.

"The average transaction size was down quite a bit and there was a contraction in gross margins, at least domestically, which suggests that the company was giving up a lot to drive people into the stores," said R.J. Hottovy, a retail analyst for Morningstar.

Analysts say it's getting harder and harder for Best Buy to keep up sales and profit margins. Amazon and WalMart are increasingly selling more electronics, and customers are using Best Buy as showroom to check out products and then buy them online for less.

John Tomlinson at ITG Investment Research in New York says it looks like Best Buy may need to reduce the size of its stores more than the 10 percent that has been discussed.

"A lot of the square footage in the center of the store has been dedicated to DVDs and music, which is a very tough and declining category," Tomlinson said.

When Best Buy outlasted old rivals such as Circuit City and CompUSA, some industry observers thought Best Buy would reign supreme in consumer electronics. No such luck.

"Now, they're in with the killers," said Howard Davidowitz, a New York-based retail consultant. He says the void left by Circuit City and CompUSA is now filled by WalMart, Amazon, CostCo and Target.

"Those guys can all operate at much lower margins and make money. That's the problem," he said.

Davidowtiz also said Best Buy doesn't have hot products that can replace the once-fat profits the retailer enjoyed on flat panel TVs.

"They're going to have to rethink their business, build smaller stores, more urban stores. They're going to have a lot of thinking to do."

Best Buy needs a dramatic transformation, Davidowitz said, but also that the company will survive and thrive, probably with a far greater emphasis on online sales.

"I think there will be a lot of pain involved. But I have confidence in their management to respond to the challenges."

Best Buy today reaffirmed its guidance for profits for its current fiscal year, indicating it expects good sales this month and in January and February. The company expects annual sales to top Wall Street's estimates.

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