Home Depot May Have to Cut Revenue Guidance, Cyclicality Having its Way

Home Depot's Analyst Day is around the corner and the day could be a marker of lower expectations for the year ahead.
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The rough ride for Home Depot HD shares could be just getting under way, if analysts at Wedbush Securities are correct. 

Wedbush analyst Seth Basham wrote in a note that the company is likely to cut its 2020 revenue outlook at its Dec. 11 Analyst Day, as recent disappointments in near-term guidance and cyclical pressures are making management's current 2020 outlook seem unattainable. 

The stock is down 10% to $213 a share since Nov. 18, just before the company beat expectations on third-quarter earnings but cut its fourth-quarter guidance.  

Management cut full year 2019 same-store-sales guidance to 3.5% from a prior forecast of 4%, saying that long-term investments will pay off later than initially expected. At the start of the year, the company had guided for 5% comparable-sales growth. 

Now, "HD may need to reduce its 2020 targets at the midpoint," Basham said. "To meet its original targets, HD will need to increase 2020 sales (and comps) in the +5%-9% range, which by no means is easy to achieve without more macro support." 

He added that decelerating economic growth, a soft -- but recently improving -- housing market and a fading effect from low interest rates are all weighing on demand for home improvement goods. 

The Atlanta retailer in 2017 set a three-year revenue goal, saying it expected revenue to grow at an annual rate of 4.5% to 6% through 2020, which would bring 2020 revenue to a range of $114.7 billion to $119.8 billion. 

Hitting that target would require a comparable-sales growth rate of 5% to 9% for 2020, which now seems a high bar. Analysts polled by FactSet are looking for revenue of $115 billion.

Aside from the macro picture, Home Depot focuses heavily on creating an integrated customer experience, coordinating its digital channel with its brick-and-mortar locations. 

It has successfully initiated a buy-online-pick-up-in-store strategy. But "[while] we expect sales benefits from initiatives to build in 2020 — especially with the company now noting 50 basis points of sales benefits taking longer to realize this year than originally forecast —we see downside risk to these sales targets," Basham said. 

The company had also forecast its operating margin to come in between 14.5% and 15% for 2020, as it has improved production cost efficiencies, but analysts are forecasting the margin to come in a hair above 14%. 

And Basham says "headwinds have accelerated through 2019 and some pressures could continue into 2020 despite [cost] mitigation plans." 

The stock could conceivably fall from here, but Home Depot is now trading at a discount to its 10-year average forward earnings multiple, currently 19.7. 

At last check on Friday, HD shares were 0.8% higher at $214.71.

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