Home Depot Q3 2015 Earnings Review: Strong Results Against Favorable Macroeconomic Environment

Retail giant, Home Depot (NYSE:HD), reported solid fiscal third quarter earnings on November 17, to beat analyst projections. Sales in the quarter increased 6.4% year-on-year against strong performance across all product categories and geographies. Home Depot has been among the biggest beneficiaries of the U.S. economic recovery, particularly the rebound in housing markets. In spite of the stock growing by over 300% since the recession, a number of factors are indicative of further growth for the company. Here are the key takeaways from Home Depot’s Q3 earnings release, along with an analysis of factors that could continue steering the company to further heights.

Factors That Worked in Q3 And Future Prospects

Home Depot’s success story since the recession can largely be attributed to favorable macroeconomic trends in the U.S. However, aside from this, the company has also displayed strong business fundamentals to deliver the best to its customers. A combination of both these factors has resulted in yet another strong quarter for the retailer. Let’s look at these factors in a little more detail.

— U.S. Economy and housing markets: In Q3, the U.S. economy grew slower than expected to clock in growth rates of about 1.5%. However, housing markets, which are, in fact, more relevant for Home Depot’s performance, remained upbeat in the quarter, with existing home sales increasing 8.3% and new home sales increasing 13.9%. These numbers, combined with better job security and oil savings, could have stirred home improvement spending even in this quarter.

Going into Q4, these factors could continue to exert a positive impact on home improvement sales. National Association of Realtors (NAR) estimates suggest that Q4 could see a 5.9% increase in existing home sales, and an 8.1% increase in new home sales. Furthermore, the current slowdown in economic growth has been a result of businesses trying to get rid of inventory, rather than restocking. Economists predict this slow growth streak to be temporary, with GDP projected to grow at 2% in Q4. Home Depot could benefit from these upbeat macroeconomic projections, to post strong sales going forward.

— Strong Dotcom Sales: Q3 also benefited from strong sales in the dotcom sphere, which underwent a 25% increase to represent 5.1% of total sales. This phenomenal growth in online sales was observed even in Q1 and Q2, and could very well continue going into Q4. Q3 witnessed the opening of the third fulfillment center in Ohio, which now allows Home Depot to ensure speedier delivery to almost 90% of U.S. customers. This, along with the roll-out of the digital platform in Mexico, and re-platform of the website in Canada, could ensure solid online sales growth for Home Depot even in Q4.

— Pro Sales Growth: Home Depot performed well even with Pro customers, with categories such as power tools, lighting, fencing, etc. displaying double-digit comp growth in Q3. Against this, big ticket purchases (tickets over $900) increased ~8% in the quarter. Going into Q4, the Pro category could have more to offer against recent additions to the company’s portfolio. This includes the new Husky 100 platform in the tools category. The main focus of this line is to ensure “speed” and “access” to customers, in the sense that the tools in this category allow work in areas where normal tools fail. Apart from this, Home Depot also completed an acquisition of Interline Brands, an industry leader in Maintenance, Repair, and Operations (MRO) products. Aside from giving Home Depot access to the MRO market, this acquisition blends in well with Home Depot’s existing capabilities to better serve Pro customers. Against an already strong brand portfolio, along with the new additions, Home Depot could see more Pro traffic  in Q4.

Apart from a favorable macroeconomic backdrop, and bright prospects in the Pro and online domain, Home Depot could have other factors panning out in their favor. Q3 benefited from events such as Halloween and Labor Day, which was instrumental in driving double-digit comps in some product categories. Q4 could also see sales growth against the holiday season coming up. Last year, Home Depot’s Black Friday event witnessed the highest sales in history. Furthermore, Q4 2014 saw an 8.3% increase in year-on-year sales. Home Depot’s product offerings this holiday season is described to be the “best line yet,” with value deals on tools, holiday lights, appliances, etc. Against this, Home Depot could be poised to face yet another promising quarter.

A Note On Costs 

Home Depot definitely clocked in another strong quarter in terms of sales. However, the company’s operating expenses at $14 million, overshot what was planned earlier. This was predominantly because of costs related to a massive data breach that left customer’s card details compromised. Last quarter, the management said that the company had incurred an estimated $132 million so far in breach-related expenses, net of insurance. This quarter, the retailer incurred another $20 million in relation to the breach. While the company is bound to incur further costs on this front, the company has instituted cost savings on other aspects, with the aim of offsetting some of the costs incurred. Furthermore, with sales remaining strong, Home Depot could be in a good position, despite these extra expenses.

Apart from this, there are costs incurred due to a strengthening U.S. dollar. A strong dollar essentially reduces the cash received in dollar terms from sales in its international stores to adversely impact financials. According to the management, dollar strength has adversely impacted sales growth by over $1 billion so far this fiscal year. As the U.S. Federal Reserve gears up to institute the first round of interest rate hikes in almost seven years, there seems to be little reason to believe that the dollar would ease over the next quarter. In this case, currency related headwinds could last going into Q4.

In conclusion, Home Depot has shown solid performance in the first three quarters of the fiscal year and there is little reason to believe that this performance will not be sustained in Q4. While currency headwinds, and the costs related to the breach, could be potential drags on results, other factors such as the upbeat macroeconomic backdrop in the U.S., and Home Depot’s strong business fundamentals could entirely offset this impact.

We have a price estimate of $120 for Home Depot’s stock, which is lower than the current market price. We will be updating our model to account for the earnings release.

Our complete analysis for Home Depot’s stock

Key Metrics – Q3 2015

• Net Sales – up 6.4%
• Gross Profits – up 7.4%
• No. of customer transactions – up 4.4%
• Average ticket size – up 0.8%
• Comparable store sales – up 5.1%
• Net earnings at $1.7 billion or $1.35 per diluted share

Updated FY 2015 Guidance

• Sales growth of ~5.7% expected, based on year-to-date performance
• Comp sales growth at ~4.9% expected
• Earnings per share expected at ~$5.36

Sources:

1. The Home Depot’s (HD) CEO Craig Menear on Q3 2015 Results – Earnings Call Transcript
2. The Home Depot’s (HD) CEO, Craig Menear on Q4 2014 Results – Earnings Call Transcript
3. The Home Depot (HD) Craig A. Menear on Q2 2015 Results – Earnings Call Transcript
4. The Home Depot Announces Third Quarter Results; Updates
5. U.S. Economic Outlook: November 2015

View Interactive Institutional Research (Powered by Trefis):
Global Large Cap | U.S. Mid & Small Cap | European Large & Mid Cap
More Trefis Research