Home Depot's Supply Unit Sale Was a Fiasco

Well, they finally got it done, almost...

The Home Depot (HD) Supply unit sold for $8.5 billion, about $2 billion less than the originally agreed-upon $10.3 billion price tag, as the acquisition coincided with the eruption of turmoil in the U.S. credit market. Private-equity firms Bain Capital, Carlyle Group, and Clayton Dubilier & Rice are the buyers.

Under the terms of the revised deal, announced earlier last week, Home Depot is set to pay $325 million for a 12.5% equity interest in the supply unit and will guarantee a $1 billion senior secured loan of HD Supply.

Home Depot said Friday that it has entered into a $10 billion revolving credit facility in connection with its plan to buy back up to 250 million shares of common stock. It expects to repurchase 290 million of its shares for $10.7 billion as a result of a tender offer, a little less than halfway (48%) toward its goal of buying back $22.5 billion in stock.

Preliminary results of the tender offer that ended Friday indicated the chain of home-improvement stores expects to repurchase the shares at $37 each, using about $8 billion in net proceeds from its sale of HD Supply and $2.7 billion in cash (that all but empties the checking account), said spokeswoman Paula Drake. Ms. Drake said the company will continue buying back shares but she said there was no specific timeline for doing so. Translation? Don't hold your breath for the other 52%.

How did the market react? It didn't. Why? Because despite an almost $11 billion buyback, Home Depot promised more, much more and there is real doubt now as to their ability to finished what they started. Why? Sales, profits and cash flow are in a free fall (unlike rival Lowes (LOW)), and debt markets are not begging to stand in line to loan Home Depot the nearly $13 billion they will need to finish the job.

When current CEO Frank Blake took over he promised "an end to the drama" and promptly escalated it to new levels. I was against the Supply sale before it was announced and I feel it has turned into a fiasco in which they committed to something and backed themselves into such a corner, they did not get even close to fair value for the asset when all was said and done. Now they are stuck owning 12.5% of it still and had a guaranteed another $1 billion in Supply loans. In other words, they still are not free from it.

Home Depot will be stuck here for a very long time. They shot for the moon on this one and missed bad and unfortunately are out of ammo.

Comments

[User 42641:]

"The Home Depot (HD) Supply unit sold for $8.5 billion, about $2 billion less than the originally agreed-upon $10.3 billion price tag,"


This presentation of the facts is very misleading. If the private equity consortium pays $8.5 billion for HD Supply and Home Depot then purchases a 12.5% stake in HD Supply for $325 million, the effective valuation of HD Supply is (8.5 - .325) / (1 - .125) = $9.34 billion, or approximately $960 million less than the original $10.3 billion purchase price.

Bizarrely negative piece on Home Depot, in line with the tone of the author's prior contributions on the company.

Alex Dumortier, CFA

Full Disclosure: I have no beneficial interest in Home Depot shares, but I do cover the stock on behalf of The Motley Fool Inside Value, as it is one of our stock recommendations.

2007 Sep 06 10:25 AM

[Todd Sullivan:]

Alex,

I am confused as to your math. HD was set to receive $10.3 billion a month ago. now they get $8.5 billion and then have th turn around and take $325 of that and reinvest it in Supply effectively reducing their receipts to $8.175 billion.

Why is my opposition bizarre? They got hosed on a sale they should have never done in the first place. What is to like?

Todd

2007 Sep 07 01:16 PM

[User 42641:]

Todd,

Thanks for responding.

Your response to my comment refers to receipts and is entirely correct. However, in your original piece you wrote: "The Home Depot (HD) Supply unit sold for $8.5 billion, about $2 billion less than the originally agreed-upon $10.3 billion price tag,[...]"

This is misleading because the $8.5 billion represents only the first part of the transaction. When one accounts for the second part of the transaction (the $325 million paid by Home Depot for a 12.5% stake in HD Supply), this yields an implied valuation for the whole of HD Supply of $9.34 billion, as I explained.

Alex Dumortier

2007 Sep 25 05:02 PM