Best Buy (NYSE:BBY)
F2Q2014 Earnings Call
August 20, 2013 8:00 a.m. ET
Hubert Joly - President and CEO
Sharon McCollam - CAO and CFO
Bill Seymour - VP, Investor Relations
Matthew Fassler - Goldman Sachs
Gary Balter - Credit Suisse
Anthony Chukumba - BBT Capital Markets
David Gober - Morgan Stanley
Kate McShane - Citi
Chris Horvers - JPMorgan
Michael Lasser - UBS
Mike Baker - Deutsche Bank
Ladies and gentlemen, thank you for standing by. Welcome to Best Buy’s second quarter fiscal 2014 earnings conference call. [Operator instructions.] As a reminder, this call is being recorded for playback and will be available by 12 p.m. Eastern Time today. (Operator Instructions) The call will end at 8.50 am Eastern Time.
I’d now like to turn the conference call over to Bill Seymour, vice president of investor relations. Please go ahead, sir.
Good morning and thank you. Joining me on the call today are Hubert Joly, our president and CEO and Sharon McCollam, our CAO and CFO. As usual, the media will be participating in this call in a listen-only mode.
This morning’s conference call must be considered in conjunction with the press release that we issued earlier today. They both contain non-GAAP financial measures that exclude the impact of certain business events. These non-GAAP financial measures are provided to facilitate meaningful year-on-year comparisons, but should not be considered superior to or as a substitute for, and should not be read in conjunction with, the GAAP financial measures for the period.
A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures and an explanation of why these non-GAAP financial measures are useful can be found in this morning’s release.
Today’s press release and conference call also include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements address the financial condition, results of operation, business initiatives, growth plans, operational investments, and prospects of the company, and are subject to risks and uncertainties that could cause actual results to differ materially from such forward-looking statements.
Please refer to the company’s current press release and SEC filings for more information on these risks and uncertainties. The company undertakes no obligation to update or revise any forward-looking statements to reflect events or circumstances that may arise after the date of this call.
I would like to highlight that during our second quarter we reached settlements with multiple defendants under which we will receive a total of $229 million net of litigation costs. These settlements were the result of a lawsuit filed by the company as disclosed in our most recent form 10-Q that alleges price fixing by certain manufacturers of TST LCD panels from 1998 to 2006.
We have excluded the impact of the settlements reached during Q2 FY14, and our non-GAAP financial results provide meaningful comparisons versus last year. And where applicable we will be referring to those non-GAAP results in this morning’s call.
Again, complete information regarding our GAAP and non-GAAP results can be found in this morning’s release. I will now turn the call over to Hubert.
Thank you, Bill, and good morning everyone and thank you for joining us. I’d like to begin today with an overview of our second quarter results, as well as an update on our Renew Blue priorities. Then I will turn the call over to Sharon to provide further details.
Before I do that, I’d like to welcome Chris Askew, our new president of services, to our One Best Buy team, as we focus on strengthening one of our greatest competitive advantages, our network of 20,000 Geek Squad agents and the service they provide to our customers.
Chris joins us with a strong track record in managing large, complex services organizations, including at NCR, Dell, and Lenovo. We’re thrilled to have him on board, and excited about reinvigorating this growth engine within the company.
Now let me come back to our second quarter results. In November of last year, at our investor meeting, we talked about the two problems we had to solve: declining comparable store sales, and declining operating margins. Since that time, the resolution of these two problems has become our Renew Blue rallying cry, and the organization’s goals and objectives as we prioritize accordingly.
While we are clear that there’s much more work ahead, we have made measurable progress since we unveiled Renew Blue last year, including near-flat comparable store sales, substantial cost take outs, and better than expected earnings in the past three consecutive quarters.
From a financial perspective, we delivered better than expected results on both the top and bottom lines during this last quarter. On total company revenue from continuing operations of $9.3 billion, we delivered non-GAAP diluted earnings per share of $0.32. As expected, domestic comparable store sales were down 0.4%.
