Q2 2020 Earnings Call
Ladies and gentlemen, thank you for standing by.
Welcome to best Buy's second quarter fiscal year 2020 earnings call. At this time all participants are in a listen only mode. Later, we will conduct a question and answer session.
At that time, if you have a question you will need to press star one on your phone.
If you choose to be taken out of the question queue. Please press star two.
As a reminder, this call is being recorded for playback and will be available by approximately one PM eastern time today.
If you need assistance on the call as any time, Please press star zero and an operator will assist you I will now turn the conference call over to Mollie O'brien, Vice President of Investor Relations.
Thank you and good morning, everyone. Joining me on the call today are Corie, Barry our CEO , Matt Balloonists, our CFO and Mike Monahan, our president and COO during the call today, we will be discussing both GAAP and non-GAAP financial measures. A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures and an explanation of why these non-GAAP financial measures are useful can be found in this morning's mornings earnings release, which is available on our web site investors dot at best buy Dot com.
Some of the statements we will make today are considered forward looking within the meaning of the private Securities Litigation Reform Act of 1995.
These statements May address the financial condition business initiatives growth plan investments and expected performance of the company and are subject to risks and uncertainties that could cause actual results to differ materially from such forward looking statements. Please refer to the company's current earnings release and our most recent 10-K for more information on these risks and uncertainties.
The company undertakes no obligation to update or revise any forward looking statements to reflect events or circumstances that may arise. After the date of this call I will now turn the call over to Corey.
Good morning, everyone and thank you for joining US today, we reported $9.54 billion in revenue expanded our non-GAAP operating income rate by 20 basis points and delivered non-GAAP diluted earnings per share of one dollar an eight cents, which was up 19% compared to the second quarter of last year.
Our comparable sales growth of 1.6% was on top of a very strong 6.2% last year and within our guidance range for the quarter. The international segment comparable sales declined 1.9% driven primarily by continued soft macroeconomic conditions in Canada.
Our domestic segment comparable sales were up 1.9% as we continued to drive the customer experience across online stores and home from a product category standpoint, the comparable sales were buoyed by strength in appliances tablets, and headphones, partially offset by declines in gaming and home theater.
The Q2 profitability was better than expected, primarily driven by strong expense management.
This points to the culture, we have built around driving cost reduction and efficiencies to help fund investments and offset pressures.
Before I talk about the progress we have made on our building the new Blue strategy and our continued excitement about our strategic opportunities I would like to address the latest development on the topic of tariffs.
As you know since our last earnings call. The administration finalize the products on the list for and the timing of their implementation.
We were very active participant in the official comment process and we are pleased the administration decided to delay the effective date of many of the products on the list until December 15th.
We believe this will mitigate some of the impact of higher prices for American consumers during the holiday season.
The list for tariffs are at a 15% level and have to effective dates. The first effective date is September 1st and the most notable affected categories relative to best buy our televisions smartwatches and headphones.
The second effective date is December 15th and the most notable categories relative to best IR computing mobile phones and gaming console.
Given the trends many of our vendors are in the process of migrating their manufacturing out of China and our merchants are also addressing this new context with a view to minimize costs and risks, while continuing to offer exciting technology products and solutions to our customers.
As a result, while there will be some short term volatility we expect to adapt to this new environment.
Let me say a few words about the updated annual fiscal 20 guidance, we are providing today and that will expand on later in the call on the top line, we narrowed the revenue range on the bottom line, we are raising our non-GAAP EPS guidance range.
This reflects the continued momentum of our strategic initiatives. It also includes our best estimate of the impact from the list for tariff and the most recent announcement regarding list three moving to a 30% rate net of the actions we are taking to mitigate their impact, including bringing products ahead of the tariff implementation decisions around vendor and skew assortment promotional and pricing strategies.
Sourcing changes and other strategies employed in partnership with our vendors.
As others have noted it is difficult to factor in the uncertainty related to overall customer buying behavior. It is hard to predict how at the macro level consumers will react to higher prices, resulting from tariffs as you would imagine the general overall volatility in the financial markets as the level of caution to our outlook.
This is a rapidly evolving situation and our teams are doing an excellent job adapting on a daily basis. As we have said before we are supportive of free and fair trade between the U.S. and China and appreciate the delay on many products and we're actively engaged in mitigation efforts to minimize the impact on consumers and our business.
The tariffs do not change our excitement about our strategic opportunities, However, and I would now like to talk about the progress we're making on our building the new blue strategy.
In an example of our growing commitment to health during Q2, we launched a new collection of connected fitness products from some of the world's most innovative exercise companies, including Hydro pro form Hi, Bryce and Nordic track. This new assortment includes a range of connected bikes and rowing machines and a recovery system loved by many pro athletes.
The collection is available now on best buy dotcom with a new dedicated fitness space coming to more than 100 stores by the end of the year.
Our store employees and in home advisors will receive special training to help customers discover understand and purchase the equipment, whether at a store or in their homes at best buy and Geek squad will manage delivery and installation.
Meanwhile, we continue to make progress both in terms of scaling the great call consumer devices and services and advancing our commercial monitoring service with a focus on aging seniors last quarter. We updated you on our acquisition of a senior focused health services company called critical signal test technologies or CST to help more quickly scale the commercial monitoring business.
Earlier this month, we acquired the predictive healthcare technology business, a biosensor mix, including the hiring of the company's data science and engineering team based in Watertown, Massachusetts.
These talented employees drive innovation through wearable sensor technology that addresses some of the biggest challenges faced by the aging population such as fall.
