Housing Woes Weigh on Home Depot
Home Depot
(HD) - Get Report
continues to get hammered by a very weak U.S. housing market, a fact reflected Tuesday in its
.
At this point, investors must wait until 2009 for the turnaround story to take place at the country's largest home improvement retailer.
Nonetheless, my thesis on Home Depot, which I feature as a stock to own in the Bricks and Mortar mock portfolio, remains unchanged following today's earnings report.
Home Depot's sales fell 3.4% in the quarter to $17.9 billion. Same-store sales fell 6.5%, which was better than the 8.4% drop that
Lowe's
(LOW) - Get Report
-- the second largest player in the home improvement --
. However, an extra week in Home Depot's quarter helped sales by $524 million, the company said on the call. Absent this week, same-store sales would have declined 9.2%
To some degree, everyone expects 2008 to be a horrible year for Home Depot. The company itself, on a conference call Tuesday, told investors it is comfortable with the low end of its guidance: for EPS from continuing operations to decline 24% from 2007. This excludes the effect of the $543 million one-time charge in the current quarter related to store closures.
Buying Home Depot today is not a bet on 2008, but one on 2009 and beyond. I continue to expect the home improvement retailer will see a turnaround in sales once the housing market begins improving in 2009. This year's earnings decline should be the trough, and once the economy eventually improves Home Depot is in a great spot to capitalize, since weaker mom and pop stores will be pushed out of business by the credit crunch.
Meanwhile, investors buying the stock today are being paid to wait with a 3% dividend yield and a 4% free cash flow yield.
In the putrid housing markets of California and Florida -- where prices have declined 15% in one year -- Home Depot said it experienced double-digit declines in same-store sales in the quarter. These markets represent 17% of Home Depot's international store base.
Earnings per share -- excluding a one-time store closure charge -- totaled 41 cents, down from 53 cents a year ago. Analysts expected 40 cents on this basis, according to Thomson Reuters.
A positive for the quarter was that gross margin improved to 33.9%, from 33.8% a year ago.
But overall operating margins as SG&A expenses rose substantially. Even excluding the one-time store closure charge, Home Depot's operating income margin was 7.1%, down from 7.5% a year earlier. This is partly due to rising gas prices, which increase delivery expenses, and higher personnel costs.
Home Depot's stock fell 4.4% to $27.59 in morning trading. The general market was also weak, with the
S&P 500
down nearly 1% after oil hit a record price of $129 a barrel and the government released inflation data that worried investors.
The Labor Department said wholesale inflation -- excluding volatile food and energy prices -- rose 0.4% in April, which was double what analysts expected.
If you're looking to play the eventual recovery in the housing market, I continue to think Home Depot is a much better and less risky play than homebuilder stocks such as
Pulte Homes
(PHM) - Get Report
and
Ryland
(RYL)
, which I rate as overvalued and rate shorts in the Bricks and Mortar mock portfolio.