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Could The Home Depot Be a Millionaire Maker Stock?

By Matthew Cochrane – Dec 23, 2018 at 9:15AM

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The giant home-improvement retailer's shares outperformed the broader stock market in the past, but not this year. Can investors expect Home Depot to lead their portfolios to out-sized gains in the future?

Over the last 10 years, Home Depot Inc (HD -2.36%) has been one of the most profitable retail investments, more than tripling the S&P 500 index during that time. Over the trailing five- and three-year periods, the story is the same, with Home Depot easily out-pacing the broader stock market's returns. Yet, this year, the big-box retailer has not beaten the market, or even shown gains, losing almost 11% yearto date.

Is Home Depot likely to return to its market-beating ways, or is this year indicative of what investors should expect going forward? Let's take a closer look at the company to make a better determination of what the future holds for investors.

The front of a Home Depot store location taken from the front parking lot

In recent years, Home Depot has focused on creating a truly interconnected experience, one where customers can browse online and in-store and make purchases all in one seamless shopping experience. Image source: Home Depot Inc.

One Home Depot

One of Home Depot's primary areas of focus has been to create a truly interconnected experience, one where customers can browse online and in-store and make purchases all in one seamless shopping experience. The company refers to this effort as "One Home Depot," as in there is only one Home Depot shopping experience. This initiative requires efforts on three fronts: online sales, world-class logistics infrastructure, and in-store improvements. On all three fronts, Home Depot seems to be making impressive progress.

In Home Depot's 2018 third quarter, online sales increased 28% year over year. That strong growth came from smart investments in its online infrastructure, including better search efficacy on its site and clearer communication with its delivery team to give customers a more precise delivery window. During the conference call, CEO Craig Menear said:

All of these things have led to much better traffic. We had one of our strongest traffic quarters that we've seen in a number of years. Our absolute increase in visits was our single largest growth in the quarter in visits. And then it all resulted in the comp sales of 28%. And that's also due to increased conversion. So, we're getting people to engage into the site. The experience is getting to the right product. We're getting to the right close. All of this while more and more of the traffic moves to our mobile app and mobile devices and where we're seeing double-digit increases in conversion rates and modest increase in average ticket.

Beyond Home Depot's pure e-commerce efforts, its buy online, ship-to-store, and buy online, pickup-in-store sales grew faster than overall online sales growth.

Catering to its most important customers

Another reason to be bullish on Home Depot is the company has a clear understanding of its most important customers, and unless you're a contractor, it's not you and me. That distinction belongs to its Pro customers. In its annual 10-K filing with the SEC, Home Depot defines its Pro customers as "primarily professional renovators/remodelers, general contractors, handymen, property managers, building service contractors and specialty tradesmen, such as installers." In other words, it's those who need to buy Home Depot products to make a living, not for their own personal residential projects.

These customers consistently make larger purchases and more frequent visits to Home Depot than DIY customers. And these are exactly the kinds of transactions where Home Depot is seeing some of its strongest growth. In the company's third quarter, Pro sales once again outpaced DIY sales. Management noted that "Pro-heavy" product categories, such as plumbing and electrical supplies, concrete, and power tools, all enjoyed higher comparable-sales gains than the company's overall average. Big-ticket sales, defined as transactions over $1,000, grew 9.1% year over year and now represent 20% of domestic sales.

Catering to the Pro customer also includes a commitment to building out an efficient and fast delivery infrastructure, capable of delivering the large and bulky items sometimes needed by its Pro customers to complete larger projects. This has the added benefit of holding off potential competitors, such as (AMZN -1.90%), from entering the space. At an analyst conference earlier this year, Home Depot's Northern Division president, Crystal Hanlon, said: 

But when you think about the delivery in the future, think about delivery market centers throughout our regions to where we can get product delivered to your home on the Pro job site next day or today. And the benefit of that is if you think about Amazon, they haven't really got a model where they can deliver the big, bulky products that we deliver ... And in some cases, we have to have a forklift out there to deliver the product. And Amazon really hasn't honed into that and how to manage that delivery mechanism. We're going to be able to have that model with what we're doing from a delivery perspective.

A top pick in retail

While there is no guarantee that Home Depot will triple the market over the next decade, as it has the last, the company certainly seems poised to return to its winning ways soon. The underlying business certainly hasn't struggled, even as its share price has sagged. In Q3, sales rose to $26.3 billion, a 5.1% increase year over year, while diluted earnings per share grew to $2.51, a 36.4% increase over last year's third-quarter total. 

With its continual investments to improve its operations, Home Depot might just be the best omnichannel retailer in the business within five years' time. While there's no guarantee it will make millionaires out of its shareholders, it certainly would not be surprising to see the company return to its market-beating ways.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Matthew Cochrane owns shares of Amazon and Home Depot. The Motley Fool owns shares of and recommends Amazon. The Motley Fool has the following options: short February 2019 $185 calls on Home Depot and long January 2020 $110 calls on Home Depot. The Motley Fool recommends Home Depot. The Motley Fool has a disclosure policy.

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