These tuck in acquisitions together with recall complement our existing capabilities like Geek squad and in home advisors to better help seniors live longer in their homes help reduce their health care costs and bring greater peace of mind for their families and caregivers. We look forward to spending more time on our health strategy at our Investor update next month.
Speaking of Geek squad. During Q2, we continued to expand our total tech support program, which provides members unlimited geek squad support for all their technology, no matter, where or when they bought it.
We grew the member base at a steady rate, while executing on our roadmap to continually improve the customer experience.
Additionally, best buy is now fully certified Chainwide as an Apple authorized service provider, becoming the nation's largest physical destination for Apple authorized repair services, including same day iPhone repairs nearly 10000 of our Geek squad agents have completed training for all Apple device repairs and all of our nearly 1000 stores are equipped with Apple authorized repair tools and parts.
As you would imagine consumers can schedule their repair by going to best buy dot com, but what you might not know is that they can also go to Apple's own website to schedule a repair at best buy.
More than 200 best buy stores across the U.S. have been Apple authorized service provider since 2017 and have enjoyed strong customer satisfaction scores. So we are pleased to expand that partnership with Apple to provide even more consumers with convenient access to safe and reliable repairs and it drives traffic almost 40% of these apple repair customers are either new to best buy or Reengaged best by customers. This is another great example of something we can do with our vendor partners that others cannot.
In addition to Tech services, we provide our customers with a number of financing options that help them acquire the products. They need and also creates stickiness overtime with our brand for example sales transacted on our best by credit card for 25% of total sales last year and that number is growing.
We always offer customers our branded credit card first however, there are people who may not be interested in getting a credit card or are unable to qualify for it because of low credit scores or in many cases simply no credit history, and that's where our new lease to own program comes in.
Throughout the second quarter, we continued to see customers use lease to own to acquire products across a wide variety of categories with the largest being computing.
We also continue to see a significant number of customers take advantage of the 90 day purchase option, which consist of an initial payment plus the retail price.
Later this quarter, we expect to launch lease to own in nine more states, including California, and New York, which will complete our full 45 state roll up we believe that this program will build over time as our associates continue to get up to speed on the offer consumer awareness of it grows and as we enhance the customer experience both in our stores and online.
As we continue to implement these important customer facing initiatives. We're also taking steps to evolve our retail model in Q2, we made strategic changes to our field operations to accelerate growth and to create a more seamless customer experience across all channels.
We did this because we know that customers interact with us across all channels, but at times, a big it can be confusing a repetitive for them to navigate best buy as we were organized.
At the same time as we look at our penetration by geographic market, we see that it varies wildly yet our tools and structure have been one size fits all for our local markets. So we have reengineered retail in a way that puts the customer at the center and empowers the local leaders to serve their customers in ways that best suit them and take advantage of local opportunities. We have put single leaders in a position to be accountable for stores services supply chain in whole propositions in their market.
We believe these changes will simplify processes and allow us to seize growth opportunities within individual markets. It will also create an environment for our employees to grow and allow our teams to collaborate more effectively and efficiently in service of our customers.
One of the opportunities we continue to be the most excited about is home, where we continue to increase the number of in home advisors to meet consumer demand and expect to be at around 700 advisors at year end with the changes we made to our operating model. There is more local leadership support to deepen the advisors development customer expertise and performance and we are focused on a seamless customer experience in home no matter, how it's delivered.
We also continue to focus on developing digital innovation and marketing strategies to drive engagement with our customers. For example for back to school, we are integrating influencers and you tube into our advertising in an interactive way.
Also this year, we have increased our use of digital videos that feature real life best buy associates, providing authentic tech insights. These video celebrate the passion expertise and knowledge of our people highlighting the role they play as inspiring friends for our customers.
This is driving increased trust among viewers and the highest unique viewers and watch times, we've seen across our Youtube channel from a digital innovation standpoint, starting with the Samsung Note 10 launch best buy dotcom launched the ability for customers to trade in their old phone to purchase a new one something that was previously only available in physical stores.
Since we have expanded this to a multichannel capability a customer can put the full trade in value of their previous own towards the purchase of a new device instantly, thus improving the customer experience regardless of the channel.
To improve the home theater shopping experience in the App, we launched augmented reality capabilities that can help customers select the right TV. This new capability allows customers to place three dimensional virtual PBX that are directly scale to size on a wall or table. This feature is driving higher customer confidence in choosing the right screen size and as a result higher conversion and we expect to also reduce returns.
Supply chain is also an area, where we have strong momentum.
Since our last earnings call, we have automated three additional distribution centers across the country and we will go live with another automated facility prior to the holiday season.
We also relocated one of our local distribution centers to a larger facility to support our growth in major appliances.
These changes support our strategy to offer enhanced speed of delivery to customers.
As we have shared previously we offer same day delivery on thousands of items in 40 metro areas.
And while same day delivery is an important offer we have found that our customers really value two things they want free delivery and many want to be able to get it. The next day. We offer next day delivery bring thousands of products in 64 metro areas that reached 80% of best buy customers. This is free for orders over $35 and does not require a membership fee.
Of course, you all know that we also provide our customers the extremely convenient option to pick up their products at one of our nearly 1000 stores. What you may not realize is that we promise there items to be ready within one hour of placing their border and on average those orders are ready within just 40 minutes.
We also continued to drive efficiencies and reduce costs in order to fund investments and help offset pressures during the second quarter, we achieved $155 million in annualized cost reductions and efficiencies, bringing the cumulative total to $730 million since Q2 fiscal 2018.
This is toward our fiscal 2021 goal of $600 million. So we've not only exceeded our goal we did it over a year early.
