As announced in the preliminary results reported on Jan 14, appliance and electronic retailer hhgregg Inc. (HGG) posted third quarter fiscal 2013 adjusted earnings (excluding one-time charge) of 52 cents per share, missing the prior-year quarter earnings of 60 cents by 13.3%. The results were in line with the Zacks Consensus Estimate.

Revenues and comparable-store sales decline, especially in the video category and higher selling, general and administrative (SG&A) expense ratio led to the year-over-year decline in earnings. The decline also partially offset the benefit from improved gross margins and addition of new stores.

Quarter in Detail

hhgregg’s net sales dropped 3.6% year over year to $799.6 million in the reported quarter due to a decline in comparable store sales. Sales also fell shy of the Zacks Consensus Estimate of $813.0 million. However, the company opened 20 new stores in the last 12 months.

Comparable store sales witnessed a 9.7% decline in the quarter compared to the previous-year period as the poor performance of video and other categories overshadowed the improved results of the appliance and computing and mobile phones categories.

Gross margin expanded 10 basis points (bps) to 27.3% in the quarter, resulting from improved margin rates in the video and appliance category, offset by a decline in computing and mobile phone and other categories.

Selling, general and administrative expenses (SG&A), as a percentage of net sales, increased 47 bps in the quarter to 17.4%, owing to higher occupancy costs, offset by cost control measures. Net advertising expense as a percentage of net sales also climbed 8 bps to 4.8% in the reported quarter, due to the deleveraging effect of the net sales decline.

As discussed previously, the video category is suffering from significant top-line pressure due to fundamental shifts and lower-than-expected margins across all screen sizes. In addition, declining industry demand for flat screen LCD televisions severely impacted overall store traffic and video category sales.

However, the company made strategic decisions to improve the gross margin rates in the video category. The company focused on larger screen LED models, which generate higher gross margin rates than smaller screen LCD models. The company also reduced its focus on promotional activity within the video category in the quarter, which thereby improved the gross profit margin rate for the video category and the total company gross margin rates.

Category Details

The company reports its business under the following product categories:

The Video category (comprising 39% of total sales mix) offers premium video products, branded appliances, audio products and accessories. Comparable store sales declined 24.6% in the current quarter compared with a decline of 4.8% in the prior-year period, resulting from double-digit decrease in unit demand partially offset by increase in average selling prices during the quarter.

The Appliances category (comprising 35% of total sales mix) offers a broad selection of major appliances, including latest range of refrigerators, cooking ranges, dishwashers, freezers, washers and dryers, sold under a variety of leading brand names. Comparable store sales in the Appliance category witnessed same store sales growth of 6.1% compared with a growth of 6.8% in the prior-year period, driven by both increase in average selling prices and units sold.

The Computing and mobile phones category (comprising 14% of total sales mix) offers a broad selection of computer and mobile phone products, including notebook computers, tablets and mobile phones. The category reported same store sales growth of 16.2% versus a growth of 91.4% in the prior-year period. The quarter witnessed increased demand for tablets, with less demand for mobile phones.

Apart from the mentioned products, the company also sells Other products (comprising 12% of total sales mix) like audio systems, furniture, mattresses and other select popular consumer electronics and accessories. Same store sales declined 15.2% in the quarter compared with a decline of 7.1% in the prior-year period due to double-digit decreases in cameras, camcorders, small electronics and mattresses, partially offset by sales from the furniture and fitness equipment categories.

Guidance

Consistent with the company’s preliminary third quarter results reported on Jan 14, the Indianapolis-based retailer revised its earnings and sales guidance for fiscal 2013. hhgregg has reduced its earnings forecast for fiscal 2013 to a range of 70 to 80 cents per share, compared with the previous guidance of 90 cents to $1.05 per share.

The company has also lowered its comparable store sales guidance and expects it in the range of negative 8.5% to negative 7.5%, compared with the prior guidance range of negative 6.0% to negative 4.0%. Net sales are now expected to increase in the range of flat to 1.0%, much lower than the previous growth range of 3.0% to 6.0%.

The company expects capital spending of approximately $45 million, also lower than the previous guidance of $50.0 million to $55.0 million. However, the company had forecasted capital expenditure in the range of $35.0 million to $40.0 million in its preliminary results.

Our Recommendation

We are witnessing continued growth in the appliances business, with its introduction of new products in furniture and fitness equipments. The company is also expanding its computing and mobile phones category and focusing on initiatives to drive additional traffic and increase sales.

However, the industry-wide headwind in video category has prompted the company to reduce its dependence on new product innovations in the video sector. hhgregg has also been testing new merchandise categories to improve the overall mix of business from the video category. However, the diversification is expected to take time and thus we continue to expect sluggish performance in the video category over the near term.

hhgregg holds a Zacks Rank #5 (Strong Sell). Stocks in the sector worth considering are Conn’s, Inc. (CONN), Aaron’s Inc (AAN) and Radioshack Corp (RSH). While Conn’s holds a Zacks Rank #1 (Strong Buy), Aaron’s Inc and Radioshack Corp hold a Zacks Rank #2 (Buy).

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