Seeking Alpha
Long/short equity, tech, banks, oil & gas
Profile| Send Message| ()  

The Gist

There have been countless articles written regarding Best Buy (BBY), both bullish and bearish. Many have stated Best Buy is an excellent short candidate while others tout the company's new turnaround plans will change the game for Best Buy. I believe they will fail and have shorted the stock. I see Best Buy as a losing proposition with several major headwinds in front of them. In the following sections, I will discuss the primary reasons why I shorted Best Buy.

Fundamentals Are Poor and Waning

The company is currently losing money with a negative bottom line of -.45%. Return on equity is abysmal at -7.29%. Margins may be for an additional hit as well with the company's new price match program. EPS for the next 5 years is expected to drop by 3.36%. Furthermore, the company trades for 2.5 times book value. These are not great numbers. The company definitely needs to turn itself around, no doubt.

The Buyout Deal Is Off

BBY is one of the best performing stocks in the S&P 500 this year. The stock is up nearly 100% since the start of the year. See chart from CNBC below.

(click to enlarge)

I posit most of the gains were due to a potential buyout deal proposed by Richard Schulze, a former chairman, made an informal bid to buy the company for approximately $25 a share. But he failed to line up necessary debt and equity financing according to the rumor mill and the deal never came to fruition. Now Schulze is returning to Best Buy as chairman emeritus, according to the company.

I see this as bad news actually, and here is why. This means the primary reason for the run up in the stock, the buyout deal, is definitely off. I posit the scores of new shareholders of the stock will be looking for the exits to avoid becoming the proverbial bag holders. It appears as if the exodus has already begun despite the recent flurry of upgrades by analysts, which counter intuitively usually means sell rather than buy. See chart below.

(click to enlarge)

The Competition Is Too Strong

OK. Let's think about the main competitors for a second. BBY is basically surrounded by massive juggernauts of the retail industry. On the one hand you have Amazon (AMZN) which dominates internet sales and sells products for cut rate rock bottom prices. Then as far as brick and mortar competition goes you have Wal-Mart (WMT), which is the low price leader for everything under the sun. I don't like the odds of BBY beating out either of these massive foes. They are each best of breed in their respective businesses and no matter what BBY does to try to pull itself out of its nosedive. They will never be able to overcome the strength and power of Amazon or Wal-Mart.

The Macro Picture Looks Grim

The market is trading at all-time highs going in the summer doldrums known as the sell in May and Go Away season for Wall Street. This may just be the conspiracy theorist coming out in me, but it seems like the last few years the market always gets pumped up to sky high levels in the first quarter. After, Wall Street wizards take profits and go on vacation for the summer leaving long only shareholders holding the bag. Then they return at some point later and pick up shares at the lows a few months later.

With the market up 10% year to date and BBY up 100%, I posit when the quarter clicks over next week we may see the start of a broad based sell off. It usually starts with the stocks up the most year to date. This means BBY is ripe for profit taking. The phrase the bigger they are the harder they fall comes to mind.

The Bottom Line

Best Buy has a lot of work to do to turn itself around. It will require a lot of time and money to save this sinking ship, if they can at all. The fact that Schulze was unable to put a buyout deal together is a major tell. Think about it. If BBY was such a great deal at $25 why couldn't he make it work? My guess is the risk/reward ratio regarding the prospects of a turnaround was extremely unfavorable. I am short the stock at $23 and looking for a drop all the way back to $12. Don't try to catch this falling knife.

Source: Best Buy: Look Out Below ... Accelerated Free Fall Looming

Additional disclosure: This is not an endorsement to buy or sell securities. Investing in securities carries with it very high risks. The information contained within this article for informational purposes only and is subject to change at any time. Do your own due diligence and consult with a licensed professional before making any investment.