Best Buy Agrees to Buy Musicland Stores

In what may be the biggest merger in music retail history, consumer electronics giant Best Buy Co. has agreed to acquire Musicland Stores Corp., the nation’s top music retailer, for $685 million.

The combined company, which plans an aggressive conversion of mall-based music stores into multimedia centers selling an array of consumer electronics and digital products, would have more than 1,700 stores throughout the country.

Best Buy shares lost as much as 27% of their value Thursday, falling to a 52-week low of $21.56 before rebounding to $22.94 at market close on the New York Stock Exchange, due to investor concerns about the Minneapolis-based chain’s strategy and sluggish music sales at retail stores.

At Wednesday’s International Recording Media Assn. Market Summit in Universal City, CD replicators expressed concern that capacity is outstripping demand, which after rising 4% this year is expected to remain flat in 2001.

Last month, Musicland, also based in Minneapolis, said same-store sales fell 3% in the four weeks ended Nov. 25.

Word of the Best Buy acquisition sent Musicland shares soaring to a new 52-week high of $12.44 before closing at $12.13, up 18% from the previous day’s close of $10.25 on the NYSE.

Scot Ciccarelli, an analyst with Gerard Klauer Mattison, said Wall Street is nervous about Best Buy spending so much money so soon after it told analysts its second-half profits would be less than forecast, an announcement that led to a record 39% drop in Best Buy’s share price Nov. 9.

“I don’t think the timing is very good,” Ciccarelli said. “This comes amidst Best Buy’s own business going through a difficult period, and now they’re going to be taking on the added burden of a mall-based music retailer, which is a tough business, and spending a lot of cash to do it.”

Ciccarelli said the move into mall retailing, with a product mix “a lot like Radio Shack,” could prove a rude awakening for Best Buy. “It’s very different, from an operational standpoint,” he said. “They’re used to operating in a big box format, in which they can be very aggressive on pricing and promotions. But your costs are much higher in a smaller, mall-based store, so I don’t think they’re going to have as much pricing flexibility.”

In a separate transaction, Best Buy announced it is buying 13-store Magnolia Hi-Fi Inc., a Seattle-based chain of high-end audio and video hardware stores, for $87 million.

Best Buy also announced its first international expansion move, with plans to open approximately 65 stores in Canada over the next three years. Eight leases have already been signed.