Home Depot: Solid Buying Opportunity

| About: Home Depot, (HD)

Summary

While unusually warm weather also boosted demand for home improvement products in the quarter, Home Depot’s results are primarily driven by the company’s high operating efficiencies and its underlying strengths.

Fundamentally, the company stands to be a major beneficiary of the positive movements in the US housing market recovery.

Home Depot is still best positioned in the market to reap the benefits of improving consumer spend on housing.

Home Depot (NYSE:HD) delivered solid results for the quarter ended May 1, 2016. The company's sales increased to $22.8 billion and operating margin expanded to 14%, from 12% in Q1 2015. While unusually warm weather also boosted demand for home improvement products in the quarter, the results are driven primarily by the company's high operating efficiencies and its underlying business strengths. The company has achieved 9% sales growth over Q1 2015 while its store count has increased by only 5 in the last 12 months. This reflects on HD's control on managing store-level competencies.

HD's operating metrics have been on a consistent growth path over the last few quarters; its comparable sales growth hovered between 4.20-6.50% in the last four quarters. The number of quarterly customer transactions increased to 374.8 million in Q1 2016 from 360.2 million in Q1 2015, and average ticket increased to $60.0 from $58.6. In keeping with the company's stated focus on the professional segment, the growth in the transactions over $900 is sharp, averaging about 8.8% over the last four quarters. The guidance for comparable sales growth is 4.9% for FY 2016, which has been revised upwards from 4.5% indicated in January 2016. The H2 2016 comparable sales metric will potentially benefit with the integration of Interline Brands, which was acquired in Q3 2015.

Fundamentally, the company stands to be a major beneficiary of the positive movements in the US housing market. US housing starts increased 6.6% in April 2016 while building permits saw a rise of 3.6%. In addition, a study by the Joint Center for Housing Studies of Harvard University, released in April 2016, predicts that the growth in home remodeling spending will reach 8.6% by the end of 2016, and will further accelerate to 9.7% by Q1 2017. Sustenance of the recovery in the housing market and upward movement in home improvement spend will translate into stronger demand for the home improvement retailers; and as the leading player in the segment, HD will be amongst the first to benefit.

The fundamental strengths of HD's business are aided by its 'interconnected retail approach'; wherein it allows customers to integrate multiple delivery channels. By allowing customers to place online orders and pickup or return directly to the stores, the company has offered an effective solution for intermingling physical stores with online customers. While other retailers and department store players are also adopting this integration of distribution of channels, HD has been amongst the first companies to take up the initiatives. This partially explains why competitors from the e-commerce space have not impacted the company heavily.

The improvement in the US employment rates could also imply higher consumer expenditure on home repair and maintenance; HD has entered into the maintenance, repair and operations [MRO] segment through its acquisition of Interline Brands last year. This adds to the portfolio of products offered by the retailer. While the extent of incremental sales from Interline remains to be seen, HD can attract a higher share of the consumer wallet by catering to the entire spectrum of home improvement products and services, which will be a long-term positive.

The company expects that FY 2016 sales will grow at about 6.3% and earnings per share will grow by 14.8%. The guidance for EPS growth in keeping with HD's performance trends in the past; the company's diluted EPS increased at a CAGR of about 21.9% in the five years ended January 2016, and by 15.9% in FY 2015, to $5.46. With the company indicating a target for paying 50% of its earnings as a dividend, the increase in earnings makes HD a good income generator for investors. While the dividend yield is average at about 1.8%, the growth in dividend has been handsome at about 23% CAGR in the five years ended January 2016.

Home Depot Stock Price

Source: Google Finance

The stock price increased 18% in the last one year and is certainly priced in for the company's strong results quarter upon quarter. However, the company is still best positioned in the market to reap the benefits of improving consumer spend on housing. The pullback in share price is an excellent opportunity to enter the stock, and get a seat in the US housing recovery party.

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

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.