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Home Depot Proves It’s an Essential Shopping Outlet

By Demitri Kalogeropoulos – May 20, 2020 at 9:44AM

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Sales jumped in the first quarter despite reduced operating hours and cancelled promotions.

Investors had high hopes for Home Depot's (HD 0.19%) first-quarter earnings report even though the COVID-19 pandemic pressured most of the retail industry. The chain responded to the pandemic by cutting store hours and making other moves aimed at limiting customer traffic, yet expectations were for robust sales growth as many consumers used the shelter-in-place time to work on home projects.

Home Depot's report confirmed this bullish reading and showed that the market leader was a key shopping destination over the last few months. The pandemic added some major expenses to the business, though.

Strong sales gains

Comparable-store sales growth landed at 7.5% in the core U.S. market, or roughly double the pace Home Depot set in the prior quarter. That surge came despite reduced selling hours and Home Depot's cancellation of its traditional spring selling promotion that usually delivers some of its busiest selling days of the year.

A couple paint a room together.

Image source: Getty Images.

Those moves had a "significant impact to sales," CEO Craig Menear said in a press release. In fact, customer traffic fell 4% compared to a flat result in 2019. Yet the home improvement giant totally offset that slump by boosting average spending per visit. Customers spent $74.70 per trip this quarter, or 11% higher, year over year. "The robust and flexible interconnected infrastructure that we have developed," Menear explained, "allowed us to quickly adapt to changing customer preferences and achieve strong sales."

Surging costs

The cost side of the picture wasn't as positive. Home Depot spent lots of cash on wages, paid time off, and extra sanitation measures. The moves aimed at supporting front line employees cost $850 million, in fact, and cleaved $0.60 per share from reported earnings, management estimated.

Home Depot also saw reduced gross profitability that, together with the surging selling expenses, pushed operating profit down to $3.3 billion, or 11.6% of sales, from $3.6 billion, or 13.6% of sales, a year ago. A falling share count helped cushion the blow on per-share earnings, but profits still fell 8.4% to $2.08 per share.

Looking ahead

That decline pushed Home Depot's dividend payout ratio to over 70% of this past quarter's earnings, which is well above the company's 55% payout target. Management didn't cut the dividend, though, and still targets $6 per share of payments to shareholders this year, up 10% from 2019.

Looking ahead, the company said it has seen continued robust sales momentum through the first quarter and into the first two weeks of the second quarter. But the uncertainty around the pandemic, especially when it comes to economic growth trends and a possible recession, has executives feeling more cautious about 2020. As a result, they withdrew their annual outlook.

The good news is that the retailer demonstrated some impressive competitive strengths over the past few months, including flexibility through a stressful operating situation. Customers clearly see its services as essential to their home improvement needs, too.

On the other hand, the pandemic will generate at least a short-term hit to key financial metrics like operating margin and earnings growth, while adding stress to Home Depot's industry-leading dividend. Those pressures might intensify if economic conditions remain sluggish through late 2020.

Demitrios Kalogeropoulos owns shares of Home Depot. The Motley Fool owns shares of and recommends Home Depot and recommends the following options: long January 2021 $120 calls on Home Depot and short January 2021 $210 calls on Home Depot. The Motley Fool has a disclosure policy.

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