This was driven by short term disruptions caused by the retail deployments of the Samsung Experience shops, Windows stores, and floor space optimization, as well as our continued rationalization of noncore businesses. Excluding these impacts, domestic comparable store sales were flat to slightly positive for the quarter.
During the second quarter, we continued to make substantial progress on our Renew Blue priorities. This progress included, number one, driving a more than 10% increase in domestic comparable online sales; number two, improving our net [unintelligible] score; number three, enriching our retail customer experience for the rollout of our Samsung Experience shops in Windows stores; number four, piloting our buy online, ship from store initiative in 50 stores; and number five, eliminating an additional $65 million in annualized costs, bringing our nine-month total of annualized cost reductions to $390 million toward our target of $725 million.
We also continued to focus on the six Renew Blue priorities that we outlined for you at the beginning of the year. Number one, accelerating online growth; number two, accelerating the multichannel customer experience; number three, increasing revenue and gross profit per square foot to enhance store space optimization and merchandising; number four, driving down cost of goods sold for supply chain efficiencies; number five, continuing to gradually optimize the U.S. real estate portfolio; and number six, further reducing SG&A costs.
I will now provide you an update on each of these priorities. To accelerate online growth, we’re continuing to focus on those initiatives that are designed to drive and improve customer experience, increase traffic, and higher conversion. In Q2, these initiatives, including the replacement of our 10-year-old onsite search platform, the dynamic creation of product recommendations for browsing customers with empty carts, the easier attachment of Geek Squad services, and the implementation of a richer tablet shopping experience.
We also implemented the dynamic creation of location-specific product offers and have begun a campaign to drive the quantity and quality of customer product reviews. Product reviews are a powerful tool to drive conversion and based on our year to date run rate, we expect to quadruple the number of reviews we have on our site by year-end.
Including all of these initiatives, our domestic online channel delivered a 10.5% comparable store sales increase in the quarter, excluding the preorders of new gaming consoles. Including these preorders, which we do not expect to ship or recognize as revenue until Q4 of fiscal ’14, comparable online demand increased over 16%.
Now, there’s still significant growth to be done on the site. Our next phase of initiatives as we head into the holiday season includes, number one, the optimization of site navigation, including the rapid narrowing of search results through drop-down editing; number two, the implementation of single-site sign on for Reward Zone customers; number three, the online display of all in-store clearance and open-box inventory; number four, the introduction of new product buying guides; number five, the addition of new marketplace partners to increase our online-only product assortment; and number six, the enhancement of our buy online, pick up in store experience by creating an easier process for customers to add service plans to their final purchase upon arrival in the store. From all of these online initiatives, over time we expect to see measurable improvements in the customer experience, natural and on-site search, and conversion.
The second Renew Blue priority for this year is to escalate the multichannel customer experience. We use NPS, or Net Promoter Score, to measure not only the satisfaction of customers that buy, but also the customers that don’t. In the second quarter, our NPS score improved by approximately 300 basis points year over year.
While we know there’s still much to do here to provide a consistently great customer experience across all of our channels, we were very pleased to see that the service provided by our blue shirts in the stores was not only a key contributor to our year over year improvements in our NPS score, but also to our improved in-store close rates during the quarter.
In addition to the rollout of NPS, there are three customer experience initiatives that we believe will have a significant benefit on both the top and bottom lines. The first of these initiatives relates to our price competitiveness.
Price competitiveness is [table stakes]. During Q2, and heading into the back half of the year, we’re continuing to invest in our price competitiveness when needed for price matching and price reductions. Pricing is the capability that is underdeveloped at Best Buy, an area that we will be making greater investments in and increasing our focus on over the next several quarters through improved analytics.
The next customer experience initiative relates to retail leadership performance. Plain and simple, a great store requires great leadership. To this end, we have implemented a more rigorous and consistent performance management approach that measures not only the financial metrics but also customer satisfaction metrics like store level NPS to drive improved retail leadership performance.
