Best Buy: Unprecedented Value Play

| About: Best Buy (BBY)

Best Buy’s (NYSE:BBY) stock is living up to its name as the market’s recent punishment has led to an unprecedented level of value. It is my opinion that BBY is without a doubt the "best buy" in the retail sector.

Market Price:

BBY is currently trading at $24/share for a total market cap of 9.1B (based on 378M shares outstanding as of 28 May 2011). The last time BBY traded below this valuation was for 1 week in November 2008. Prior to November 2008, the last time BBY was below this valuation was from July 2002 through March 2003. EPS at that time was roughly 1/3 and BV/sh was less than 1/3 the current value.

Financial Strength & Value:

Operating cash flow for the most recent year was $1.2B, and BBY has net cash of $414M. BBY has a current ratio of 1.23, and an interest coverage ratio of over 80. BBY is being unfairly correlated with Blockbuster and Borders, who had notorious amounts of outstanding debt which eventually forced them into bankruptcy.

Best Buy has grown EPS at a 9-year annualized rate of 11.2%, backed up by annualized revenue gains of 12.3%. Over the past 3 years (recession-impact), BBY grew revenues by 7.9% annualized, while generating $5.27B in operating cash flows.

At the current market cap of $9B and with FY2012 EPS projected to be flat from FY2011 (due to decreasing economy and not anticipating reduced share count), BBY is trading at a P/E of 7.1.

Return to Shareholders:

Best Buy currently pays a quarterly dividend of 16 cents (2.54% yield), with a 5-year annualized growth rate of 9.85%. Best Buy's dividend has a very stable outlook with a current payout ratio of less than 20%.

Best Buy has repurchased 92.5M shares in the past 5 years (19% reduction), and recently announced a new $5M buyback plan. This new buyback plan represents 56% of outstanding shares at current market prices.

Potential Upside:

Beyond the obvious potential upside of a 50%+ reduction in outstanding shares over the next 2-3 years (based on historical operating cash flows), BBY has the potential to benefit domestically from changing tax policies and internationally through its various investments.

Changing Tax Policies: Best Buy has been hurt domestically by online retailers such as Amazon (NASDAQ:AMZN); however, many states are enacting sales tax laws targeting online companies such as Amazon. AMZN has successfully pulled their warehouses out of several states as well as reduced affiliates; however, as state governments become increasingly desperate for revenues, this tax-targeting will likely continue. AMZN has enjoyed an effective “tax loophole” for the past decade that is unlikely to continue.

If the tax policies are changed, BBY’s online store will likely become more competitive. In 2010, BBY did $2B of online business, and this number will likely increase once AMZN loses their tax advantage (10%+ in some states).

Foreign Investment: Although recent news highlighted Best Buy’s “failure” in China, in reality they only shuttered 9 branded stores (hardly a huge pullout) and have increased investment into their recently acquired (and profitable) chain 5-Star. In a recent strategy presentation, BBY outlined a plan to grow to 400-500 5-Star stores within the next five years while increasing annual Chinese revenues to $4B annually.

Time to Invest?

Nobody can truly call the market (or stock) bottom, and we are living through a roller coaster week; however, BBY is trading at an insanely cheap valuation, and as Buffett once said “…invest when others are fearful.”

Disclosure: I am long BBY.