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Jim Cramer's Action Alerts PLUS

Action Alerts PLUS

Why We're High on Lowe's

BY Jim Cramer and Stephanie Link | 01/28/15 - 04:46 PM EST
Stocks in Focus: LOW

Earlier today, we added Lowe’s (LOW:NYSE) to the Action Alerts PLUS portfolio. We did this for several reasons. The company stands to benefit from extended low interest rates (which the Fed basically outlined today in its latest minutes), low oil prices, and stronger consumer confidence -- all which should lead to higher retail spending.

We’ve already heard from the likes of Wells Fargo (WFC:NYSE) and SunTrust Banks (STI:NYSE) that lower interest rates have led to a recent pickup in their refinancing activity and we would expect, with the 10- year Treasury at 1.7% and the 30-year at 2.29%, this will only continue, leaving more money in consumers' pockets. In fact, the most recent housing data has been better than expected – notably the weekly mortgage application rate and new home sales. We like the duopoly between Lowe’s and Home Depot (HD:NYSE), both of which should benefit from these trends.

Lowe’s is the second largest home improvement retailer in the world, with annual revenue of more than $53 billion, 1,840 stores in North America, and a 13% market share. The company offers products and services for home decorating, maintenance, repair, and remodeling.

The sheer size and scale of the company gives it purchasing power and low-cost advantages, And with its much improved supply chain and logistics platforms, it has a competitive advantage which in turn can be passed on to its customers.

The company has undergone extensive company-specific fixes, improving its value proposition, product differentiation and in-stocking positioning. It has also focused on tailored local merchandising, while profitably expanding its store base in underpenetrated markets. Finally, management has emphasized solutions-based programs for its customers and, namely, the professional. This has positive margin implications, as improved consumer confidence leads to higher levels of spending from more contractors to complete entire projects vs. one-off purchases.

In retail, we always look for operating leverage -- higher margins and lower investment spending, which leads to stronger earnings power. And in this story we have it, with management targeting 150 basis points of operating margin improvement from 2015 to 2017 (from 9.5% in 2015 to 11% in 2017), earnings per share of $4.70 (representing a 21% CAGR), same-store sales at 4% and a return on invested capital (ROIC) of 19%.

Total shareholder return in the next three years is expected to be at least $14 billion, or 22% of market cap or $9.20 per share. This includes at least $10 billion in stock buybacks and $4 billion in dividends, which is a 35% payout or about 26% annual growth.

Longer term, over the next five years, we believe overall sales can grow by 5%, gross margins can expand 150 bps to 36% and SG&A can lever 200 bps to 22%, driven by the company's size and scale advantages. This should lead to a 12% operating margin rate, making the 11% target by 2017 achievable. Much of these goals will be driven by improved penetration of the professional customer market through new brands and the relaunch of LowesForPros, an ecommerce initiative. Also, new innovative products, services and improved omnichannel initiatives will drive consumer loyalty and store relevancy as well as better inventory and utilization rates.

Should the company be able to deliver on its plans, both medium and long term, we see multiple expansion equivalent to Home Depot and thus, a higher share price. The stock trades at 19.6x fiscal year 2016 earnings estimates, below long-term levels in the low-20s. It has a free cash Ffow yield of 5.5% and a 1.3% dividend yield, which we see going higher over time. Our target is $80.

Regards,

Jim Cramer, Stephanie Link, and TheStreet Research Team

DISCLOSURE: At the time of publication, Action Alerts PLUS was long LOW and STI.

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Adding a New Consumer Position
Stocks in Focus: LOW, DG, STI, VALE

We pick up Lowe's, add to SunTrust and DG and jettison Vale.

01/28/15 - 02:51 PM EST
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01/28/15 - 11:46 AM EST
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Stocks we would buy right now

Symbol % Portfolio
Weighting
Industry Trade Now
ABBV 2.55% Drugs
AXP 3.68% Financial Services
CSCO 2.51% Computer Hardware
DG 3.27% Retail
KMI 3.72% Energy
LOW 1.82% Retail
MA 3.33% Financial Services
MCD 2.32% Leisure
MS 2.91% Financial Services
MSFT 2.77% Computer Software & Services
RDS.A 3.96% Energy
RHT 3.64% Computer Software & Services
STI 3.15% Banking
TWTR 2.08% Internet
UN 4.31% Consumer Non- Durables
UPS 3.53% Transport

Stocks we would buy on a pullback

Symbol % Portfolio
Weighting
Industry Trade Now
AAPL 3.54% Consumer Durables
DOW 4.11% Chemicals
FB 3.71% Internet
GM 3.82% Automotive
GOOGL 2.88% Internet
LEA 3.29% Automotive
LULU 2.48% Consumer Non- Durables
MRK 2.76% Drugs
PNRA 2.57% Leisure
SBUX 2.62% Leisure
UTX 4.38% Aerospace/ Defense

Stocks we would sell on strength

Symbol % Portfolio
Weighting
Industry Trade Now
ETN 2.14% Industrial
WBA 3.18% Retail

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