Home improvement retailer Lowe’s (NYSE:LOW) is scheduled to release its Q3 earnings results on November 20. The company is expected to report solid growth in year-over-year revenues on a recovering housing market as well as continued reconstruction activity after Hurricane Sandy. The positive sentiment is reflected in the company’s stock price due to improvements in key housing data such as record levels of home construction, declining vacancies, lower mortgage default rates and rising home prices.
Lowe’s looks to have positioned itself well for higher demand for homes and home-related products. Its total sales rose by about 9.5% year-over-year in Q2 2013 and we expect sales to be higher on a year-over-year basis in the third quarter as well. In addition, the company’s gross margins in the previous quarter rose by 42 basis points from Q2 2012, primarily due to a favorable 55 basis point impact from its Value Improvement initiative and a 20 basis point impact from effective promotional activity. It was offset to some extent by an unfavorable impact from its credit value proposition program. We think that overall margins will show an improvement in the third quarter, helped in some measure by better pricing due to higher demand. In short, investors have a good reason to look forward to solid results when the company reports its second quarter results on Wednesday. 
We have a $43 Trefis price estimate for Lowe’s stock, which represents a 16% downside to the current market price.
Housing Recovery Remains Strong And Will Boost Sales
The housing market recovery continued in the third quarter of 2013, spurred by strong consumer confidence and low mortgage rates. New home sales rose were 390,000 in July and 421,000 in August while the data for September is yet to be reported. Sales of existing homes continued to be strong year-over-year. The National Association of Realtors is expected to report existing home sales data for September shortly, which may provide further boost Lowe’s stock price. The reason that sales of new as well as existing homes benefit Lowe’s is the spending on home improvement by new occupants. 
Due to renewed confidence that the Federal Reserve is going to continue with its bond buying program for the time being, mortgage rates are again climbing down after a brief period in October when they had been going up. This is positive for Lowe’s and its rival Home Depot because low mortgage rates encourage homeowners to refinance at lower rates, which increases their disposable income. The homeowners, especially first time buyers, use a part of their greater disposable income on home improvement. 
Meanwhile, sales related to household repairs following the damage caused by Hurricane Sandy should also factor in to solid third quarter results, further boosting the top-line. Although a majority of the repair work commenced towards the end of 2012, the sales effect of Sandy will most likely be spread throughout 2013. The Federal Emergency Management Agency has approved $1.38 billion in assistance for Sandy victims, which has resulted in an uptick in demand for lumber in the affected areas. As the nation’s second largest home improvement chain, Lowe’s is poised to capture a good chunk of the spending even though it doesn’t have as many stores as rival retailer Home Depot has on the West Coast.
Promotions May Temper Margin Gains
In the second quarter, Lowe’s gross margins increased by 42 basis points from Q2 2012. The benefits from the company’s “Value Improvement Plan”, which aims at making Lowe’s stores more efficient through better inventory management, was offset to some extent by factors such as higher sales penetration of the company’s proprietary credit value proposition. This program offers customers a choice of 5% off everyday or promotional financing mix.
This proprietary credit program helps Lowe’s comps by attracting more customers, but it takes a toll on profitability. Going forward, we expect the company to make slow but steady gains in margins as the ‘Value Improvement’ plan progresses.