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HHGregg ratchets back, but analysts still uneasy

January 19, 2013

When HHGregg Inc. went public in 2007, the company prospectus distributed to potential investors was packed with bravado.

“We believe our proven business model and exceptional store economics will allow us to continue to expand into new high-growth markets while continuing to build out our store base in existing markets,” the document said. The company said it saw the potential of expanding from a regional chain with 79 locations to a national heavyweight with 400.

Nowadays, the adrenaline rush is over, and company executives’ talking points are much more conservative.
 

May May

In a conference call with analysts in November, CEO Dennis May said: “We remain committed in the long term to being a national retailer, but believe it is prudent in the near term to slow our expansion.”

HHGregg now has 228 stores in 20 states. So it has grown a great deal. But those “exceptional store economics” are gone, thanks largely to a breathtaking collapse in sales of flat-screen televisions.

Lack of innovations to entice consumers has sapped demand for televisions at the same time price competition from retailers like Walmart and Costco has intensified. The result: Same-store video sales tumbled 25 percent in the third fiscal quarter, which ended Dec. 31, according to preliminary figures released Jan. 14. It was the ninth consecutive quarter in which same-store video sales fell.

While some of the decline stemmed from HHGregg’s decision to scale back its presence in cheaper, smaller televisions with the thinnest profit margins, analysts found the extent of the decline unnerving. J.P. Morgan’s Christopher Horvers noted that overall same-store sales were flat at Best Buy’s U.S. stores in the latest quarter, while they slid 10 percent at HHGregg.

HHGregg “continues to suffer from a combo of industry-wide challenges in televisions, along with market share losses in this area,” UBS analyst Michael Lasser said in a report.

Management has plenty of ideas to get things turned around, including increasing its emphasis on appliance sales—a segment that’s continuing to perform well, offering credit to a broader range of customers, and offering new product lines that play off its strengths in customer service and delivery. Executives say they’re upbeat about early results of their recent introduction of furniture and fitness equipment.

“We will continue to focus on our assortments of physically large products that in many cases require home delivery and setup—products that have … a high need for in-store credit, and products that require further explanation of features and benefits to showcase our exceptional sales force,” May said.

Analysts don’t quibble with the strategy. But they do fear HHGregg management remains overly optimistic even after further scaling back earnings and sales guidance on Jan. 14.

Many Wall Street investment firms have neutral or underweight ratings on HHGregg shares, even though they’re trading for only around $7.80, down from $30 in mid-2010.

“We are highly concerned that HHGregg is having increased difficulty in selling its core products and believe that the company’s ongoing strategy to diversify into other big-ticket categories will present continued challenges,” Barclays Capital Inc. analyst Alan Rifkin said in a report.

Even one of the company’s traditional strengths—its commissioned, well-trained salespeople—has a downside when sales are this weak. While lower sales shrink commissions the company must pay, Stifel Nicolaus analyst David Schick said in a report, “that cannot be good for morale and could impact the consumer experience (salespeople opt for the hard sell when desperate).”

Company management sounded confident in a November conference call and struck a similar tone at an investor conference in Miami on Jan. 16. Unlike many retailers that have suffered from sales slumps, HHGregg has plenty of financial muscle to climb back—thanks in part to zero long-term debt.

“We believe that our strong balance sheet and free cash flow, along with strong consumer loyalty, affords us the ability to execute our initiatives in a thoughtful and methodical way,” May said in November.

That may be true, but analysts see little upside for the stock anytime soon.

“Any potential catalyst is a ways off,” UBS’ Lasser wrote, noting that investors will want to see sales and profit stability before jumping aboard.•

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