We have now successfully delivered on the re considerable cost reduction targets in the last seven years totaling more than $2 billion. We plan to provide a new long term cost reduction and efficiency target at our Investor update next month.
In summary, we are pleased to report strong results for the first half of the year and we're excited about the long term opportunities ahead of us as we continue to make great progress on our building the new strategy.
I want to thank our associates across the company for their hard work and dedication every day to help deliver on our purpose to enrich lives through technology.
At best buy we strive to be a purposeful values driven human organization with that in mind. We are very proud of the recognition. We have received in recent months for being a top employer. We ranked number seven on Forbes list of America's best employers for women and for the first time earned a spot on and deeds lift of the 50 top rated workplaces.
We were also named a best place to work for disability inclusion and we are changing the world together as noted by Fortune magazine, which recently included US on its changed the World list. This list recognizes companies for using their business strategy and operations to make a positive human social or environmental impact.
All of these awards underscore our mission, which is to build a purposeful company that does good things for the world and great things for all our stakeholders.
Now before I turn the call over to him I would first like to say a few words about our new CFO , Matt business for obvious reasons. The search for a new CFO was a personal one first I was picking the person to take my old job and run a function and team I know and love and second any CEO will tell you that a strong finance partner is critical to their personal success and the success of the company Daily I worked closely with Matt for more than a decade, I trust him and Im completely confident that has experience skills and commitment to the company's continued growth make him. The perfect choice for this role I will now turn the call over to Matt.
Thanks, Corey good morning, Hello, everyone. It's a huge honor to be given the opportunity to help lead. This company forward as CFO , we have made tremendous progress in how we enrich people's lives through technology and I am confident we will continue to build even deeper relationships with our customers as we serve them online in stores and in their homes. During my 13 years at best buy have had the benefit of being in the field working with the international team and leading financial planning and analysis teams. During the turnaround effort now I'm excited to lead our other world Class Finance organization, which has been instrumental to our success here at best buy now into Q2 financial details.
Let me begin by talking about our results versus expectations. We shared with you last quarter on enterprise revenue of $9.54 billion. We delivered non-GAAP diluted earnings per share of one dollar needs of VBS results exceeded our expectations and our revenue performance was near the midpoint of our guidance range, our operating income rate exceeded our expectations, primarily due to strong expense management.
Although our effective tax rate also provided a benefit of approximately two cents versus our earnings per share guidance.
I will now talk about our second quarter results versus last year enterprise revenue increased 1.7% to $9.54 billion, primarily due to the comparable sales increase of 1.6% enterprise non-GAAP diluted EPS increased 17 cents or 19% to one dollar in eight cents.
This increase was driven by one increased operating income dollars from both a higher operating income rate and higher revenue to five cents per share benefit from the net share count change in three or four cents per share benefit from a lower effective tax rate.
In our domestic segment revenue increased 2.1% to $8.82 billion. This increase was driven by a comparable sales increase of 1.9% and revenue from Grieco, which was acquired in October 2018.
Partially offset by the loss of revenue from 13 format store closure large format store closures in the past year from a merchandising perspective, the largest comparable sales growth drivers were appliances, which includes both majors and small appliances tablets in headphones.
These drivers were partially offset by declines in our gaming in home theater categories. In addition, a comparable sales in the services category increased 10.7% versus last year.
Part of the growth due to the rule is due to the refinement of revenue recognition for our total tech support offer Inc. Q4 fiscal 2019, we refined the revenue recognition for a total tech support offer because we had sufficient history of member utilization to move from recognizing revenue on a straight line basis over the membership contra to recognizing revenue on a usage basis, therefore, better matching the fulfillment costs with revenue.
This results in more of the annual fee being recognized upfront as the customer usage for the program is heaviest when they first become members. This refinement of revenue recognition impacts new contracts created since the start of our fiscal 2019 fourth quarter on a prospective basis.
Domestic online revenue of $1.42 billion was 16.1% of domestic revenue up from 14% last year on a comparable basis, our online revenue increased 17.3% on top of 10.1% growth in the second quarter of last year, which was primarily driven by higher average order values and increased traffic.
In our international segment revenue decreased 3.4% to $715 million. This was primarily driven by a comparable sales decline of 1.9% and approximately 120 basis points of a negative foreign currency impact the comparable sales decline was driven by Canada and was partially offset by comparable sales in Mexico.
Turning now to gross profit the enterprise gross profit rate increased 10 basis points to 23.9%.
The domestic gross profit rate was 24% versus 23.8% last year.
The 20 basis point increase was primarily driven by the impact of great called higher gross profit rate, which was partially offset by higher supply chain costs.
International non-GAAP gross profit rate increased 70 basis points to 23.8%, primarily due to a higher year over year gross profit rate in Canada, which was driven by higher margin from the services category.
Now turning to Us unit.
Enterprise non-GAAP estimate was $1.9 billion or 19.9% of revenue, which increased $24 million in decreased 10 basis points to last year as a percentage of revenue.
Domestic non-GAAP best DNA was $1.74 billion or 19.7% of revenue versus 19.8% of revenue last year.
Yes, you know dollars increased $23 million due to great calls operating expenses and higher advertising expense, which was partially offset by lower incentive compensation expense versus last year.
Internationalist unit was $166 million or 23.2% of revenue versus $165 million or 22.3% of revenue last year.
The $1 million increase included an impairment charge for discontinued technology in Canada, which was partially offset by the favorable impact of foreign exchange rates.
During the quarter, we recorded $48 million restructuring charges.
The majority of which was driven by a retail operating model changes Corey mentioned earlier.
