Home on the Range
The Bear Argument
Rick Aristotle Munarriz (TMF Edible)
I remember a time, not too long ago actually, when Home Depot was seen as the ultimate weatherproof stock. Interest rates are falling? Come on in, homehunters. Home Depot wants to make your new house a home. Interest rates are climbing? Bummer. Guess you'll be staying where you are. But, hey, why not head out to Home Depot and redecorate? It'll make you feel better.
Fat times. Lean times. It was always Home Depot time. But now we know that it was all some sugary myth. We were led to believe that the company could stack strong comps on top of heady expansion and grow forever. We were misled on both fronts.
In December the company did the unthinkable. It announced a storewide sale. Maybe it came as no surprise to those who saw inventory turnover slowing through the year, but for Home Depot to mark just about everything down by 10% to move merchandise? Unreal.
Serving as nasty bookends to the holiday price cuts was the company lowering guidance for the quarter. Yes, before and after the sale. Granted, you had a soft lumber market. Sure, soaring fuel prices should have meant that the company raise -- not slash -- prices. But what was that to mighty Home Depot? It was Teflon in the past, baby. I guess past performance is no guarantee of future underperformance. Now Home Depot is faulting the slowing economy for its current malaise.
Hey, who poked holes in this umbrella? All-weather? Rubbish.
Back in October, the same company that proved to be one of retail's greatest growth stories through the 1980s and the 1990s reported that last quarter's earnings would come in below year-ago levels. Lower. Then it came back last month to say it would come in even lower than lower -- or is that lower than Lowe's (NYSE: LOW)?
The country's second-largest do-it-yourself haven is in a slump too, but at least Lowe's is giving up less slack on the rope. And while Home Depot is trading at 35 times year-ahead projections, Lowe's is fetching just 22 times this new fiscal year's earning estimates.
I don't want to dwell on the point of relative valuation. While I'd love to see Mike make an argument that you should buy the slower grower at a higher multiple, the truth of the matter is that the whole sector isn't awfully attractive right now. Even the faster grower at the lower multiple is no bargain.
Lowe's is in the process of raising $1.5 billion to expand. The plans are ambitious. It's looking to open 25 new stores in the Boston area alone. Wait a minute, Home Depot's there already. Lowe's is digging deeper into Florida? Home Depot's there already too.
Face it, the days of land grab are gone for the home improvement superstores. It's like we're on our 80th turn around the Monopoly board and everything's gone except Water Works. Lowe's and Home Depot want to grow, but it's only at the expense of the other, with some cannibalization of existing stores thrown in.
It's a double whammy. Home Depot wants to go from nearly 1,150 stores now to 1,900 by the end of 2003. It's down to opening up in small second-tier markets or riskier overseas ventures where a bit of golden-orange Americana might not translate well to the native country. Meanwhile, it's own core markets are in trouble because Lowe's wants to grow too.
Comps were flat for the last quarter for Home Depot. Flat as plywood actually. The store gave itself away and all it got in return was flat sales and busted margins. Even the company's attempt to shield the erosion in its core business by selling appliances last year proved to be nothing more than hole-ridden chain mail.
The amusing part here is that Home Depot's "cabin grade" business plan is now calling for more appliances on the floor and less of everything else. Why appliances? This segment is so poor that even Circuit City (NYSE: CC) bowed out last year. This segment is so poor that the leader is, egads, Sears (NYSE: S). Behind Sears is Lowe's. So why is the No. 1 home improvement chain trying to clone the No. 2 home improvement chain? Appliances? Is that the best idea you've got?
In last year's Duel, I got trounced in the voting. The very nature of this format tends to draw more Bulls than Bears so I can already sense some of you trying to find the link to email me to tell me how wrong I am. I respect your right to do so. I have friends who don the orange apron. I know how pride works.
But if I can get you to put down the nail gun for a moment and see things from a different perspective. In betting terms, the over-under just isn't in Home Depot's favor. The over? Overvaluation. Mature retail concepts this late in the development cycle don't deserve multiples this high. The under? Underestimating the risks here. Home Depot has proven that it's not an all-weather stock. Feel the drops on your head? The roof is leaking. Running to Home Depot is not the solution.
Rick Aristotle Munarriz hit his thumb with a hammer once. Maybe that's why he doesn't like Home Depot. Either way, he's never owned the stock. Rick's stock holdings can be viewed online, as can the Fool's disclosure policy.
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