BBY

Business Context and Reporting Period

Company: Best Buy Co., Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: November 30, 2002 (Third Quarter of Fiscal 2003)
Business Overview: Best Buy is a specialty retailer of consumer electronics, home office equipment, entertainment software, and appliances. The company operates two reportable segments: Domestic (U.S. Best Buy, Musicland, Magnolia Hi-Fi) and International (Future Shop, Canadian Best Buy). The period includes the full impact of the Future Shop acquisition and the adoption of SFAS No. 142 regarding goodwill.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Revenues increased 16% in the quarter and 20% year-to-date compared to the prior year. Growth was driven by 68 new U.S. Best Buy stores opened in the last 12 months and the inclusion of a full quarter of International operations (Future Shop).
• Comparable Store Sales: Consolidated comparable store sales declined 0.4% in the quarter, driven by an 11.5% decline at Musicland stores, which offset gains at U.S. Best Buy (0.7%) and International (3.8%).
• Goodwill Impairment Charge: The nine-month net loss of $(131) million was primarily due to a non-cash, after-tax goodwill impairment charge of $348 million. This charge resulted from the adoption of SFAS No. 142 and the write-off of goodwill associated with Musicland ($308 million) and Magnolia Hi-Fi ($40 million).
• Operating Income: Operating income increased to $139 million in the quarter (from $129 million prior year) but decreased slightly to $357 million for the nine months (from $367 million prior year) due to higher SG&A expenses.
• Liquidity: Cash and cash equivalents decreased to $1.156 billion from $1.855 billion at the end of the prior fiscal year. Operating cash flow turned negative ($133 million used) due to significant increases in inventory and receivables.

Guidance, Outlook, and Risks

• Earnings Guidance: Management revised fiscal 2003 fourth-quarter earnings expectations to $1.05–$1.10 per diluted share (up from a previous $1.00–$1.10 range). Full-year fiscal 2003 earnings are projected at $1.72–$1.77 per share (excluding the accounting change impact).
• Revenue Outlook: Fourth-quarter total revenue growth is expected to be approximately 10%. Domestic comparable store sales are expected to be flat, with U.S. Best Buy gains offset by double-digit declines at Musicland.
• Capital Expenditures: Revised fiscal 2003 capital expenditure forecast is approximately $875 million, down from the original $1 billion guidance.
• Musicland Restructuring: On January 9, 2003, the company closed 107 Musicland stores. A comprehensive review of business alternatives for Musicland is underway, including a test for recoverability of long-lived assets expected in the fourth quarter.
• Risks: Key risks include the continued decline in prerecorded music sales, a promotional environment compressing margins, foreign currency fluctuations (International segment), and potential credit rating downgrades affecting borrowing costs.

Investor Verification Checklist

• Goodwill Impairment Impact: Verify the non-cash nature of the $348 million charge and its exclusion from operating performance metrics.
• Musicland Performance: Monitor the 11.5% comparable store sales decline and the impact of the 107 store closures on future profitability.
• Working Capital Trends: Review the $1.8 billion increase in merchandise inventories and the resulting negative operating cash flow.
• Debt Structure: Confirm the status of $748 million in convertible debentures and the impact of credit rating outlooks (S&P Negative) on future financing.
• International Integration: Assess the profitability timeline for the Future Shop acquisition, which currently shows an operating loss.