Can Digital Sales Drive Growth For Home Depot In Q4?

by Trefis Team
-2.19%
Downside
214
Market
209
Trefis
HD
Home Depot
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Home Depot (NYSE:HD) had a fairly strong first three quarters of 2018, as the home improvement retailer managed to grow its revenue by just over 6% in the first 9 months of the year. This performance was primarily attributable to strength in the housing market, better-than-anticipated growth in its digital segment, and a lower effective tax rate. We expect these trends to continue in the near term, though higher-than-expected transportation costs and a tougher comparable sales comparison should slightly dampen its Q4 results. Nevertheless, we expect the company to announce another solid quarter when it announces its Q4 results on February 26. Further, the company’s strategic investments to bolster its supply chain and tackle higher costs should begin to show results in the medium term. Below we take a closer look at what to expect in Q4.

We have a $210 price estimate for Home Depot’s stock, which is slightly higher than the current market price. Our interactive dashboard on what to expect from HD in Q4 details our expectations for the company’s earnings. You can modify the charts in the dashboard to gauge the impact that changes in key drivers for Home Depot would have on the company’s earnings and valuation, and see all of our Consumer Discretionary company data here.

Factors That May Impact Performance

1. Housing Market: Despite the news surrounding a weak housing market, Home Depot saw its revenues grow by just over 6% in the first nine months of 2018, largely due to homeowners preferring to remodel their homes rather than selling. Further, the company has often highlighted that the housing stock in the country is old and in need of restoration and remodeling, which should drive growth for Home Depot. Even though interest rate hikes make mortgages more expensive, on the whole it is indicative of a robust economy. Moreover, unemployment is at its lowest level since 2000, and wages are improving. As a result, solid economic conditions bode well for a company like Home Depot that is heavily reliant on broader economic conditions.

2. Pro Sales Outpacing DIY Sales: HD’s Pro segment should be the key driver for its growth, largely due to Pro sales outpacing its DIY (Do It Yourself) segment. Further, its big-ticket transactions – those above $1000 – form nearly 20% of U.S. sales. Consequently, a sustained focus on this segment is imperative for ensuring future growth. Further, the Pro segment sales have consistently improved above the company average in the first nine months of 2018. In addition, the company has been enhancing its investments to deepen its relationship with such customers, including enhanced associate tools in the stores and expanded delivery options.

3. Interconnected Retail Strategy: The company has made a concerted effort to create a truly integrated retail strategy, which seamlessly connects the online and offline channels, in an attempt to improve the shopping experience and store efficiency. Additionally, Home Depot’s digital segment saw solid growth in the first nine months of the year, largely driven by enhanced online traffic. Consequently, this has led to improved revenues and profitability. Moreover, in the digital space, the typical transaction ticket size is three times that in stores, and by focusing on this interconnected channel strategy, Home Depot has been able to boost revenues per square foot. This has ensured that its present store network is being efficiently used to drive revenues.

4. Higher Ticket Size: Numerous factors have benefited, and should continue to benefit, the average ticket size. Besides the aforementioned factors such as greater Pro sales and growth in digital sales, the focus on appliances as well as innovation are other factors driving this increase. Better than expected investment in appliances has resulted in share gains, with appliances garnering a higher than average ticket size.

5. Higher Transportation Costs: The company faced transportation headwinds throughout the first nine months of 2018. The higher costs in the third quarter resulted in a 23 basis point contraction in gross margins. While Home Depot isn’t the only company facing higher transportation costs, the increasing shift toward the online space, as well as the addition of features such as same-day delivery, should continue to put pressure on gross margins through the fiscal year. Consequently, the company expects gross margin to improve 37 bps this year, down slightly from the previous guidance of 44 bps.

6. Reduced Tax Rate: Given the fact that Home Depot operates primarily in the U.S., its effective tax rate has been 35% or higher in the past few years. As a result of the decline in the corporate tax rate from 35% to 21%, effective January 2018, the company is expected to have an effective tax rate of 24%, which should be a key driver in the substantial improvement in its net margin this year.

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