Best Buy analyst on company's missed earnings

First quarter earnings are in for Best Buy, and the Richfield-based consumer electronics giant fell short of expectations. Today, Best Buy shares were down 6 percent.

To talk about why Best Buy's earnings were off the mark, MPR's All Things Considered spoke with R.J. Hottovy, a Best Buy analyst for the investment research company Morningstar. Below is an edited transcript of Hottovy's conversation with MPR's Tom Crann.

Tom Crann: First of all, what are we talking about when we talk about a company's earnings not meeting expectations?

R.J. Hottovy: Typically the company will provide some kind of guidance for the year, they'll set general expectations. So for Best Buy they gave a number where they expect sales from stores that have been open more than a year to be up between 1 and 3 percent.

They also expected to see some gross margin improvement, some of their operating costs being down on the year and generally they expected some of their shares to be up 10 to 14 percent. If you factor in certain timing of some of these costs, you can come up with an idea of what you expected for the first quarter number. And that's what fell short of expectations.

Crann: What happened to drop earnings so much?

Hottovy: I think the reason why the earnings missed were essentially two-fold. Sales numbers were a little bit weaker than what myself and Wall Street were looking for, particularly on television sales as well as entertainment software -- DVDs, video games.

Similarly, the standard operating expenses for the company came in a little bit higher than what I was anticipating. The company has made a lot of investments for some growth initiatives, new store openings, some in-store developments, and suspending on that, just the timing of that fell into the first quarter, which consequently led to earnings that fell short of expectations.

Crann: Can you break it down in terms of products? What's selling well for Best Buy and what's disappointing?

Hottovy: The categories that remained strong were wireless sales, which is your cell phones. We're still in the midst of a strong product cycle for smart phones. We're also seeing notebook computers sell very well during the first quarter. I think part of that probably was the launch of the iPad.

The categories that were weaker this quarter were TV sales and then entertainment software, DVDs, video games. There's been a lack of new titles that have been out there and we've seen a movement toward people embracing digital distribution, so less people in store shopping for DVDs or video games.

Crann: Of all things sells Best Buy sells, what's the most profitable?

Hottovy: The most profitable thing for them is the entertainment software category -- DVDs and video games. We have some concerns for Best Buy over the long term as that becomes more digitally distributed. We have some concerns that that may ultimately weigh on Best Buy's profitability as that becomes less a percentage of sales.

Crann: Could this be a case of projections analysts just expecting a more robust economy and consumers not going along?

Hottovy: I think that's probably a fair way of assessing it. Numbers coming out of the holiday season generally looked pretty strong. We started to see things stabilize in the U.S. economy. The question was whether or not these results were sustainable.

Honestly, I think it's still a difficult economy out there that we should have expected a milder recovery in consumer sales.

Crann: What does this mean when you look at the broader economy and consumers out buying electronic goods?

Hottovy: I think that we'll continue to see some choppiness in consumer electronics spending for the remainder of the year. Best Buy's management touched on it in the conference call today, that consumers are becoming much more event-driven when it comes to shopping.

There was plenty of shopping for Christmas, we saw a nice push for TV sales around the time of the Super Bowl and then again a little bit with the NCAA Final Four. But at the same time, there really hasn't been a catalyst to drive TV sales in the U.S. in the last month or so, and I don't really expect another one to come around until we start to see the kickoff of the football season.

(This interview was transcribed and edited by MPR's Elizabeth Dunbar.)

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