Although we are only in our rollout, this [rigor] is creating a new level of visibility, ownership, intensity, and accountability that we believe over time will help drive an improved in-store customer experience.
The third customer experience initiative is buy online, ship in store. As we mentioned last quarter, there are numerous reasons that we believe this initiative is going to have significant customer experience and financial benefits when rolled out at scale, including, number one, improving our online conversion, which is currently well below many other retailers; number two, more profitably selling returns and clearance inventory that is trapped in our stores; number three, reducing mark down risk on product transitions; number four, improving inventory management by increasing visibility to true multichannel customer demand; and number five, enabling more accurate demand planning.
To put this opportunity into context today, 2-4% of our online traffic in any given week does not buy, because we do not have the inventory in our online distribution centers and we’re telling the customer that it is out of stock. And yet much of the time we actually have it in one or more of our retail stores.
But today, in our 50-store pilot, we are seeing examples of these customer service and financial benefits, including a 90-basis point average lift in July comps for those 50 stores, and half of the units sold being either transition or closeout SKUs that were sold at higher margins than the stores outside the pilot. Based on these encouraging results, and the successful implementation of the IT requirements to do so, we plan to extend the ship from store pilot to over 200 stores in time for holiday.
The third Renew Blue priority is to increase revenue and gross profit per square foot, to enhance floor space optimization and merchandising. During the second quarter, we continued our floor space optimization efforts, which included the deployment of the Samsung Experience shops, the rollout of the Windows stores, the increase in space dedicated to growing and profitable categories like mobile, tablet, and small appliances, and the creation of new clearance areas that offer clearance, returns, and open box items.
Today we are largely done with the deployment of the Samsung Experience shops. They are now in almost all of our large format and mobile stores. In June, we announced our agreements with Microsoft and began to roll out the Windows stores in 500 of our large format stores.
As of the end of the second quarter, we had deployed 240 Windows stores and expect to be done with the rest by the end of September. There will also be additional existing category optimization efforts that will continue into October. You should note that the deployment of the Windows stores and other aspects of this project are more disruptive than the initial work on the Samsung Experience shops. Nevertheless, while this is very early in the deployment of the Samsung and Windows stores, the customer feedback on both has been very positive.
The fourth Renew Blue priority for this year is to drive down cost of goods sold through supply chain efficiencies and reverse logistics. In the second quarter, we completed the rollout of our enhanced retail store inventory replenishment model and continue to rationalize our network of supply chain vendors through service level benchmarking and competitive bidding processes.
From these initiatives we have begun to see lower retail store replenishment costs, lower transportation costs, and improved service levels to our customers. In the third quarter, we will complete the expansion of our online fulfillment capabilities to our final three of our eight distribution centers and begin allocating inventory to the distribution center closest to the customer to improve the time and cost of delivery.
Reverse logistics has been another top supply chain priority. As we discussed last quarter, customer returns, replacements, and damages are approximately 10% of revenue and are costing the company over $400 million a year in P&L losses. Based on the steps we are taking, we feel confident that we can meaningfully reduce these assets.
Actions we are taking include making this inventory more visible and easily purchased by customers by leveraging store clearance area and the ship from store pilot I talked about earlier. It also includes improving the shopping experience for buying online clearance items through better site design, assortment, and clearance pricing, and includes expanding clearance pricing to more core categories and to open box products.
Based on the magnitude of the returns, replacements, and damages opportunity, and the other supply chain opportunities we have discussed, we continue to be confident in our Renew Blue commitment to reduce cost of goods sold by $325 million. To date, we’ve delivered over $65 million in annualized savings and expect to deliver substantially more over the next several quarters.
Our fifth Renew Blue priority is to continue to gradually optimize our U.S. real estate portfolio. Occupancy cost reduction and retail capital allocation remain a key focus. As such, during the quarter we renegotiated overall rent reductions for a number of stores and closed three mobile stores at lease expiration.
