Home Depot Has Doubled S&P 500 Gains This Year

(Sundry Photography)
(Sundry Photography)
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Yesterday, on the ROIC portal, a user asked about Home Depot (HD) as a stock that potentially pairs nicely with the upward momentum in homebuilding. Today, we take a closer look at the largest home improvement retailer.

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Company Overview

  • The Home Depot, Inc. (HD) is a home improvement retailer offering customers an assortment of building materials, home improvement products, lawn and garden products, decor products, and facilities maintenance, repair and operations products, and provide a number of services.
  • It operates ~2,300 stores located in North America.
  • Home Depot serves two primary customer groups: Do-It-Yourself (DIY) customers and Professional Customers (Pro)
    • DIY Customers: Includes home owners who purchase products and complete their own projects and installations
    • Pro Customers: Primarily professional renovators/remodelers, general contractors, handymen, property managers, building service contractors, and specialty tradesmen (electricians, plumbers, and painters)

Q3 Highlights

Note: Home Depot’s FY2021 ends on January 31, 2022.

Financials

  • Revenue | $36.8 billion, a 9.8% YoY increase
    • Comparable sales increased 6.1% YoY
    • Comparable sales in the U.S. increased 5.5% YoY
    • Product sales | $35.4 billion (96.1% of revenue)
    • Major Product Lines
      • Building Materials | $13.8 billion, 9.6% growth YoY
      • Decor | $12.8 billion, 14% growth YoY
      • Hardlines | $10.2 billion, 5.1% growth YoY
  • Gross Profit | $12.6 billion (34.1% margin)
  • SG&A | $6.2 billion, up 1.5% YoY (16.8% of total revenue)
  • Operating Income | $5.8 billion (15.7% margin)
  • Net Earnings | $4.1 billion, $3.92 per diluted share

Management Commentary

Craig Menear, Chairman + CEO

“As evidenced by our strong performance in the quarter, our team continues to do an
outstanding job of operating with flexibility and agility … Ultimately, this is what has allowed us to respond to the elevated home improvement demand that has persisted.”

  • Pro customer growth outpacing DIY customer growth: “We continue to see customers taking on larger home improvement projects as evidenced by the continued strength with our Pro customer, which once again outpaced the DIY customer.”
  • On sustained demand: “Demand continues to remain strong. Customers continue to tell us that they have projects on their list. Pros tell us that their backlogs are significant. So we’re going to stay focused on filling that demand.”

Ted Decker, President + COO

  • On comp performance: “12 of our 14 merchandising departments posted positive comps. Appliances, plumbing, electrical, building materials, tools, kitchen and bath, decor and storage, millwork and flooring had comps above the company average. Paint, outdoor garden and hardware were positive but below the company average. Indoor garden was essentially flat and lumber posted a high single-digit negative comp compared with lumber comps of more than 50% in the third quarter of 2020. On a 2-year basis, each of our departments posted healthy double digit positive comps.”

Valuation + Analysis

  • At its current price, Home Depot is trading at ~$457 billion enterprise value.
  • Through-cycle estimates for the company show revenue growth slowing to 2.6% next year with slight margin expansion.
  • Based on analyst estimates for FY23 (ending Jan 31, 2023), HD is trading ~17.4x forward adjusted EBITDA.
  • It’s main competitor, Lowe’s (LOW) is trading at ~13.7x forward adjusted EBITDA.

KR: Home Depot and Lowe’s have both outperformed the S&P 500 this year as the volume of home improvement projects continued to beat expectations. Both companies have averaged a 5% revenue beat on expectations for the past 8 quarters. Home Depot trades at a higher multiple likely due to slightly better margins and superior average ROIC (high-teens to low 20s versus low- to mid-teens). However, both companies are trading at richer multiples than in the past. Home Depot traded around 12-15x EBITDA and Lowe’s traded around 10-13x EBITDA.

Home improvement retailers are more heavily involved in the repair and remodel market versus homebuilding. With professional contractors making up a substantial portion of revenue for both companies, a homebuilding boom will certainly still be a tailwind. The two Big Board positions (especially the number one position – Investor Day recap here) are pure plays on homebuilding and both are trading at or below historical multiples.

JO: At this point of the cycle and valuation, we like $HD as a stable play on construction and will obviously be much more defensible than most “growth” stocks. But given its elevated multiple, it’s clear the market is pricing in strength in the construction market. $HD would be a derivative play on the building and construction trend that is more conservative than the two homebuilding picks we have on the ROIC-B portfolio.

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