On a non-GAAP basis, the effective tax rate of 22.8% compared to 25.4% last year.
The favorability versus last year was primarily driven by a larger tax benefit related to stock based compensation and the favorable resolution of certain tax matters.
During the quarter, we completed the acquisition of CSP, which was funded with approximately $125 million of existing cash.
The acquisition of CST is not expected to have a material impact on our revenue or non-GAAP operating income of this fiscal year.
We returned a total of $363 million to shareholders through share repurchases of $230 million and dividends of $133 million. Our regular quarterly dividend of 50 cents per share was an increase of 11% compared to prior year as we previously announced we still intend to spend between $750 million in $1 billion on share repurchases in fiscal 2020.
Finally, we now expect the capital expenditures for the year to be in the range of $750 million to $800 million.
Lastly, I will discuss our outlook our outlook reflects the strong earnings performance in the first half of the year as well as our best estimate of the tariff impacts and 'cause consumer buying behaviors in this very fluid environment.
To be clear the guidance, we're providing today incorporates the estimated impact of the list for tariffs that Cory described and also includes our assumptions related to list three moving from a 25% to 30% tariff rate.
Specifically for the full year, we now expect enterprise revenue in the range of $43.1 billion to $43.6 billion and enterprise comparable sales growth of point to a 0.7% to 1.7% as a reminder, this topline growth expectation is on top of the best two year stack in 14 years reflects factors such as the anticipated cyclical slowdown of the traditional console gaming category and the continued maturation of the mobile phone category.
We expect our enterprise non-GAAP operating income rate to be flat to slightly up the fiscal 2000 nineteens rate of 4.6%, reflecting our continued focus on balancing investments in our strategy pressures in the business and the efficiencies.
We expect our non-GAAP effective income tax rate to be approximately 24% and our non-GAAP diluted EPS to be in the range of $5.60 to $5.75, which compares to our previous guidance of $5.45 to $5.65.
I would like to share a few of the assumptions reflected in our annual guidance consistent with the outlook. We provided at the beginning of the year. We expect both gross profit and SG $9 to be approximately flat to last year as a percentage of revenue for the full year. As a reminder, we will also share there would be variations between the quarters our guidance today implies a higher year over year operating income rate in Q3, and the lower operating income rate in Q4, a lower year over year operating rate in Q4. It was assumed in the original guidance. We provided at the start of the year and now also includes the tariff changes we've discussed today.
For the third quarter, specifically, we are expecting the following.
Enterprise revenue in the range of $9.65 billion to $9.75 billion enterprise comparable sales growth of 8.5% to 1.5% non-GAAP diluted EPS of one dollar to one dollar and five cents non-GAAP effective income tax rate of approximately 26.5% in the diluted weighted average share count of approximately 267 million shares.
I would like to provide additional items of color for Q3, we expect our Q3 gross profit rate to expand versus last year. We expect the gross profit rate expansion to be higher than the year over year increase we reported in Q2, we also expect our SG $9 to grow as a percentage in the very low single digits. At this time, we do not expect the recent pair of announcements to have much of an impact on our Q3 performance.
I will now turn the call over to the operators for questions.
Thank you.
Once again, if you would like to ask a question. Please press star one.
Our first question today comes from Kate Mcshane of Goldman Sachs. Please go ahead.
Hi, Good morning, Thanks for taking my question and Congratulations Korean Matt.
Thank you ladies.
I wanted just to ask about the supply chain costs that were noted in the gross margin discussion could you go into any more detail about what drove that during the quarter.
Yes. It is.
A couple of things that sit under that and they've been pretty consistent quarter to quarter.
First the first piece of that is just over arching Lee a little bit more spend, especially when it comes to some of our large cube and the growth that we've seen frankly online where we've been investing in speed. The second part of that is more the strategic side of the investments that we started talking about at our Investor day, two years ago, and we've been been putting some capital into especially as it relates to the things we talked about today around automating some of those metro ecommerce centers.
And around investing in some of the incremental facilities that we need in order to support the large Q growth that we've seen so you've got a little bit of both a focused systemically the higher volumes and then secondarily the more strategic investments. Hence the reason we talk about those continuing throughout the rest of the year.
Okay, great and if I could just ask one follow up about your guidance and the narrowing of the range on the top line could you talk about what's a little bit better than expected.
On the low end of that and is the lowering of the topline exclusively tariff related.
Yeah. Thanks for the question. So so for guidance purposes, I think where we're looking out for the rest of this year one of the thing that sequentially changes from the first for this year is a little bit more of a drag from the gaming category that we saw the first part of the year. So gaming was quite a bit stronger in Q3, and Q4 of last year and so we are seeing a bit of them a bit more weighted impact from that business being expected to be down a little bit more in the back half of this year. That's the biggest sequential probably change going forward as we look towards the back half of the year and to answer the other part of your question Kate that the tariff impact is built in there. It is not exclusively related to the tariff impact US is just taking into accounts with their friends that matts talking about as well as some of our estimates around the the impact of tariff.
Okay. Thank you.
Our next question comes from Peter Keith of Piper Jaffray. Please go ahead.
Hi, Thanks.
Good morning, everyone.
I did want to follow up on the tariff question. So you provided a lot of good detail, but I guess I wanted to understand the approach that you're thinking about for pricing because presumably.
There may not be that many price increases in calendar year 19, but there could be a lot more to comment in 2020. So maybe strategically do you think that your fair share of.
The items will see price increases and how do you think about the sort of the portfolio approach to managing through that.
