Ease Up On Lowe's And Sit Tight Until 2012

| About: Lowe's Companies, (LOW)

Lowe's Companies (NYSE:LOW), the world's second-largest home improvement retailer, reported net income of $225 million, down by 44.3% against year-ago quarter. In the beginning of this year, the company expanded its store units in Mexico and Canada. By the end of the last quarter, around 20 underperforming stores have been closed

Sales increased to $11.9 billion this quarter, compared to $11.6 billion year-ago quarter, not that impressive at all. In fact, the gross profit margin dropped to 34.06% below 35.05% year-ago quarter. But my question is, should we be in a hurry to write off LOW as of yet? Here's the thing. Its biggest industry rival, Home Depot Inc, records gross profit margin at around 33.99%. And looking at the list of other smaller rival companies, it can be said that it is pretty much around that number, even less in certain circumstances.

But then we come to check something else, and find out that, while Lowe's return on average equitystands at 5.37%, Home Depot's stands at 30.01%. That's a big difference. Is that a marker of the management efficiency there? The return on average assets, recorded at 2.66%, is below 12.85% of Home Depot. Even one of the smaller companies, Lumber Liquidator Holdings (NYSE:LL), records 10.04% ROAA. Not something that we expect from the world's second-largest home improvement retailer, of course -- unless it is on the verge of crashing down.

Robert A. Niblock, Lowe’s chairman, president and CEO, commented:

Our performance is not at the level we expect relative to the market. We are making the changes necessary to right size the organization, improve speed to market and enhance the shopping experience. We are keenly focused on improving our core business while also developing new capabilities and services for the future. I am confident we are moving forward on a clear path that is not dependent on an unlikely near-term economic recovery.

Does he mean what he says? To get a even better view of the company's financial health, let's take a look at the 2010 annual report: Total revenue, recorded at $48.8 billion in 2010, improved from $47.2 billion in 2009. Gross profit margin went up to 35.14% last year over 34.86% in 2009 and 34.21% in 2008. It seems there is nothing wrong with the company, and this drop in quarterly sales might just be a transient phase.

On the balance sheet, I see the long-term investments spiked up sharply, and the company is keeping more and more inventory as well, which means the company is definitely up for future challenges ahead. It is proven by the rise in the long-term debt, which went up to $6.54 billion in 2010. The company must have something up its sleeve, any awesome business strategy that justifies the huge leverage increase. Or something bad.

Let's keep our guard up and wait until next year. I believe 2012 will be a decisive year for the US economy. But as of now, we might as well give the company some slack. Do you agree? Weigh in with your comments.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.