TEXT - S&P cuts Best Buy rating to 'BB'

Wed Nov 21, 2012 4:09pm EST

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Overview
     -- In our view, U.S. consumer electronics and services retailer Best Buy 
Inc.'s weak operating and financial performance trends will continue due to 
fierce competition and continued margin pressure.
     -- We believe that it will be very difficult for the company to improve 
its gross margin over the next year, given the industry dynamics and the new 
management team's plans to turn around operations.
     -- We are lowering our corporate credit and senior unsecured debt ratings 
on the company to 'BB' from 'BB+'. In addition, the ratings are removed from 
CreditWatch, where they were placed with negative implications on April 4, 
2012. 
     -- The negative outlook reflects our view that if there is further 
deterioration in operating performance, margins, and credit metrics, we would 
consider lowering the rating.

Rating Action
On Nov. 21, 2012, Standard & Poor's Ratings Services lowered its corporate 
credit and senior unsecured debt ratings on Richfield, Minn.-based Best Buy 
Inc. to 'BB' from 'BB+.' The ratings are removed from CreditWatch, where they 
were originally placed with negative implications on April 4, 2012. The 
outlook is negative.

The recovery rating on the senior unsecured debt remains '3', indicating our 
expectations for meaningful (50% to 70%) recovery in the event of a payment 
default.

The downgrade of Best Buy reflects our view that it will be very difficult for 
the company to improve its gross margin in the fourth quarter of the year 
given the highly promotional nature of year-end holiday retailing in the 
wireless and consumer electronic categories. It is our belief that all 
segments of the company's business will remain under margin pressure for 2012 
and into 2013. In addition, we believe that the new management team still 
needs to fully formulate its strategy for improving the continued decline in 
same-store sales and margins. Given the highly seasonal nature of the 
company's operations, skewed heavily to the fourth quarter, we may not begin 
to see any tangible results until the second half of fiscal 2013 or beyond.

Rationale
The ratings on Best Buy Co. reflect Standard & Poor's assessment that the 
company's business risk profile is "weak" and its financial risk profile is 
"significant."

In our view, the company's "weak" business risk profile factors in the 
inherent risks of the consumer electronics business, which is cyclical and 
dependent on new products for propelling sales growth. It also incorporates 
our view of the extremely competitive environment Best Buy faces from 
internet-based retail formats, discounters, warehouse clubs, other big-box 
retailers, and smaller regional consumer electronic chains, in many of its 
product categories. We believe these factors and the commoditization of many 
products will continue to limit pricing flexibility. In addition, margins will 
continue to be constrained as the company looks to match competitors' pricing. 

While the new management team has outlined the key problems the company faces 
and acknowledges that many are self-inflicted, it will take some time for the 
CEO and senior management team to full formulate its turnaround strategy and 
execute it. In our view, we will not begin to see any tangible results until 
the second half of fiscal 2013 at the earliest. Given that the strategy, cost 
savings, and spending are all unknown at this time as well as its possible 
success, we are therefore viewing the new management team and governance as 
"fair." While these endeavors will be challenging, given the fierce 
competition and commoditization of certain products, we believe that the 
company's success depends on how quickly it can change its strategy to reflect 
the shifts in the industry.

We assess Best Buy's financial risk profile as "significant," reflecting the 
substantial seasonality in the company's operating performance, which is 
heavily skewed to the fourth quarter; its adequate liquidity position; thin 
margins; and weaker cash flow generation and credit protection measures. For 
the 12 months ended Nov. 3, 2012, margins declined to 7.1% from 7.6% in the 
previous quarter. We forecast that credit metrics will weaken further for 
fiscal 2012, because we expect further gross margin pressure in the fourth 
quarter. We estimate adjusted total debt to EBITDA of about 2.8x, EBITDA 
interest coverage of about 4.9x, and funds from operations to total debt of 
about 33%. This is based on our  following assumptions:

     -- Revenues and same store sales decline in the low-to-mid single digits.
     -- Gross margin contracts by 100 basis points (bps) this year and next 
year.
     -- Capital expenditures of about $750 million in 2012 and $800 million in 
2013.
     -- Dividends of about $230 million in both 2012 and 2013.
     -- No further share repurchases until operating performance stabilizes.

Liquidity
We believe Best Buy's liquidity is "adequate" to meet its needs over the next 
12 months. Furthermore, we estimate that there should be no significant 
shortfalls in liquidity in the next two years, given that the company has 
manageable debt maturities. Our view of the company's liquidity profile 
incorporates the following expectations:
     -- We expect that liquidity sources (including cash, cash flow from 
operations, and availability under its revolving credit facilities) will 
exceed uses by 1.2x or more. 
     -- We expect that liquidity sources will continue to exceed uses, even if 
EBITDA were to decline by 15%, and that debt will remain more than 15% below 
any covenant limits.
     -- We believe that the company has the ability to absorb high-impact, 
low-probability events, with limited need for refinancing. In our view, if 
needed, liquidity could be supplemented by Best Buy lowering its capital 
spending.
     -- In our assessment, we believe that Best Buy has sound relationships 
with banks and generally prudent risk management. 

The company had cash and cash equivalents of approximately $309 million as of 
Nov. 3, 2012, and full availability under its $1.0 billion 364-day senior 
unsecured revolving credit facility, maturing August 2012 and a $1.5 billion 
senior unsecured revolving credit facility, maturing Oct. 7, 2016. We expect 
liquidity sources to largely fund seasonal working capital needs (which 
typically peak in the third quarter), capital expenditures, dividends, and 
2013 debt maturity.

Recovery analysis
We rate the company's unsecured debt 'BB' (the same as the corporate credit 
rating) with a recovery rating of '3', indicating our expectation of 
meaningful (50% to 70%) recovery for note holders in the event of a default. 

Outlook
Our negative rating outlook reflects our expectation that Best Buy's operating 
trends will remain at their new lower level over the next year. We believe 
that the same-store sales trend and revenue growth will be flat to negative 
(in the low single digits) for the remainder of 2012 and into fiscal 2013, 
given the weak industry dynamics in consumer electronics and the company's 
recent performance. Also, we are estimating that margins will continue to be 
under significant pressure.

We would consider a downgrade if gross margin contracts by more than 100 bps 
and revenues decline in mid- to high-single-digits, resulting in debt leverage 
trending to about 3.5x or more. In addition, we could lower the rating if the 
company's cash flow generation continues to decline resulting in liquidity 
concerns or we believe that the new management team's strategy for the company 
does not begin to improve its operating performance. Also, we could lower the 
rating multi-notches should the company receive and accept a leveraged buyout 
offer.

Although unlikely in the near term, we would consider a stable outlook if 
business conditions improve, such that Best Buy consistently posts positive 
same-store sales and revenue growth and credit metrics strengthen. We estimate 
that if gross margins improved by more than 150 bps and revenues rose in the 
low- to mid-single digits, credit metrics would strengthen, with debt leverage 
below 2x. 

Related Criteria And Research
     -- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012 
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 
     -- Criteria Guidelines For Recovery Ratings On Global Industrials 
Issuers' Speculative-Grade Debt, Aug. 10, 2009 
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008 


Temporary contact numbers: Jayne M. Ross (973-735-3761; Chuck Pinson-Rose 

Ratings List
Downgraded; Recovery Rating Unchanged; Outlook Action
                                        To                 From
Best Buy Co. Inc.
 Corporate Credit Rating                BB/Negative/--     BB+/Watch Neg/--
 Senior Unsecured                       BB                 BB+/Watch Neg
   Recovery Rating                      3                  3
FILED UNDER:
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