Yes. This is the most difficult place for us to make projections I think you understand better than anyone there that there is a bit of art and have been a science fascinating as and we don't exactly have a precedent for the quantity of moving pieces that we have in place right now.
There's a few things we're trying to take into account here. So first.
You know this is theres a lot of changes still going on in terms of what exactly is on the less when they are implemented and at what rates and there is even some public comments around potentially some vendors being exempted and so we're we're watching that and there's a lot. That's moving there as second as we've already seen we believe many vendors are going to continue to migrate their manufacturing out of China and so we think that the total percent of business. That's impacted is going to be materially less even just next year, because you're seeing those supply chain already start to move on and then third.
The impact of what we think is really impacted in our business is actually substantially less than the over arching quantity that has affected by tariffs meeting. Our teams are doing really excellent work, we talked about in the prepared remarks with mitigating strategies to help offset some of the impacts here and so that's the piece that impact is actually substantially smaller than the overall affected quantity of skews and so we're working to understand what that looks like into next year, but to get precise around exactly where it's going to result in price increases.
Where the promotional environment will laugh, because we're always going to stay price competitive and how that actually shows up next year. It is it's going to still take us some work from here.
Okay.
Fair enough and then.
Separately.
Maybe looking out to next year and contemplating some near term headwinds around gaming and mobile I was hoping you could talk about some of the.
Technology innovations that you see evolving over the next one to two years and thinking specifically around Fiveg, 8-K, Tvs and and potentially new console cycle. If you have any thoughts on how that may impact your business.
Hey, Peter its Mike. Thanks for the question it might be a little too early to give you specifics on those categories, but we're excited about all of them and I think about.
Corey talked about how we've realigned our field structure to support our.
Markets and that gives us an opportunity as technology needs to be either showcased in the store environment are actually in people's homes to leverage more resources and be able to have a best buy partner with whomever. It may be in this case with Fiveg is our carriers to show what the technology can do well beyond what it would do on a phone like it is today.
We are quite excited about where the evolution mtvs is growing as it plays into our best buy has historically done best showcasing technology and making sure we can get products the customer's homes.
And we will gaming is a drag this year.
Every time, we put a new console cycle, our ability to get products and the consumers' hands in a way that matters to them.
And support them a solution to now in this case with.
Total tech support has us quite excited but we'll probably give a bit more color on those technologies as we get into our fiscal 21 guide.
Okay sounds good thanks, a lot and good luck.
Thank you. Thank you.
Our next question comes from Chris Horvers of JP Morgan. Please go ahead.
Thanks, Good morning, everybody.
So I wanted to follow up on the.
On the guidance question, a little bit more so so just think about it the.
You'd be about 2027 cents year to date.
You got it on Threeq, you about eight cents and raise the year 10 to 15, so it seems like you're lowering the fourth quarter.
I guess implied versus the street by 20 to 25 cents.
Is that accurate and I know you talked about the end of the gaming head winds in the tariffs, but maybe you could talk maybe break that down a little bit more was the gaming headwind that you're now assuming presumably most acute the for Q.
Some are sort of how much do you assume comp might benefit from your perspective as prices go up.
And then on the margin line gaming being worse I would think would be better from a gross margin perspective, but obviously you have the tariffs I know, it's a very specific question, but really trying to understand how we thought about the fourth quarter update.
Yeah, I'll start and then Matt can follow what I would say first of all is that the general cadence of the year is flowing exactly how we expected it.
And so that that's good and I think your estimate on that 20% or 20 cents plus side, taking it down is on the high side, because we thought early in the year and there would be some pressure to Q format will go into that a little bit, but what I think overarching Lee what I would say, it's it's it's less of a take down in that and it's more what were talking about before us just trying to do our best to estimate what we think with all the mitigation strategies. What we think some of the implications might be in Q4, which we said on the call that a bit of a moving target Matt maybe you can provide some more color on what we see going into the year, absolutely. So Q4, though our rate is largely being driven by a number of items, we contemplated in the original guidance.
It's primarily result of lower gross profit rate compared to last year and there are a number of factors that are driving that but first it might be helpful to point out for the last three quarters. We've been seeing some sources of expansion that will lap in Q4. This this year on the first one is the revenue recognition refinement that we made to fuel Tech support offered last Q4, that's been of expanding our margins a little bit for since since Q4 last year. The second is the acquisition is a great call, which we completed October last year, and we cycle out in Q4. This year, so that will be a source of expansion and on top of that what we're seeing is slightly lower product margin rates in Q4 were giving it seemed a little bit of flexibility. It's important for them to have some to navigate through the holiday periods of property rates are down a little bit in Q4, or the second source of a little bit more pressure that we contemplated already was the services category. We are seeing we know we have a reduced profit share in Q4, because we had one last Q4. The other is in the area of supply.
Delivering install where we're seeing a higher volume of large product that requires a little more installed cost and delivery costs.
And lastly, we knew that supply chain cost would continue to be a drag you were here in Q4. They are a little more of a drag in Q4 than they are going to be in Q3 again all of those things were contemplated as we went into the guidance at the beginning of year. The one thing we did add was the expectation of the tariff impact which is already mentioned.
So that would be the new thing that we've put in but we knew most of that pressure was coming when we started the year.
Got it understood and then as a follow up to the serve the gross margin in Canada.
It was very strong here in the third quarter and.
Presumably this is the the maturation of the services model.
In that market, which I believe launched ahead of the U.S. So.
So what it what does this tell us about you know that the gross margin Tailwinds that you might see as you get into 2020 in the domestic business given that it is lagging from rollout perspective.