In parallel, we’re continuing with a number of new store within a store openings before the end of the quarter, including five Magnolia Design Centers and 12 Pacific Kitchen and Home stores within a store. These concepts provide a higher end and higher touch customer experience, and have tested well in 28 and 55 stores, respectively.
Our sixth Renew Blue priority is to further reduce SG&A costs. As we laid out at our investor meeting last November, we believe there is an opportunity to remove $400 million in SG&A from our North American business and we’re making substantial progress. Since the company’s last earnings release, we have eliminated an additional $30 million in annualized SG&A costs, and this brings us to $325 million and we plan to take out additional costs as the year progresses.
In addition to our activities in the U.S., we are continuing to roll out Renew Blue in our international business, and are excited about the new focus we have in place in Canada and China.
And I will now turn the call over to Sharon to cover more details on our second quarter financial performance and our outlook for the year.
Thank you, Hubert, and good morning everyone. Like Hubert, I would like to echo how encouraged we are by the progress we are making against Renew Blue priorities, as demonstrated by our second quarter results.
The financial highlights of the quarter were as follows. Enterprise revenue for the second quarter declined 0.4% to $9.3 billion, and non-GAAP diluted EPS increased 23.1% to $0.32. This EPS increase was primarily driven by strong expense management and Renew Blue cost savings, partially offset by higher year over year investments and price competitiveness.
Domestic revenue of $7.8 billion increased 0.1%. This increase was primarily driven by incremental revenue from 57 net new Best Buy mobile stores, partially offset by a comparable store sales decline of 0.4%.
Excluding the disruptive comparable store sales impact that Hubert discussed earlier, though, domestic comparable store sales were flat to slightly positive for the quarter. Domestic online comparable revenue increased 10.5%, due to increased traffic and a higher average order value, including gaming preorders’ comparable online demand increase over 16%.
From a merchandising perspective, strong growth in mobile phones and appliances was partially offset by declines in other categories, including gaming and digital imaging. Of note, comparable store sales for the television category were flat in the quarter, which is considerably better than the trend we’ve seen over the last few years.
International revenue of $1.5 billion declined 2.9%. This decline was due to the loss of revenue from 15 large format stores that were closed in Canada last year, and a comparable store sales decline of 1.8% driven by lower demand for consumer electronics and ongoing competitive pressure in Canada, partially offset by increased consumer demand in China due to expiring government subsidies that were supported by increased promotional offers.
Turning now to the gross profit, the enterprise non-GAAP gross profit rate for the second quarter was 23.7% versus 24.2% last year, a decline of 50 basis points. The domestic non-GAAP gross profit rate was 24% versus 24.3% last year, a decline of 30 basis points. This decline was primarily driven by increased product warranty related costs associated with higher claims frequency in the mobile category and a greater investment in price competitiveness, particularly in appliances and mobile.
These impacts were partially offset, however, by improved overall product mix and the accelerated recognition of previously deferred revenue associated with our Capital One credit card portfolio that will be sold to Citibank in the third quarter.
The international gross profit rate was 22.3%, versus 23.8% last year, a decline of 150 basis points. This decline was primarily driven by a higher mix of China revenue that carries a lower gross profit rate and higher promotional activity in China.
Now turning to SG&A, enterprise level non-GAAP SG&A was $2 billion, or 21.5% of revenue, versus 22.3% last year, a decline of 80 basis points. Domestic non-GAAP SG&A expenses were $1.67 billion, or 21.3% of revenue, versus $1.72 billion, or 22.1% of revenue last year, a decline of 80 basis points.
This decline was primarily driven by strong expense management, Renew blue cost savings, and the impact of Q2 fiscal year ’13 store closures. These reductions were partially offset by our Renew Blue investments in the optimization of our retail floor space and the replatforming of bestbuy.com.
International non-GAAP SG&A expenses were $332 million, or 22.3% of revenues, versus $359 million, or 23.4% of revenue last year. This 110 basis point rate decline was primarily driven by a higher mix of China revenue which carries a lower SG&A rate and cost reductions in Canada and China.
