Best Buy (BBY)

A value trap is generally the stock of some well known company in a beaten down industry that looks great by the numbers.

However, this superficial analysis is misleading because the business is struggling so much that numbers are likely to come in mediocre at best - making any real stock gains unlikely. Excluding the impact of an extra week in the comparable period last year, revenues grew 9% and EPS 14%. Looks pretty solid, right? However, when you look beneath the surface you can see how much Best Buy’s business is really struggling. The 14% EPS increase was driven almost entirely by a huge share buyback program. There were about 13% less diluted shares this quarter than last. So, when you take out the share buybacks, organic earnings growth, growth in the actual business, was really only about 1%.

Revenue growth, in turn, was entirely a function of adding new stores - 137 in the past 12 months. Same store sales were down .2% - and down .9% in its core U.S. business. That means that stores that have been open for 14 months actually sold less in the just completed quarter compared to last year. Another number that caught my attention was the -4.6% comparable sales in their core Consumer Electronics segment. So Barron’s anectdotal report about 22-year old David Mushrall, and 24-year old Colin Lucas who each recently purchased flat screen TVs doesn’t mean that many others aren’t cutting back on their consumer electronics purchases.

In sum, there are lots of convincing arguments that can be made for Best Buy’s shares on a fundamental basis including: It is down almost 20% from its 52-week high in December; it is trading for only 13 times forward earnings; and it is the leading company in its space. But the weak economy will pressure the discretionary purchases that are their business resulting in lackluster business and stock performance.

Competition will continue to quickly drive down prices on flat-screen TVs and Best Buy will cease to make substantial profits from sales of these once high-margin products.

Wal-Mart will use its large size to push its way further into the consumer electronics market and take away market share and revenue from Best Buy. Discount retailers and wholesale clubs continue to pull market share from the established electronics leaders like Best Buy. Yet another example of the retail spending transformation we've been seeing in ChangeWave surveys all year.

Although Best Buy (BBY) (40%) remains the number one store respondents say they'll shop at over the next 90 days for home entertainment and networking products, it's showing a 3-pt decline from a year ago (Aug 2007).

Going forward, the stores with the most momentum in electronics are Costco (COST) (26%; up 5-pts Year-Over-Year), Amazon (AMZN) (20%; up 5-pts YOY), Wal-Mart (WMT) (17%; up 6-pts YOY) and Sam's Club (10%; up 3-pts YOY).

For the fiscal year ending March 1, Best Buy reduced its outlook to per-share earnings of $3.05 to $3.10 from $3.10 to $3.20. Expected same-store sales growth was cut to 2.5% to 3% from 4%, and the company maintained its outlook for revenue of about $40 billion. CEO Brad Anderson said that although the company's December results were in line with expectations, "soft domestic customer traffic in January, coupled with our near-term outlook, now indicate that our fourth-quarter revenue will fall short of our planned targets."

Moreover, low profits in Canadian stores will continue to drag down Best Buy's overall profitability and success.