What To Expect From Home Depot In 2019

by Trefis Team
Home Depot
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Despite ending fiscal 2018 on a fairly positive note, Home Depot‘s (NYSE: HD) shares fell by nearly 3% mainly due to a weaker-than-expected Q4 – as a result of unfavorable weather conditions, tougher year-on-year comparison, and a $247 million charge linked to Interline brands – in addition to soft fiscal 2019 guidance. Despite that, the company still delivered a sales increase of nearly 11%, and a comparable sales improvement of 3.2%, growth figures that aren’t particularly common in the retail industry of late. We expect these trends to continue in the near term, though higher than anticipated transportation costs may weigh on margins and earnings. The company is undertaking significant investments in its supply chain to counter this, which should begin to show results in the medium term. As a result, we expect the home retailer’s overall revenue to grow by 3-4% in 2019. 

We have an updated $207 price estimate for Home Depot’s stock, which is slightly higher than the current market price. We are in the process of updating our model to account for the company’s FY 2018 results. Our interactive dashboard on what to expect from HD in 2019 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 Should Drive Growth In FY 2019

1. Housing Market: Despite a slowdown in the housing market, reflecting in declining home sales figures, HD saw its revenues grow by just over 7% in fiscal 2018, driven by healthy comp sales growth in both the U.S. and Mexico. Despite January’s home sales of 4.94 million coming in slightly weaker than expected, lower mortgage rates coupled with improving household income should help boost home sales figures. Consequently, more buyers in the market should bode well for both Home Depot and Lowe’s. Further, the company has often highlighted that the housing stock in the country is relatively old and in need of restoration and remodeling, which should drive growth for Home Depot over the long run. Moreover, unemployment is at its lowest level since 2000, and wages are improving. As a result, solid economic conditions bode well for Home Depot, which is heavily reliant on broader economic conditions.

2. Pro Sales Outpacing DIY Sales: The company’s Pro segment once again proved to be a key driver of growth, with sales from the Pro division outpacing its DIY (Do It Yourself) segment. Despite pros accounting for just a handful of Home Depot’s overall customer base, the segment makes up nearly half of its overall sales. Further, the Pro segment sales have consistently grown above the overall company average through fiscal 2018. Additionally, its big-ticket transactions – those above $1000 – form roughly 20% of U.S. sales. Consequently, a sustained focus on this segment is important for ensuring future growth. In addition, the company has been enhancing its investments to deepen its relationship with bigger-ticket customers, including a new B2B website experience, enhanced associate tools in stores and expanded delivery options. The improved online experience should drive growth across segments as well.

3. Interconnected Retail Strategy: HD has made a concerted effort to focus on its integrated retail strategy, which connects the online and offline channels, in a bid to improve the shopping experience and store efficiency. Additionally, Home Depot’s digital segment saw solid growth through fiscal 2018, 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 its revenues per square foot. This has ensured that its present store network is being efficiently utilized to drive revenues.

4. Higher Ticket Size: A variety of 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 growth. Improved 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 fiscal 2018. The higher costs in the fourth quarter resulted in a 19 basis point contraction in gross margins. However, this was offset by a change in accounting standards that drove a 53 basis point gross margin increase during the same period. 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 fiscal 2019. Consequently, the company expects its gross margin to contract by roughly 34 bps, to about 37% (vs. 37.3% in fiscal 2018) in FY 2019.

6. Supply Chain Investments: HD plans to significantly improve its supply chain infrastructure with over $1 billion in investments expected over the next five years. While the long-term benefits of this plan should be substantial, the investments will likely weigh on margins and earnings in the near term.

7. Reduced Tax Rate: As a result of the U.S. Tax reform, Home Depot’s effective rate fell substantially to just under 24% in fiscal 2018. Its 2019 tax rate will likely be in the 25% range, allowing it to largely maintain the elevated net margin figures from 2018.

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