Best Buy likely to emerge winner in bloody UK battle

LONDON (Reuters) - Despite sharpening their act over the past year, Britain's electrical goods retailers face pain in the long term from Best Buy's UK entry because the market is too small to support more than two major players.

Analysts say Best Buy's delayed launch next month has pushed rivals to revamp stores and invest in improving customer service at a time when demand is uncertain, likely leading to a battle that will bruise all players but leave the financially stronger U.S. group best placed in the end.

DSG International, which runs Currys and PC World chains, has developed larger-store formats that will directly compete with Best Buy, and said on Friday it was accelerating their roll-out after successful early results.

Kesa, which runs Comet stores, has also improved its customer service and revamped its mostly mid-sized stores.

Investors have responded well to the improvements, driving up DSG and Kesa's shares sharply from lows at the end of 2008.

But the danger now is that the stocks no longer factor in the prospect of years of intensifying competition.

DSG's shares trade at 24 times analysts' average earnings forecast for the year ending April, falling to 15.5 for the year after, while Kesa shares are trading at 14 and 10.6 times respectively for the same periods, according to Reuters data.

That compares with the average price-to-earnings ratio for British general retailers of 11.5 times for calendar 2010.

"I think it will be a long fight, but someone will have to emerge as a loser because there just isn't the volume of sales to sustain all of these players," said Neil Saunders, an analyst at retail researchers Verdict.

He thinks Best Buy will come out on top, provided its shareholders have the stomach for the fight, thanks to its superior financial firepower and reputation for industry-leading customer service, while DSG or Kesa could be weakened to the extent that they eventually become a takeover target.

MORE SELLING SPACE

When Best Buy announced plans to expand into Europe in October 2008, analysts believed it chose Britain as its launchpad in part because the competitive landscape was easier than on the mainland, where it would come up against Europe's biggest electrical goods group Media Markt-Saturn.

Best Buy originally planned to launch in the summer of 2009, but delayed this because of the global economic downturn.

The delay has had its advantages, as the U.S. group has been able to snap up property at cheaper prices, but it has also given rivals time to prepare.

After a plunge in its share price on fears it might not even survive the downturn, DSG emerged with a plan focused on converting stores to bigger formats and better customer service.

The group, which raised about 300 million pounds ($448 million) from investors to fund its plan last April, said on Friday it would accelerate the programme and trade from 70 megastores over the coming years, up from a previous target of 50, as well as join together more Currys and PC World stores.

This compares with Best Buy's plans to open about 10 megastores this year, and up to about 80 over the coming years.

For Greg Hodge, an analyst at researchers Planet Retail, that is enough on its own to raise concerns about excess selling space, and insufficient returns, for electrical goods retailers.

"These are big stores with big catchment areas. Is the population really big enough to support that many?" he asked.

But Best Buy isn't the only group adding capacity.

British department stores group John Lewis has said it could open around 30 smaller format shops, which will include its fast-growing electrical goods ranges, while supermarkets are also expanding aggressively into the market.

J Sainsbury, Britain's third-biggest grocer, has set a target to double non-food sales within five years.

Deutsche Bank analysts' estimate the selling space of Britain's top ten electricals retailers could grow from 18.6 million square feet in 2009 to 21.3 million by 2012, an increase of about 15 percent.

And that's not taking into account the growing popularity of Internet shopping and that online retailers like Amazon.com

might capture some more market share.

BLOODY BATTLE: ENDGAME M&A?

The extra selling space would not be such a concern if it were matched by a pick up in demand.

There are some hopeful signs, with DSG forecasting a boost from the launch of 3D TVs and this summer's soccer World Cup.

But most retailers fear trading will stay tough as the government takes steps -- like hiking taxes and cutting spending -- to cut its yawning deficit, and some think the credit-fueled spending of the boom years will never return.

Verdict forecasts the UK electrical goods market will shrink 1.8 percent from 2008-13, after 3.5 percent growth in 2003-7.

With many independent players already squeezed out of the markets and profit margins pared right down, Verdict's Saunders thinks the battle will focus on the big players and be bloody.

He believes DSG is most vulnerable because its selling space in the UK is around twice as big as Kesa's.

Planet Retail's Hodge thinks own-brand goods, which tend to have higher profit margins, could be a key battleground, and that Best Buy may have an advantage because of the work it has already undertaken in this area as it fights cut-throat competition from rivals like Wal-Mart and Amazon.

Ultimately, Hodge believes DSG or Kesa could be weakened to the extent they become a takeover target and the number of big specialist UK electrical goods retailers returns back to two.

(Editing by Sitaraman Shankar)