Lowe's (LOW -2.52%) has been a big winner during the coronavirus pandemic. Thanks to rising housing prices, low interest rates, and people spending more time than ever before inside, completing renovation projects was a focus for consumers. Record sales of $27.6 billion in the most recent quarter and a stock price that has soared 46% this year prove that there is still strong momentum.
The business is playing catch-up to Home Depot (HD -2.44%) in one key area, however. But according to its executive vice president of stores, Joe McFarland, Lowe's has already passed its larger rival when it comes to a lucrative customer segment. You don't want to miss what he said.
He said what?
During Lowe's Q2 earnings call, McFarland boldly claimed that "Lowe's is the new home for pros." Coming from a company that has traditionally concentrated its efforts on the do-it-yourselfer (DIY), this comment is noteworthy.
In its latest fiscal quarter, Lowe's generated 25% of overall revenue from professionals, consisting of customers like contractors, electricians, and plumbers. Home Depot, on the other hand, gets 45% of sales from pros. Based strictly on this data, it looks like Home Depot is the home for pros, not Lowe's. The latter still clearly has a huge gap to close.
Lowe's CEO, Marvin Ellison, spent 12 years at Home Depot before his current role, so he knows first-hand how important it is to be a top choice among professionals. Pros visit frequently and spend more, so they are invaluable. And they are a sticky customer base; once contractors have found a reliable supplier partner, they aren't likely to switch.
Upgrading the program
When it comes to pro initiatives, Lowe's has been grabbing some low-hanging fruit. For example, designing more intuitive store layouts based on product adjacencies helps pros get everything they need for a specific job without having to run around the entire store. Additionally, the website (Lowe's for Pros) was moved to the cloud. McFarland said this allows for "enhanced features, faster updates, improved site stability, and more personalized offers for the Pro."
Boosting the pro loyalty program by continuously adding members-only benefits, like tool rentals and business-management services, should make it more attractive as well.
Pro gains will drive stock price
The home improvement industry is highly fragmented, leaving lots of room for Lowe's to continue taking market share. In the retail sector, the overarching goal is to drive sales per square foot. Having more pros as opposed to DIYers helps achieve this goal.
As Lowe's grows its current annualized sales per square foot of $530, the benefits will trickle to the rest of the company in the form of operating leverage. Because the business is able to spread higher sales over its fixed costs, like store rent, employee wages, and marketing, net income will grow at a faster rate. The return on invested capital of 29.1% and operating margin of 15.4% will improve, and ultimately, more free cash flow will be generated.
And I believe that as management keeps executing on its strategy to attract pros, investors will take notice and the stock price will follow. Lowe's stock currently trades at a forward price-to-earnings ratio of just 21, cheaper than Home Depot's 25 and the S&P 500's 22, so the opportunity for multiple expansion is there.
In the most recent quarter, pro demand was up 21% and 49% on a one- and two-year basis, respectively. When Lowe's reports its fiscal 2021 third-quarter financial results on Nov. 17, shareholders will want to keep an eye on commentary management provides about the professional business. This is probably the most important development for the company right now.