Foolish Forecast: Home Depot Pulling Up Stakes?

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Every once in a while, investors in Home Depot (NYSE: HD) and Lowe's (NYSE: LOW) get lucky. One or the other will report earnings with enough of a lag in between that, by reading one company's news, you can guess at what its rival will say.

Next week is not one of those times. No sooner will Lowe's report Monday, than the Depot reports Tuesday -- hardly time to catch your breath between 'em. What we do know, though, is that two of these stores' suppliers, Fortune Brands (NYSE: FO) and Masco (NYSE: MAS), delivered terrible news last month, and that analysts expect a third supplier, American Woodmark (Nasdaq: AMWD), to disappoint us later this month. Need more info than that? Well, we'll try to provide it here. Read on.

What analysts say:

• Buy, sell, or waffle? Twenty-seven analysts wander the aisles at Home Depot, searching for a light bulb. Eleven of them rate the stock a buy, 13 more say hold, and three would sell it.
• Revenue. On average, they're looking for sales to slide 6% to $17.75 billion.
• Earnings. Likewise for profits, which are predicted to drop 34% to $0.39 per share.

What management says:
We're in the middle of an economic storm (or hadn't you heard?), and Home Depot is nailing up plywood and making liberal use of duct tape. In last quarter's earnings release, management predicted that sales for all of 2008 will decline 5%, and profits about 24%. Not much sense in building new stores for shoppers who aren’t there, and so Big Orange isn’t: Instead, it's closing up shop at 15 locations, and shaving off 50 more from its expansion plans.

What management does:
Turning a 5% drop in sales into a profits decline five times as large is no mean trick, but Home Depot is doing its best to make it possible. Despite growing its gross margin over the past couple quarters, management has managed (ahem) to keep its operating and net margins falling for some 18 straight months. it's not yet as bad off as Sears Holdings (Nasdaq: SHLD), but it's getting there.

Margins	4/07	7/07	10/07	2/08	5/08	8/08
Gross	33.5%	33.5%	32.7%	33.6%	33.7%	33.7%
Operating	10.7%	10.3%	9.4%	9.4%	8.9%	8.4%
Net	6.8%	6.5%	5.2%	5.7%	4.8%	4.4%

All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

One Fool says:
Of course, it's not all bad news at the Depot. Management actually isn't doing a half-bad job managing its working capital, for example. With sales down 4.5% at the halfway mark for the year, and looking likely to hit that 5% drop mentioned above, accounts receivable were down 3%, and inventories 3.5% -- very close to the mark indeed.

As a result, as bad as the picture looks through the lens of GAAP accounting, the company has generated $2.7 billion in free cash flow so far this year, which is down less than 10% from this time last year -- and significantly higher than what Home Depot reports as net profit. The stock's now trading at a cheap 6.5 times its run rate for this year's cash profits -- a crazy price to pay for as great a brand as this one. If next week's results look anything like what we've seen so far this year, I may just have to ignore the accepted wisdom and go shopping for some Home Depot stock myself.

Further Foolish color on Big Orange available at:

• This Just In: Upgrades and Downgrades
• Talladega Dreams for Home Depot
• Throw This Stock Away