Yes, so first I want to reinforce what you said, which is it's definitely we're seeing Canada lap now a few years of having their version of what we call total tech support but their version is quite different so I want to be clear about that they and we talked about that before they started with different models than we have in their case. Most often it is such an offer that includes a warranty proposition with it but also how support across the business. It's offered a little bit differently by category. So I wouldn't say exactly what they are seeing is going to be perfectly replicated in the U.S. because we're looking at more of a peer support offer.
But at the same time, we like what we're seeing there we're trying to learn from what they are doing in Canada and at the same time figure out whats right for our customers and obviously, we're not guiding next year, yet, but like we said in our prepared remarks were happy with the ramp and TTS and the best news as our customers clearly value having support across their devices, whether they bought them from us or somewhere else and so that frankly and the stickiness with those customers. That's what's most important to us here in the U.S.
Got it that's some blocking back half.
Yes.
Our next question comes from Anthony Chukumba of loop capital markets. Please go ahead.
Good morning, and thanks for taking my question.
Encore you provide a little bit of color on the on rent to own.
It's going to be I guess role that's one additional nine states any color you can provide in terms of the comp lift from rent to own I mean was it wasn't material in the second quarter and what are your expectations for for that comp lift as the year progresses. Thanks.
Yep.
So what I'd start with is that as we said at last I am going to consistently saying. This is a great offer it's great for our brand it's great for our customers add and I think we said it on the prepared remarks financing options for our customers is really important in that 25% of the business done on our own branded card you can see that it's important to have options. We always start with about by credit card, but now we have something additional that is available to customers why there might not want that as an option or or might not qualify.
Lease to own is having a positive impact on our comps, but we're not going to share the exact details and the reason is because.
This is a program we would expect to build over time, we're still really early in this line I mean, we're only into the first quarter of having it rolled out two thirds of our stores overtime. We think our sales associates will get more and more comfortable with the offering for our customers, we think customer awareness well continue to increase.
We need to continue to implement some experience improvements and ideally we want to make this available online and next year as well as obviously very important haven't digital offering and then to your point, we saw nine states. So two of those in California, and New York's some big ones. So like we expected were definitely still seeing a number of customers use this program for either new to best buy or that we haven't seen for a while.
And so we continue to like that we'll give a little bit more color on this one at the Investor update next month, but in general we definitely like how it's ramping and pacing and most importantly is something that our customers seem to like and the feedback we get from our associates is also but it's it's really nice to have this as a secondary financing option.
That's really helpful. I'll see you in September .
Yes, well thank yielding.
Our next question comes from Michael Lasser of U.S. Please go ahead.
Good morning, Thanks for taking my question, presumably you had existing purchase orders in place for your holiday product.
Prior to when these tariffs are going to come in and and your vendors are the importer of record two or are you going to be sharing in the actual tariff impact given those dynamics and if so can you quantify what.
The price increase you Fad contribution you factored into your fourth quarter comp guidance. So it looks like the domestics when no 1% to 2% range in and then as part of that how has the elasticity of the laundry equipment business that did see some tariff earlier informed your view on how this whole situation going on.
Thank you very much.
Hey, Michael It's Mike I'll start and then maybe Corey can chime in and when I look at his answer. Your first question, yes, all of our vendors, we have existing purchase orders forecast commitments and contracts around what we pay for items and how we bring them into the country.
To give you color on what might be changing it'd be far too soon to tell you that because some of the stuff is already been on the water. Some of this stuff is actually in the U.S. Some of the stuff may not have price increases some of these items.
May evolve to different models before there's any really significant price impact whether they do get sourced from another factory outside of China, We really refer to something else that's going to the feature set that would warrant a price increase so.
As we tried to explain in our prepared remarks, it's very very fluid as to what we're doing the one thing I would probably leave you with on that point is the significance at best buy plays.
In the overall concern about truck market worldwide does give us more leverage than I think.
Then it then we can probably explain on a call like this.
But it gives us exposure because of what resource merchandise from the ability to get the customers with the newest technology to create.
The right buying cycles is really important and we're working with every one of our partners from where they source whether the importer of record as you noted to mitigate any impact to consumers on pricing and to us.
On the comment around appliances.
There is very little to draw from that and then I'll, let Corey out anything in between given we've been living with price increases from a variety of reasons for the last almost two years that category is very driven through duress and replacement and there's a different elasticity when you're not trying to drive demand for natural purchase so weve got good in understanding but it doesnt apply a lot of go forward logic here. So yes, what's really tricky and we started on it with that the earlier question. I mean, we think that all of our total cost of goods sold about 60% comes from China, but it's a massively smaller portion of that that is actually we think affected by the tariffs because of some of the negotiating power because of the mitigating strategies that we're putting in place to your point about price elasticity Q4 is also really different quarter I mean keep in mind. This is this is a very promotional quarter ends we will always be price competitive. So the team is working through what stands from prior history of price elasticity.
The little bit different in Q4, so to Mikes point, we've got a team is working with our vendors doing a really excellent job.
With the various mitigating strategies that they have in place and then frankly positioning us for the holiday really well.
Yes. Thank you my follow up question is on the progressive who.
We shouldn't it seems like Thats, gaining a good amount of traction given all the comments that you've made would your domestic comps have been positive without the progressive relationship.
Is that we're not going to give the exact comp for progressive like we said before because mainly it's really early we're still ramping we're learning a lot and ideally over time, we continue to generate better results from that.
Okay. Good luck with the rest of the year. Thank you very much.
Your next question.
Our next question comes from race still channel of consumer Edge Research. Please go ahead.
