Lowe’s Earnings Review: Outdoor Category Sales Decline Due To Rough Weather But Boost Profitability

by Trefis Team
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Home improvement retailer Lowe’s (NYSE:LOW) announced its Q1 results on May 21. Revenues grew 2.4% to $13.4 billion in the quarter, but fell short of consensus estimates of $13.86 billion. [1] As expected, unfavorable weather conditions at the beginning of the year negatively impacted the company’s business. Home improvement and construction product sales are influenced by housing turnover levels, which prompt consumer spending on this sector. Due to the disruptive cold weather, new and existing house sales declined in the first three months of the year. While weather impacted sales of outdoor product categories for Lowe’s, the indoor categories, which formed 65% of the net sales, witnessed comparable sales growth of 2%. However, decline in outdoor product sales dragged down the company’s overall comparable sales growth to 0.9%. [2] Slow spring sales lowered first quarter figures, but Lowe’s expects pent-up consumer demand to boost second quarter results. The company is already seeing strong May sales and has reaffirmed its previous guidance of 5% top line growth and 4% comparable sales growth for 2014.

Margins improved for the retailer in the first quarter, fueled by value improvement initiatives and a favorable product mix. We have a $49.34 Trefis price estimate for Lowe’s stock, which is around 8% above the current market price.

See our complete analysis of Lowe’s here

Housing Slowdown Negatively Impacts Sales

Lowe’s business is dependent on the number of house sales, as new occupants spend on home improvement supplies and construction products and services. House sales in turn are influenced by factors such as housing prices, mortgage rates, and the general business environment that impacts job creation and incomes. With housing prices and mortgage rates remaining high, sales of existing homes declined from a seasonally adjusted annual rate (SAAR) of 4.87 million in December to 4.62 million in January, 4.6 million in February and 4.59 million in March. [3] In fact, sales in March represented a year-over-year decline of 7.5%. New home sales also remained low, and fell to a SAAR of 384,000 in March, from 449,000 in February.

The average interest rate on a 30-year fixed-rate mortgage this year had been 4.36% till April, up from 3.45% last year in April. [4] Lending rates have been on a rise since last year, fueled by the Federal Reserve’s announcement of reduction in bond purchases, which had kept the long-term interest rates low. High mortgage prices, coupled with high housing rates, are hurting consumer affordability. However, according to Blue Chip Economic Indicators, net disposable income is expected to increase by 2.3% this year, up from a small 0.7% growth in 2013. ((Lowe’s 10-k)) In addition, the unemployment rate in the U.S. had also fallen to 6.3% in April, down from 7.5% a year ago. [5] The creation of jobs should facilitate home sales, and in turn bolster home improvement sales in the next few months. Interest rates on mortgages have also fallen slightly in May, which could provide a slight boost to the housing industry going forward. [6] Lowe’s expects stronger sales in the second quarter, bolstered by pent-up demand, aging housing stock, and higher consumer affordability.

Value Improvement And Favorable Mix Lift Margins

Gross margins for Lowe’s improved by 70 basis points year-over-year to 35.5%, driven by the company’s value improvement initiatives and a favorable product mix. Value improvement was fully operationalized since the beginning of the year, and contributed 40 basis to the net profitability this quarter. Around 20 basis points of the margin growth was constituted by product mix, which was positive as the lesser profitable outdoor categories witnessed slow sales in the quarter. But, as Lowe’s cycles value improvement activity from last year, and outdoor products such as lumber and building materials recover sales, margin expansion for the company should slowdown in the coming quarters.

Professional Retail Business Grows For Lowe’s

Professional (pro) customers form around 30% of the net revenues for Lowe’s. The company aims to add incremental sales by capitalizing on the growth potential of the professional customer market, which is growing faster than the retail consumer market at present. In the first quarter, comparable sales growth for the pros business was three times the company average. Lowe’s will now relaunch LowesForPros in the second quarter, a dedicated online platform for purchase by professional customers, in a bid to grab further share in the growing professional customer market. Growth in pro customer sales should also boost the company’s average ticket size in the coming quarters, as these customers typically have bulk purchases per transaction. The average ticket size in the quarter stood at $64.68 for Lowe’s, whereas the figure for the company’s chief competitor Home Depot was $57.59. [7] Lowe’s focuses relatively more on higher priced premium goods, as compared to Home Depot. With an increase in disposable incomes, consumers might switch to premium goods and thus boost Lowe’s sales going forward.

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Notes:
  1. Lowe’s Q1 profit climbs, lifts full-year earnings view, May 2014, finanznachrichten.de []
  2. Lowe’s 8-k []
  3. New and existing home sales, U.S.“, National Association of Home Builders []
  4. U.S. existing-home sales fall slightly, April 2014, wsj.com []
  5. Unemployment data []
  6. Current mortgage rates today, May 2014, southerndailypress.com []
  7. Home Depot 8-k []
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