Home Depot Grows Uneasy

A shelved buyback signals the retailer is uncomfortable with its already-battered stock price.
Author:
Publish date:

As the downturn in the U.S. housing market continues to clobber

Home Depot

(HD) - Get Report

, the retail giant is backing off its share repurchasing -- a sign that it may be uncomfortable with the level of its stock price.

The home improvement chain reported a 27% drop in third-quarter profits on Tuesday amid sales declines across all categories, except kitchen appliances. It also cut its profit forecast for the year, signaling that its outlook has significantly deteriorated in the past two months.

In a blow to investors, Home Depot said it's taking a "cautious stance" on its recapitalization plan in the face of turmoil in the credit markets and increasing uncertainty about the future of housing. During the quarter, the company sold an 87.5% stake in its supply business for $8.5 billion and used the proceeds to fund $10.7 billion in share buybacks -- about half of its overall $22.5 billion repurchase plan.

The rest, said the company, will be put on hold.

"It's not something that will happen in the remainder of 2007," said Home Depot's chairman and CEO, Frank Blake, on a conference call with analysts following the earnings release. "We think it makes sense to look at the housing market and see what's happening in the housing market before we go any further."

In addition to sales weakness, Home Depot has struggled with its strategy, its execution and its corporate governance. The sale of its supply business amounted to an abrupt retreat from a market that was touted not long ago as a new engine of growth for the retailer.

Now, Home Depot says it's free to focus on its core retail business, which has been hampered not only by the housing downturn, but also a reputation for shoddy customer service amid draconian cost-control efforts.

Over the past two years, Home Depot plunged headlong into the supply business to counter concerns that its retail chain was running out of room to grow in the U.S. Blake's predecessor, Bob Nardelli, oversaw 27 acquisitions in the space before he was ousted in January amid intense criticism of his compensation and corporate governance practices (Nardelli was recently hired by Cerberus Capital Management to run Chrysler, the ailing Detroit automaker).

Throughout Home Depot's travails, it became a value target on Wall Street based on the quality of its underlying retail business as some investors judged that its share price had become cheap. Home Depot's massive share repurchase plan was viewed as a sign of the company's faith in that view, but Tuesday's announcement suggests that its confidence in buying back shares has been shaken, even as its stock is down 29% so far in 2007.

Home Depot posted third-quarter earnings of $1.09 billion, or 60 cents a share, down from $1.49 billion, or 73 cents a share, a year earlier. The bottom-line results matched analyst expectations, but the EPS included a 1-cent gain from discontinued operations, suggesting that the company actually missed Wall Street's estimate by a penny.

Home Depot's sales slid to $18.96 billion from last year's $19.65 billion, missing Wall Street's forecast of $19.39 billion, based on the average estimate reported by Thomson First Call.

"We are facing a tough environment as housing indicators continue to deteriorate," said Home Depot in its earnings release. "Our financial performance in the third quarter reflects these tough conditions."

For 2007, Home Depot expects earnings from continuing operations will decline by as much as 11% from last year. In September, the company forecast a 7% to 9% decline in fiscal-year earnings. While that view was better than its prior forecast for a 12% to 15% drop, the improvement was entirely due to the big share buyback in the aftermath of the supply sale.

Now that the buyback is halted, the improvement in its outlook for 2007 has been erased. Meanwhile, housing foreclosures are expected to crescendo in 2008, and price declines in many real estate markets around the country have yet to run their course.

Shares of Home Depot were recently up 4 cents, or 0.1%, to $28.50.