Great. Thanks for taking my question, how do you think about your TV assortment now versus prior years, a couple of points on that would be different approaches. Your vendors are taking on smarttv and as a result over the top services and then how do you think about your TV supply chain product mix compared to others in terms of geographical sourcing around tariffs. Thanks.
Hey rates, Mike. Thanks for the question I feel very good to answer your question about our TV assortment now versus prior years best buy has a history of leading innovation in this space, whether it's the connectivity the device.
The technology and the screen or what size Tvs and those are the three factors I think people are looking at the most interestingly as more people look for solutions with streaming services I would hope you would see best by taking a leading role in helping explain what people can do that it didnt think was possible and getting a unified experience across multiple sets in our homes are finding ways to perhaps save some money and we are working on ideas that can take advantage of the fact that 25% of our customers use the best by credit card and how can you blend. The fact that we can help making buying device easier, perhaps what you want to do with it so I'll stop the comment with with that there.
When I think about our TV supply chain.
Yes Tvs are impacted.
On list for a those are specifically TV is our source out of China, and so just as a reminder for.
The group listening that a bulk of best buy's businesses and large screen size and those changes are sourced out of Mexico and that those products are primarily 55 inch and larger TV sets and we feel very good about those and where their physician and our inventory levels and the prices and the promotions will build a run on those and when it comes to the products are sourced out of China.
Within the advanced lead time I also feel good about what we have currently in inventory and we will look at our assortment as we move forward based on.
Where the demand signals are if there is any pricing implications to them.
[laughter].
Our next question comes from Steven Forbes of Guggenheim Securities. Please go ahead.
Good morning.
So I wanted to start with a follow up on the tightening of the full year comp guidance in right in the commentary about the second half uncertainty. So maybe if you can just expand on what you are seeing today right as it relates to your consumers conversion patterns.
Both in store and online you know inclusive of trade down or you just lower traffic conversion rates or I mean are you are you seeing anything that gives you pause today or is it more.
Just about conservatism right as we as we head into holiday here.
No I would definitely not characterize us as seeing anything that gets concerned today I mean, I think where we're very pleased with it almost two comp domestically here in Q2 were seeing good buying behavior.
And and I think we continue seeing consumer that's really interested in the products that we sell and still a and b that give us confidence heading into the back half here, we definitely tighten the range because we've just made it through half year and the results are when they are for the first half of the year and then B, we're doing our best to look at specific categories that we'd actually mentioned at the beginning of the year like gaming or like does slow down a normal and just making sure that we feel like we take those into account and then finally doing our best in a very fluid and changing environment to to think through what we think the implications are in our categories in the back half.
So maybe that's a sort of a perfect segue into my follow up you're right. You think about your sort of your initial outlook score.
Certain product category growth in 2020, right, whether it's an acceleration in certain categories like gaming and mobile.
Maybe even too I mean, what what category review sort of the greatest amount of pause right as you conceptualize central demand applications of rising retail prices.
Greg given the likelihood that maybe underlying industry growth should be better next year as well.
Yes, Steve its Mike.
Hi, Peter Essex pretty similar question around what we see for next year.
No I said, the best way I would characterize it is there is a lot of technology. That's on the forefront of becoming more mainstream for consumers with what we're seeing this year 18 TV is a great example of the connectivity solutions with streaming is a couple of services that are going to go live later this year that will create excitement in this space. This continued demand for people to want to stay connected and I think that's the way we're building relationships and memberships around our total tech support offer I've put those all together adamant that things were seeing with good tailwinds like our appliance business. The places that we're competing very well that's how I would look at the.
Landscape of categories right now, but again, it's too soon to give category specifics for our fiscal 21 guide.
Thank you.
Our next question comes from purchase Nagle of Bank of America Merrill Lynch. Please go ahead.
Hi, good morning, Thanks, very much for taking my questions.
Maybe just a little more specificity if you could.
On gaming and why you think.
I guess second half year might be a little bit tougher than you initially thought.
I understood your comments correctly.
Yeah, but you know the gaming cycle. It is a well known as the years progressed, what we've seen is as more visibility to a couple of new platforms that have yet to be announced that are well the oh, well regarded as a coming into play by next holiday season. The demand on the current council businesses just off slightly more than we would have anticipated and some of the things that are filling in the space that always happens when a gaming cycle happens or are coming in at lower price points. The demand is quite good but it's coming at a lower ASP. So based on those factors and looking at where the category isn't it cycle in advance of its next rather that would probably indicate why we see some softness more than we expected.
Got it okay that makes sense.
And Matt I think you alluded to this in some of your commentary in terms of Ah.
I think that for Q.
But you know what what are you guys expecting in terms of promotional intensity in the quarter I know things are very fluid, but yeah any any more color on that would be helpful.
Yeah, I think Q4, I mean, it it's always a promotional period and obviously, we've said it before see is often used as a traffic driver as that eye catching price point, we would continue to expect that to be the case and this Q4 and I think we continue to expect that bad deals to start earlier to last longer I mean, all the things that we pretty consistently been saying I don't see anything that we currently out of the ordinary or anything in front of us that looks completely different but it's always a promotional period and I give our team the ton of credit for their ability to plan for and then really effectively managed through any great Q4.
Okay. Thank you very much that make sense.
Our next question comes from Simeon Gutman of Morgan Stanley . Please go ahead.
Hey, Thanks, Good morning, just to clarify something on the guidance and just as a I guess on a cautiousness amount or uncertainty consumer spending in the back half it sounds like that's entirely pushed into the fourth quarter right. There. We're not seeing anything that gives you pause around the third quarter and Corey I think you mentioned its a mix of tariff uncertain of uncertainty as well as a little bit of category uncertainty and then as just as part of that and you were asked this earlier Corey.
