December 15, 2009 / 1:30 PM / 9 years ago

UPDATE 4-Best Buy sees weaker holiday margins, shares fall

* Q3 EPS 53 cents vs. Street view 43 cents

* Says Q4 gross margin to be lower than expected

* Q3 market share growth slows vs Q2

* Shares fall 9 pct (Adds more analyst response, CFO comments)

By Dhanya Skariachan

NEW YORK, Dec 15 (Reuters) - Best Buy Co (BBY.N) has pursued an aggressive promotional strategy to grab market share, but investor doubts are growing over its ability to fend off competition.

Best Buy issued a tepid gross margin forecast for the holidays on Tuesday, saying improved sales growth in the fourth quarter would stem from lower-margin goods like laptops and entry-level flat screen televisions.

Shares in the top U.S. electronics chain fell more than 9 percent, retreating from a year-high level reached on Monday on hopes it was gaining ground against rivals like (AMZN.O) and Wal-Mart Stores Inc (WMT.N).

“This fuels concerns that the bankruptcy of Circuit City is not relieving the competitive environment with Wal-Mart and Amazon continuing to push into the space,” J.P. Morgan analyst Christopher Horvers said in a note to clients.

Oppenheimer’s Brian Nagel sees competition continuing to pressure Best Buy’s margins through the next year. As consumers snap up flat screen TVs for as little as $300, a lack of hot new gadgets to entice them to buy at higher prices also adds to investor concern, he said.

“As the market looks into 2010, it gets more and more worried about a waning product cycle and a stock that is a peak valuation,” Nagel said.

Best Buy said it expected domestic gross margin would fall 80 to 100 basis points in the fourth quarter. While investors had seen pressure on margins as justified while it shores up market share, Best Buy’s growth in the latest third quarter also fell short of expectations.

Market share grew 230 basis points in the third quarter, but was below second-quarter levels when it grew 270 basis points, Raymond James analyst Dan Wewer said.

Best Buy defended its strategies as consumers hold out for bargains in a weak economy.

“We are finding a good balance between price and profit relative to the opportunities that exist in the current environment,” Best Buy CFO Jim Muehlbauer said on a conference call with analysts.

Best Buy shares fell $4.15 to $41.22. Amazon was down 0.1 percent and Wal-Mart slipped 0.4 percent.

For a graphic on Best Buy's quarterly performance, click here


On Tuesday, Best Buy reported a third-quarter net profit of $227 million, or 53 cents a share, up from $52 million, or 13 cents a share, a year earlier.

Revenue rose 5 percent to $12.02 billion. Same-store sales rose 1.7 percent.

Analysts on average were expecting a profit of 43 cents a share on revenue of $11.98 billion, according to Thomson Reuters I/B/E/S.

While Best Buy saw strong demand for notebooks, flat panel televisions, mobile phones and appliances, sales were weak in the gaming, movies and music categories. Its gross profit rate fell to 24.1 percent in the third quarter, down 30 basis points from a year ago.

Despite the share sell-off, Best Buy may have little choice but to keep up promotions to keep shoppers’ interest.

“Best Buy is being wise in keeping the velocity of products through the stores high by offering attractive pricing,” Lawrence Creatura, a portfolio manager at Federated Clover said. “These aren’t normal times for consumers.”

Anthony Chukumba at FTN Equity Capital Markets noted that Best Buy stock rose 19 percent since it reported second-quarter earnings. It “almost seems like investors were looking for an excuse to sell the stock” on Tuesday, he said.

The retailer has upped the ante on customer service to differentiate itself, promoting Twelpforce to answer consumer queries on Twitter and hiring more seasonal workers. It is also providing its Geek Squad repair assistance to shoppers.

For fiscal 2010, Best Buy raised its profit outlook to about $3.00 to $3.15 a share, up from its prior forecast earnings of $2.70 to $3.00 a share, excluding items. Analysts were expecting it to earn $2.96 a share.

Reporting by Dhanya Skariachan; Editing by Michele Gershberg and Phil Berlowitz

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