Where do you shop for home improvement projects? For many Americans, increasingly, the answer is Lowe's (NYSE:LOW). Home Depot (NYSE:HD), a Dow Jones Industrial Average component and the largest U.S. home improvement retailer, benefited enormously from the recent positive trends in home improvement. But competitor Lowe's did even better, and is right on its heels for the top spot. Can Home Depot keep its lead, or is it in danger of being overtaken by Lowe's?

Why Home Depot needs to worry

Home Depot has been the leading home improvement chain for decades, being the first to create and expand its big box stores across the U.S. Annual sales came in at more than $110 billion in 2019, a 2% increase over the prior year. The company is admired as solution-driven and agile, and as it helps people across the country with do-it-yourself building projects, sales continue to grow.

Lowe's is smaller than Home Depot in both store count and sales, and was struggling before Marvin Ellison joined as CEO in 2018. He set a plan to turn the company around, and it's starting to take shape.

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Image source: Getty Images.

As recently as February of this year, Lowe's had an inadequate digital program, running way behind Home Depot, and almost all of its growth came from stores. But that gave the company great leverage, because as soon as it invested in a digital overhaul, sales exploded. The second quarter's huge increase was powered by a 135% digital spike.

Lowe's is making all sorts of improvements through its retail fundamental strategy. It revamped its website and mobile app, and moved over to the cloud. During the next year and a half, it's planning to open a large number of distribution and fulfillment centers. It recently launched a professional tool rental program, and is focusing on pros with a new loyalty program. It's also investing in renovating and modernizing stores. And it's already No. 1 in certain categories. The company recently announced that it's starting locker pickups, an innovation that Home Depot began two years ago. 

Lowe's fiscal 2019 sales were $72 billion versus Home Depot's $110 billion, but second-quarter 2020 earnings were creeping closer, with a 34% sales increase versus Home Depot's 23% rise.

Metric Q2 2020 Q1 2020 Q4 2019 Q3 2019
Home Depot comps 23% 6% 5% 3%
Lowe's comps 34% 12% 3% 3%
Home Depot digital 100% 80% 21% 22%
Lowe's digital 130% 80% 3% 3%

Data source: Home Depot and Lowe's quarterly reports.

How Home Depot is keeping its lead

Home Depot has an eye on the future, and that led to its multi-billion dollar investment in its One Home Depot strategy. This is meant to integrate all aspects of the company's operations for a seamless shopping experience. This digital and distribution overhaul impacted its earnings in the short term, but long term, it has already paid off in big wins during the pandemic. And it means the top home improvement retailer still has lots more up its sleeve.

The company recently announced that it will open three new distribution centers in Georgia so it can meet more customer needs and replenish products faster in stores, and a center focusing on delivery to get orders to customers faster. It's also working to streamline brands in different categories to simplify customer shopping.

Home Depot has 2,293 stores in the U.S., Mexico, and parts of Canada. Lowe's is right behind, with over 2,200 stores. Home Depot still has a comfortable lead in sales, with $38 billion in the second quarter versus Lowe's $27 billion. Home Depot is doing a great job of defending its position by implementing better shopping options and expanding its reach, but there may not be too much it can do to push off the challenge from Lowe's. 

What does this mean for investors?

Lowe's shares are outdoing Home Depot's so far this year, with a 38% increase next to Home Depot's 27% rise, as of this writing. Home Depot still has everything going in its favor, and it's not slowing down or taking any steps backwards in the face of Lowe's challenge. But Lowe's has even more room to grow. It's doing everything it can to meet and surpass Home Depot as the top home improvement chain, and it definitely has a fair shot at the No. 1 spot. 

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.