If you look at like the in home advisor business, not seeing anything where you know conversion is being affected or you're seeing lower tickets are just consumers, taking a lot longer time to decide to convert on orders.
Well start with the latter from an I.E.J. perspective, where we're not seeing really any changes in behavior. As we continue to and that's why we made a point that continue to ramp our I.E. jazan, we're matching that to the demand that we're seeing and we continue to add Tim really like how that business is performing so not not really seeing anything there Matt I don't know if you have any comments on that overall topline no. The overall top line I think beautiful like we said, we see categories come up and down like we always do is we look at this point in the air gaming as like we said as the biggest sequential drag as you look at the back half I think the rest of the categories. As you look into Q3 or kind of like what we expected them to be a gaming be the little bit of a change I think there's also like what you said earlier, there's always a level of caution as you look at the back half of the or in this with this type of market. Most of that is probably view towards Q4, but there's also a little a little bit over in Q3 as well as we start to see that the tariff start to come in.
Okay. That's helpful. My follow up just one more on lease to own can you can you share with us I'm, assuming your expectation is that it's going to bring in or you're going to find new customers into the business, but can you tell us thus far in the markets that its been rolled out is it just isn't isn't an existing customer who's just electing to finance their purchase differently or is it a new customer to best buy.
So we definitely are seeing some level of new customer I mean between the new customers that we're seeing and what I call Reengaged. Our people, we havent seen very frequently that's actually the majority of what we're seeing use the program. So we like the fact that it's it's engaging for us a very different customer maybe one that's been less frequently.
Got it okay. Thanks, good luck.
Our next question comes from.
Ryan Nagel of Oppenheimer. Please go ahead.
Hi, Good morning, Thank you for taking my question.
Congrats Macquarie ma'am.
Thank you a question I have.
You talked you we spend a lot of time talking here about.
Just the uncertainty that tariffs and maybe some product cycle as you bring to the second half of your you've done a great job managing she may even while you're investing.
Continued investment business. So the question I have is to the extent that sales.
Due to lack of Choppier maybe softer.
Over the next few quarters.
[laughter], what levers do you have on yesterday, Saudi what how how would you how could you react on yesterday side often to offset that.
Yes, I'm going to answer this in two ways. So first I'll, just say directly tap, but as you know I mean I think this quarter was a great example of our team really being able to continue to find cost efficiencies in the business and to continue to manage the business really tightly and I think we have a pretty good track record of being able to flex with the business ebb and flow and so I feel really good heading into the back half that our teams are well set up to be able to to manage the s. DNA in a way that makes sense that being said we've been very clear that are going to continue to invest in the business in ways that are going to bring the strategy to life and I want to be clear and say, we continue to invest in the business and we believe strongly in the strategy that we're bringing on and we're going to we're going to make those choices as we go through quarter to quarter and so yes, we definitely can manage whats manageable behind the scenes, but we're also very very thoughtfully I'm trying to make sure that we invest and you've seen the returns on those investments continue to improvements.
I think I think it feels like we're doing the right thing that being said I mean, I know that the start of the question is all about kind of the the choppiness of the topline here's what I'd say is not set at two weeks, we continue to be pleased with people and customers interest in technology and while yes, obviously, we're trying to take into account. The tariffs that is genuinely continuously very quickly evolving situation and I just want to reiterate that our teams are doing excellent work with mitigation strategies and at the same time, we're already seeing a lot of our vendors make some moves in and moved considerably some of that product any current we talk about our current percent of cost. We think next year that percent of cops can be more like 40% and so I think it's really important to note that while we're talking about a little bit of a choppiness for the back half the teams and our vendor partners are working together hard tend to continue to mitigate the impact of those tariffs and so yes, we'll continue to work the yesterday, but I also want to be clear, we like where the strategy is going and we continue to have a really strong point of view that custom.
Others are interested in that we were coming to market and the products that we have.
Got it and then a follow up and then I apologize because I think it's something you have to questions here to some extent center [laughter].
I'm going to add one more thing to happen. If we look at the narrowing of the guidance for the year, Okay, and I know two or so next year, we're splitting hairs because it goes on that respect you mirror more fun to talk and then you can the bottom yet.
If we were if tear ups were not an issue if it's your if you're not going to consider how would that guidance how could that guidance mark how could the shipment guidance.
So this is.
The hardest question and almost nearly impossible for me to answer because the parents aren't just about how they impact the individual skews. There also about the consumer conditions, the macro conditions and we've seen I mean typically at a point of conversation probably 18 months now and so the constant morphing of tariffs and having that as part of the conversation is literally almost impossible for me to strip out. They just lift for did this and it's more of trying to take that big step back and say well why do we see as the applications, where do we see the consumer and how do we think thats going to impact the back half and and again remember part of the narrowing of the range is also just what weve seen already in the first six months of the year. So it just it is impossible to strip that out.
Yes, Sir.
I appreciate it thank you.
Oh, thank you.
[noise] [noise] before ending Ah. Thank you for the questions I think that was our last I would like to thank you, Matt and congratulate you on your first earnings call and thank you Mike for joining us and I would also like to remind everyone that we will be hosting an investor update meeting on September 25th from the New York Stock Exchange, where we will have the pleasure of sharing with you an update on our strategic progress. The event will be webcast live and additional details can be found on the Investor Relations section of our web site. Thank you.
[noise], ladies and gentlemen. This concludes today's conference call. Thank you for your participation you may now disconnect.