From a working capital perspective, we continue to strengthen our balance sheet during the quarter. Cash and cash equivalents increased $1.3 billion to $1.9 billion. This increase was primarily driven by the sale of Best Buy Europe and proactive working capital management.
Receivables increased $290 million, or 32.3% to $1.2 billion, primarily due to the LCD settlement and the remaining receivable on the sale of Best Buy Europe. During the quarter, we received approximately $30 million in cash of a total $229 million LCD settlement, with the balance to be received in installments over the next eight quarters.
Merchandise inventories increased $399 million, or 6.8%, to $5.4 billion, primarily due to aggressive inventory management and an ongoing reduction in clearance inventory.
Accounts payable decreased $362 million, or 6.8%, to $5 billion, primarily due to lower inventory purchases. As a percentage of inventory, accounts payable remained flat year over year.
The current portion of long term debt decreased $495 million to $44 million, due to the issuance of a new 5%, 5-year, $500 million bond, which replaced a 6.75% $500 million bond that matured in July.
As we now look forward to the back half of the year, it goes without saying that we are encouraged by the momentum that we are seeing from our Renew Blue priorities and excited about the opportunities that lie ahead. But to build on this momentum, and to position us for a strong fiscal 2015, we have to continue to invest in those initiatives that are driving our success today.
As such, our investment plans for the balance of the year now include a greater Q3 and Q4 investment in price competitiveness in addition to our previously announced $150 million to $200 million investment in incremental SG&A to support the Renew Blue priorities Hubert discussed earlier in the call and that are outlined in today’s press release.
In addition to these investments, though, there are two additional back half impacts that are not investments, but that we would like to discuss. The first is a temporary increase in our mobile warranty costs that is expected to continue through the first quarter of fiscal 2015. This increase is considered temporary because it relates to higher claims frequency on our legacy Geek Squad protection programs that will expire or be operationally restructured out over the next several quarters.
The second is a change in the economics of our private label credit card program that is being sold by Capital One to Citibank in the third quarter. This impact is due to the expiration of our previous credit card agreement with Capital One, which offered Best Buy substantially better financial terms than what is commercially available in the market today due to changes in both the regulatory environment and the general consumer credit market overall.
To partially offset the investments and increase operational costs, however, we expect to see a positive financial benefit from our year to date $390 million in annualized Renew Blue cost savings in addition to the further savings that we are expecting to deliver in the third and fourth quarters.
So while it was not our intent today to provide comprehensive financial guidance on the total company P&L for Q3 or Q4, or fiscal 2015, we recognize that it would be difficult for our investors to estimate the potential magnitude of these investments and increased operational costs without further context.
We also recognize that having a financial estimate from us, particularly in light of our transformation, was important to understanding and accurately projecting future results. Therefore, to assist our investors with these future projections, in our release this morning we provided our latest quarterly estimate of the year over year basis point impact of these factors on the total company operating income rate.
These estimates reflect the net sum of the three P&L drivers we just discussed, the negative impact of the pricing and SG&A investments, the increased operational costs, and the positive impact of the Renew Blue cost savings.
For the third and fourth quarters, these estimates were as follows: negative 90-110 basis points in Q3, and negative 40-70 basis points in Q4. While I will not discuss them now, continuing impacts into fiscal 2015 are also outlined in this morning’s release.
Again, these basis point estimates on the operating income rate only pertain to the specific P&L drivers I just outlined, and should not be used or interpreted in isolation as a calculated projection of our expected year over year change in the total company operating income rate, because as we have seen in the last three quarters, our core business performance is stabilizing, and our product mix and cost containment initiatives above and beyond our Renew Blue cost average have been stronger than expected. As such, we expect that through continued improvement in our core business performance we will be able to offset some or all of these impacts.
Thank you, and I’ll now turn the call over to the operator for Q&A.
[Operator instructions.] Our first question is from Matthew Fassler with Goldman Sachs. Please go ahead.
