JB Hi-Fi (ASX: JBH) has done a wonderful job at becoming the best music and electronics retailer in Australia. They have blown past all comers – relegating Harvey Norman (ASX: HVN) to second place, forcing Woolworths (ASX: WOW) to put Dick Smith Electronics on the market and seeing off the likes of Brashs, HMV and Virgin over the years, while keeping Sanity effectively on the sidelines.
The 'stack 'em high and watch 'em fly' kings, with their low rent style and on-trend staff and product range have given the competition a textbook lesson in Retailing 101.
They are the only place kids want to go for a great range of music and games, have a large consumer electronics offering and have done a wonderful job of keeping costs down and marketing themselves as the cheapest place to shop for both categories.
When being number one isn't enough
By traditional measures, this should be an article about an Australian success story, but it's not. Instead, I'm convinced that JB Hi-Fi, as we know it, is doomed.
Like the best buggy maker in the business, being number one is no refuge when your core business is disappearing under your feet.
Music downloads have overtaken physical music sales. Ditto movies, where the local video store is becoming harder to find as new digital channels – pay TV, the internet and yes, Apple and its ilk, replace traditional DVD retailers.
Ah, but what about consumer electronics? JB Hi-Fi sells music players, games consoles, televisions and other peripheral devices. Unfortunately, JB finds itself in the thick of it in those categories too. Improvements in production technology and increasing volume (not to mention a strong Australian dollar) are pushing prices down at an incredible rate.
The upgrade cycle will slow
Compounding the problem, consumers have taken advantage of low prices over the past few years to upgrade their home entertainment systems and there's a limit to how many televisions one house can have, and how frequently they're replaced.
Combining those two realities, JB Hi-Fi and its competitors have to try harder to sell the same number of televisions as a few years ago, and are getting much less revenue per unit sold.
We haven't even touched on the threat from online, where internet-only retailers are making huge inroads, and where consumers can easily seek out the best price from a range of online-only and hybrid physical and online retailers, putting huge pressure on margins.
With such a welter of negative news, some have wondered whether JB Hi-Fi has been oversold. Maybe the worst has been factored in? I don't think that's the case – if anything, JB Hi-Fi is a value trap.
Learning the lessons from overseas
The international experience is instructive. Only overnight, our sister site Fool UK ran this story on the UK's former number one entertainment retailer, HMV (LSE: HMV). According to the most recent market-share data, Amazon (Nasdaq: AMZN) has now overtaken HMV to become the number one entertainment retailer in the country –driven by both digital downloads and a wider range and more convenient shopping experience for those who still want the physical discs.
In for the consumer electronics category, the US experience is instructive. The number two player, Circuit City, has disappeared into the history books, and even the market leader, Best Buy (NYSE: BBY) is light-heartedly referred to as the Amazon showroom, with consumers doing research in store before heading home and buying online.
A glimmer of hope
It's entirely possible that JB Hi-Fi will survive as a brand in the coming years. However, if it is to thrive, I think it is inevitable that the business will need to look radically different at that point. Its ability to continue to offer physical CDs and DVDs must be under serious pressure, as we continue to migrate our purchases online; and the company will find it incredibly difficult to sustain a retail consumer electronics offer at store level, replete with the high rents, inventory costs and staff wages, when compared to online retailers with none of these costs.
JB Hi-Fi, to its credit, recognises this risk, and has launched NOW, an online 'all you can eat' music membership service. The question for investors is whether JB Hi-Fi can reinvent itself before it collapses under its own weight.
Foolish take-away
HMV tried to confront its new reality, but so far has failed. The company hit a high of 272 British pence almost 7 years ago to the day. The price is now hovering around 5 pence – a staggering 98% fall – and the company's market capitalisation is now around 22.5 million pounds sterling ($33 million).
I've been concerned about JB Hi-Fi (and to a lesser extent, Harvey Norman) for a while now. The news from the UK overnight is the final nail in the coffin for me.
JB Hi-Fi, while not an exact comparison for many reasons, has a market capitalisation of almost $1.2 billion – around 36 times the value of HMV. If JB Hi-Fi can't find a way to fight back against the threats that confront it, there's a long way to fall.
Scott Phillips is The Motley Fool's feature columnist. Scott owns shares in Woolworths, Amazon and Harvey Norman – but is more nervous than ever about the latter. You can follow him on Twitter @TMFGilla . The Motley Fool's purpose is to educate, amuse and enrich investors. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.
