Best Buy Must Exit International Fast

 | Aug 26, 2014 | 9:27 AM EDT  | Comments
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Stock quotes in this article:

bby

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hd

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wmt

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amzn

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spls

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At first glance, Best Buy (BBY) had a solid quarter for a retailer with huge physical store assets and a Web business being integrated into that store environment.

Adjusted earnings beat big, again (the company has toppled consensus earnings for seven-straight quarters). Adjusted operating margins expanded a cool 70 bps -- take that Wal-Mart (WMT) and, yes, even Amazon (AMZN).

The company has now sucked out a whopping $900 million in costs and expenses from its Renew Blue restructuring plan, which has allowed it to launch a price-matching program and invest capital in digital and supply chain initiatives.

But Best Buy shares are being sold on the news and I sense investors are confused as to what's going on here today. These are a couple things I think are driving the stock's pullback, all of which seem to dent the bullish case that had emerged for the holiday season and cast doubt on the raw earnings power of the company in 2015.

Domestic Overview

Domestic gross profit margins continue to decline, shedding 120 bps on an adjusted basis year to date. Theoretically, Best Buy should be reporting flat-to-slightly-expanding gross margins, given its massive restructuring plan, but that is not happening as store traffic remains negative. So, the view is emerging that the company will continue to pour money into price matching and have little show for it financially in 2015. That is especially so as Best Buy's restructuring plan runs its course (comparisons become tougher).

What could save the company in 2015 is if it exits an international business or launches a robust domestic store closure program. Best Buy must become a domestic-only retailer like Home Depot (HD). Staples (SPLS) hasn't gotten that yet. Hopefully Best Buy does, and soon, as international performance continues to be dreadful.

Executive Comments

I wasn't a giant fan of management's comments, particularly around a stepped-up pace of investments in the second half of 2014 to drive the business and the callouts on the international segments. These, combined with the company downplaying the financial benefit from a new Apple (AAPL) product cycle, appears to have thrown a bit of cold water on the company's holiday season, on which Wall Street had been very optimistic.

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