Matthew Fassler - Goldman Sachs
My question relates to the impact of the credit card item on gross margin in the second quarter. I guess it’s a quick two-part question. The first part is can you tell us how much that aided gross margin here in Q2? And secondly, does that reflect any kind of change in the net economics of that deal? Or just some acceleration of the [pad] that you would have ultimately received?
That was an acceleration of the payout that we would have received because the accounting requires that you book those bounties over time. As far as quantifying the amount, we obviously have confidentiality agreements, so I’m not going to go there. But let me just give you one other piece of information.
When you look at the gross profit this quarter, again, we have two offsetting items. We have the credit card income, but the offset is this Geek Squad protection warranty negative. And quite frankly, they virtually net each other out. So the margin that you’re looking at is very clean. There’s two specific items within it, but net, when you’re looking at the actual number that we reported, it’s very clean.
Matthew Fassler - Goldman Sachs
So any gross margin discussions that anyone would have had a quarter ago, this 24.0% domestic would essentially be, on those same terms the other stuff cancels out?
That’s right, and the reason for that versus last quarter is very much driven by mix. We talked about the product mix and this quarter we had very strong growth in the mobile and the appliance businesses, and with that comes a rate mix benefit.
Our next question is from Gary Balter with Credit Suisse. Please go ahead.
Gary Balter - Credit Suisse
I’m just going to focus on the online. You mentioned the 50-store test that you’re doing. What’s different in that in terms of the pickup at store? Because right now when I go on, you see like 6-7 day delivery if you want to buy it at the stores, this next day pickup. And as part of that, given the success that you’re having with it, why not roll it out faster?
The buy online ship from store is invisible to the customer. Historically, as Hubert laid out in his prepared remarks, 2-4% every week of our customers come to bestbuy.com and ask to buy something, and because it is not in the online distribution center, we tell them that we do not have it. And yet much of the time, we have it in one or more stores.
So, by opening up those 50 stores, what happens is that when the system checks the online DC, and does not find the inventory, it then checks those 50 stores, and if that inventory is there, it fills the order, completely invisible to the customer.
In last quarter’s call, we talked about the reason that we were going to roll 200 stores for holiday, and why we haven’t rolled sooner, we had two systems issues to solve. Remember, we have never shipped out of the back room of the store, so this is a very different process.
The good news, that you just pointed out, is that the store associate has already learned by buy online pick up in store how to have a pick ticket dropped to the floor and to be able to pick the order and put it in the basket. Now, the next phase of that is to put it in a box, create a shipping label for UPS, and have it distributed.
The system had two enhancements that had to be made. The first is that because we had never shipped out of a store, we were not able to populate the UPS label, with shipping. So the back room associate is actually having to take the pick ticket and type in the address. This is a very simple IT fix, and not the one that is the bigger of the two that’s caused us to push to 200 stores for holiday and then to open it up next year to a greater number of stores.
The second one is the fact that in our system - and this is very common in retailers - when inventory is actually sold, it takes up to 4 hours to be able to update the inventory. And what we are working on today is the problem with that is during peak times it is very possible, if you only had two of an item left in a store, that you’re going to go ahead and promise it to that customer and you may sell it in that 4-hour period.
So we were not comfortable rolling this, because this is such a big NPS issue for the customer, that we had to get that timeframe down to 15 minutes before we were comfortable rolling it out. And that is what we will have achieved by the time we roll this with the 200 stores before holiday.
Your next question is from Anthony Chukumba with BBT Capital Markets. Please go ahead.
Anthony Chukumba - BBT Capital Markets
My question was actually related to your balance sheet. You got the money from Carphone Warehouse. You essentially refinanced on the debt, saved 175 basis points. You’re now going to be getting this money from the LCD settlement. How do you think about starting to buy back stock? I understand why you stopped doing it last year, the numbers just continued to get worse, and there was a lot of uncertainty, but given the fact that it looks like things are on the right track, and your balance sheet is just so strong, how do you sort of think about that?
