Home Depot (HD) shares are down 1.8% for 2016. The stock would have been lower, but investors are buying the stock ahead of the company earnings report on Tuesday.
Home Depot stock has backed off the $138 level it hit after the August earnings report. In mid-August, Home Depot reported earnings per share of $1.97, in line with the consensus estimate. Revenue rose 6.6% to $26.47 billion, almost exactly the average analyst estimate. The company reported net earnings of $2.4 billion, the highest in the company's history.
Same-store sales were 4.7%. Comp sales for just the U.S. stores rose 5.4%. The same-store sales figure lit a fire under the shares, and Home Depot jumped to a 52-week high. A 2.3% increase in the number of transactions, a 2.4% increase in the average ticket, and a 4.3% increase in sales per square foot really helped comps.
The quarter was solid, but after hitting a 52-week high, investors backed off the stock because management failed to increase guidance and instead maintained previous guidance. The company said that fiscal 2016 sales would be up 6.3% and comparable-store sales would increase 4.9%. Home Depot did increase its earnings per share guidance from $6.27 to $6.31. EPS guidance was raised because of a $5 billion stock buyback and slightly lower-than-expected expenses. Now expenses, as a percentage of revenue, are forecast to increase 32% instead of 35%.
Home Depot reports third-quarter earnings on Tuesday. I am concerned about two issues going forward.
First, Home Depot is up against tough comparisons in the third and fourth quarters. Last year, it reported third-quarter comps of 5.1% and fourth-quarter comps of 7.1%. Those are tough comps to beat, especially the fourth quarter. And it's not just the third quarter and fourth. Consider that Home Deport is up against a stiff first-quarter comp of 6.5% from this year. Same-store sales have been slowing. On a two-year stacked basis, first-quarter comps were 12.6% and second-quarter comps were 8.9%.
Second, Home Depot valuation is pretty full. Home Depot is already trading at 20 times this year's estimates and about 18 times next year's estimates. If same-store sales are just OK (and not a massive blowout), I think the stock could sell off.
I know that investors will argue that Home Depot is a large-cap name that can deliver double-digit earnings growth (16% this year and 13% next). But the valuation looks pretty full to me. I think Lowe's (LOW) is a better buy with less downside risk.