Best Buy Could Break Out of Its Channel Shortly

Key Points

• Best Buy's strong quarter shows the positive impact of rising PC demand and AI hype on the industry.
• Analysts have found a new reason to boost Best Buy's valuations as cash flow hits the company.
• EPS growth and a recent breakout on the announcement back a bullish thesis, driving short sellers away.

After a painfully slow two years of trading within a tight channel, Best Buy Company Inc. NYSE: BBY rallied by a staggering 15.5% after it reported its first quarter 2024 earnings results. The initial reaction in the stock price is accredited to the unexpected recovery seen in the consumer discretionary space, particularly around consumer electronics.

While the lion’s share of market attention fled to the technology sector, driving up stocks like NVIDIA Co. NASDAQ: NVDA and any other dealing with artificial intelligence, some may have lost the forest by focusing on the trees. This is the case for Best Buy today, and the stock’s reaction is only the beginning.

Breaking down the company’s financials will help investors understand why it is moving the way it is this week and why this initial behavior may signal an even more significant – and more prolonged – trend to the upper right-hand side of the stock chart. But before digging deeper into the numbers, here’s why Best Buy’s products could move this quarter.

An Unexpected Turnaround for Best Buy

U.S. consumer sentiment readings had contracted for four consecutive months, scaring some investors out of retail stocks like Best Buy. However, despite the economy's sticky inflation rates, consumers still found a reason to look forward to their long-awaited purchases.

At least, that’s what the latest consumer sentiment reading suggests, which delivered the first expansion of the quarter. Investors can spot a similar bottoming in the consumer electronics sector within the ISM manufacturing PMI index, which may draw in some newly confident consumers.

Looking at the past three months of new orders within the PMI, the electronic products sector has pushed out three consecutive months of increasing expansion, meaning the industry overall is getting ready for what could be increased demand in the coming months.

Recent earnings results at HP Inc. NYSE: HPQ show this live trend, as the stock soared by 24.6% in a single day. The reason behind the breakout? An announcement of better-than-expected personal computer (PC) demand aided by the growing interest in artificial intelligence-capable semiconductors and computers.

While Best Buy doesn’t make these products, its staff is best prepared to sell them. Amazon.com Inc. NASDAQ: AMZN could offer better prices on these products. Still, online reviews will never beat a live presentation and ‘test drive,’ especially concerning something as personal as a personal computer (no pun intended).

Because of this fundamental factor and its industry-wide drive, efficiencies at Best Buy are apparent to the accounting eye.

Wall Street Analysts Predict Positive EPS Growth for Best Buy

Even though comparable sales, the primary key performance indicator (KPI) for retail stocks, declined by 6.1% over the year, Best Buy’s management still managed to deliver returns for its shareholders.

Operating income, as a percentage of revenue, increased from 3.4% in 2023 to 3.8% in the latest quarter. Since revenues declined during the period, this margin increase can only be attributed to growing efficiencies in the company’s operations.

By growing its paid membership base, Best Buy wants to add more recurring and predictable revenue to its financials. The business can get around the cyclicality of holding physical inventory through this stability and predictability, as dealing with suppliers can be challenging.

Improving capital cycles enabled Best Buy to produce up to $156 million in operating cash flow, compared to a negative $331 million a year prior. With this newfound financial stance, management could invest up to $152 million into new equipment and improvements and pay back its investors.

$50 million was allocated to buy back stock and maintain the stock’s current 4.6% dividend yield. As investors worry about inflation rates today, this is a welcoming sign from Best Buy, as the dividend beats out inflation, and analysts expect earnings per share (EPS) to do the same.

Wall Street analysts expect Best Buy's EPS to grow 12% over the next 12 months, giving investors another reason to support management's improvement initiatives. Telsey Advisory Group also jumped on this trend, valuing Best Buy stock at $95 a share.

To prove these predictions right, the stock would need to rally an additional 17.5% from where it trades today. Even bears couldn’t find a way to stick to their short bias. Best Buy’s short interest declined by 2.4% in the past month, owing to improving financials and higher valuations.