We believe that having a strong balance sheet is a very important factor for our success. And in fact, when we look at a lot of our competitors and other players that do have very strong balance sheet, and so do a lot of our vendors, having a strong balance sheet is very helpful to us as we negotiate with our vendors. You always want to be negotiating from a position of strength. So we have this as a governing thought to have a very strong balance sheet as we operate the business. For now, this is how we think about it. I don’t know, Sharon, do you want to add anything to this?
No, I couldn’t have articulated it better.
And our next question is from David Gober with Morgan Stanley. Please go ahead.
David Gober - Morgan Stanley
Just one quick clarification on the credit card agreement. I know you said it didn’t have any impact on the gross margins, but given that there is a recognition of deferred revenue, did that have any impact on top line?
And then just a follow up on the commentary on the TV business, definitely interesting to hear that that has flattened out after a sustained period of more difficult trends. Can you give us a little bit more color on what you’re seeing there, in terms of whether it’s screen sizes or different technologies, what do you think is actually driving that? Or is it just a function of the more competitive pricing that’s been in the market.
I’ll take the question on the credit card. Obviously you completely understand the accounting for these credit card bounties. They do go into revenue. This is completely immaterial to our revenue. So it is not a huge number. It had the gross margin impact, which I answered the question on gross margin. It has an offset on the product warranty side. So we have no material impact on either line. I don’t want to put this number in a bigger light than it should be.
And as it relates to the TV business, the driver of this more favorable performance from the comp store sales standpoint is the size of the TVs. The mix is shifting to larger screen TVs. The units have always been up. It was the average selling price that was the issue. The shift towards larger screen is helpful. We are, of course, also intrigued by the innovation in the space with 4K TV, OLED TVs, and so forth. We love the fact that in our stores now there’s TVs with a price point of $15,000, $8,000, and that’s helpful from the top down selling standpoint.
And our next question is from Kate McShane with Citi. Please go ahead.
Kate McShane - Citi
Sharon, I wondered if you could give a little bit more detail about the increase in investment in price competitiveness. Is this mainly just for the holiday season? Or is this ongoing? And what form is this going to come in?
We believe that investment in price competitiveness is the way we have to operate our business. I think in Hubert’s prepared remarks we call it table stakes. So the investments that we are making are where they’re needed, and where we see that, versus the marketplace and competitors that we believe are relevant, our pricing is not in the market. We are making changes to that. There is the price matching, but that is not the big piece of this. We are proactively moving forward with price adjustments where we are not competitive. And we expect that to continue.
Really, it started in the back half of Q4, and then advanced in Q1, came again in Q2, the investments in Q3 and Q4, on a year over year basis, and then we’ll assess. I think we’ve seen several analyst reports and various analyses that have been done on our pricing versus other retailers, and the general consensus seems to be, and we would agree, even from our own data, that we are getting closer to the competition every month that passes.
And our next question is from Chris Horvers from JPMorgan. Please go ahead.
Chris Horvers - JPMorgan
You laid out the pressures in the coming four quarters or so from those three items. Can you talk about how much those items impacted the second quarter here as well as the first quarter?
The impact that we had in the second quarter obviously was substantially less than what we are anticipating for Q3 and Q4 on a year over year basis. Remember it’s all about your compares. So on a year over year basis, it’s substantial. On a sequential basis, it’s important.
So the pricing is one of the issues, but the second one that is even more substantial is this Geek Squad protection and the rapid exchange and the frequency that we’re seeing on repair. And we’ve sold a lot of phones, we’ve sold a lot of Geek Squad protection plans, and when frequency goes up, it is an expensive business proposition.
Obviously these legacy contracts that we sold, many of these contracts might be 24 months old, we are very very lenient in how we interact with the customer related to this. So it’s something we have to work through. But the biggest impact that we’re seeing from a sequential point of view is in the Geek Squad warranty protection.
Chris Horvers - JPMorgan
And then just related to that, given the reflowing of the stores, the Samsung and the Microsoft, do some of the cost savings flow through on a more robust basis in the back half versus perhaps the second quarter as well?
Hubert also, in his prepared remarks, called out that in Q2 we had an impact from the Samsung stores and Microsoft stores as well. But the impact of the Microsoft stores is substantially greater than what we did with Samsung. Because you’re talking about the entire computer department. Also, the biggest piece of our own floor space optimization, where we’re moving everything around in the store, is in Q3. And that is going to have a significant impact and disruption in the store. We expect that to be substantially bigger than it was in Q2.
To elaborate a little bit, there is an impact on the top line. When a store is impacted by this optimization, the supply is impacted. And of course there is some cost associated with moving things around in the store. We expect of course for this year to be completed by the end of Q3, as we wouldn’t want to be moving things around during the holiday season.
And I’ll add one more thing to that. That cost is going to show up predominantly in SG&A. A lot of the work we’re doing cannot be capitalized, and it will flow through in the SG&A line.
Our next question is from Michael Lasser with UBS. Please go ahead.
Michael Lasser - UBS
First, on the Samsung stores, now that you have the majority rolled out, what is the sales impact that you’ve been seeing from that initiative? And then second, what’s the early competitive response that you’ve seen from the pricing investments that you’ve made?
On the Samsung Experience shops, we are seeing, number one, very positive customer response. The same with Windows, but of course Samsung started earlier. The customers really appreciate the live displays, that you can actually touch and feel live product, which is not the case for other types of stores. They appreciate the combination of the expertise of the Samsung experts as well as the support and advice of the blue shirts.
They appreciate the opportunity to navigate the store and look at these different ecosystems. Customer have choices. It’s a wonderful experience to look at these various vendors. So a lot of positive feedback for Samsung, and the same is true for the Windows stores.
There is of course a positive impact on the sales of the Samsung products, as you would expect. What we will be measuring is of course the impact on the overall store. But the way we’ll measure it is in the overall comp store sales, because our goal as a company is of course to optimize and solve our two problems. And it’s still very early in the game. The best way to measure it will be the overall performance of our comp store sales throughout the stores. So we are very excited about this.
Your second question has to do with what’s the competitive response to our pricing actions. This is a very competitive space, so I will not comment on the reactions of our competitors. To be clear, our goal is not to be lower than the competition. We believe that Best Buy offers a very compelling set of customer promises, with the assortment, the advice, the convenience, the service, and so our goal is simply to eliminate price as an obstacle to buy.
We started with the price match. A year ago, everybody was talking about showrooming and so forth, so we love the traffic on our site, in our stores, and we don’t want to lose a customer because of price. But we don’t [see there’s a need] to be lower than the competition, we just don’t want to be beat.
And our final question is from Mike Baker with Deutsche Bank. Please go ahead.
Mike Baker - Deutsche Bank
I wanted to ask a little bit more about the TV business. You said it was flat. When was the last time it was flat? Do you think you’re gaining share there? Or is that more a function of what’s going on in the market? And you said one of the reasons for that was higher ASPs as the mix is getting to bigger TVs, but can you talk about the ASPs on a like-to-like TV this year versus last year? Has that started to stabilize at all?
We believe that it’s been three years since the comps in TVs were flat, which is why we highlighted this today. I want to also highlight the fact that while we have a positive impact on the top line from a comp standpoint, the U.S. consumer is still value-oriented.
And so the choice the consumer is making is very much biased towards opening price points in these larger screen TVs. And so that means there continues to be margin pressure from that standpoint in the category.
And frankly, I highlighted 4K and OLED and so forth, and why I think all of us can be excited by these shiny new objects. We don’t expect that this is going to have a significant impact from the volume standpoint, but I would still encourage all of you on the call to consider visiting our stores, and we’ll take care of you.
Mike Baker - Deutsche Bank
And do you think it’s a function of share because of your aggressive in price, or is it the market doing better in TVs?
We have been very competitive in TVs, so we’re feeling good about our market share, our trends, again, our value proposition to the customer in that space.
I’d now like to turn the conference back to Bill Seymour for closing comments.
That concludes our call. Thank you, operator.
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