Rising interest rates, a direct response by the Federal Reserve to pump the brakes on the economy and slow surging inflation, have had the biggest negative impact on expensive tech growth stocks. Yet even heavyweights in mature and slow-moving industries have gotten crushed.
Home Depot (HD -0.31%), for example, is down 22% in 2022, even though the underlying business continues its strong performance. Is now the time to buy shares in this top retail stock?
Strong Q2 results
For the fiscal second quarter, which ended July 31, Home Depot posted sales of $43.8 billion and diluted earnings per share of $5.05. These Q2 financial results exceeded what Wall Street was expecting, sending shares higher following the news. Same-store sales, also known as comps, jumped 5.8% for the company overall and 5.4% in the U.S.
Home Depot serves both the DIY and professional customer groups, and management said that both saw growth and possessed healthy backlogs. Once again, professionals (including contractors, electricians, and plumbers) outpaced DIY customers, as homeowners are taking on bigger, more complex renovation projects that might have been put off during the past couple of years.
CEO Ted Decker acknowledges the effect that rising mortgage rates can have, slowing down appreciating home values and, consequently, demand for Home Depot's products. But as of now, the executive team isn't seeing a negative impact on demand, instead reiterating how much the U.S. housing stock is aging. "Now we have well over half the homes in the United States over 40 years old," Decker mentioned on the Q2 2022 earnings call.
Additionally, the coronavirus pandemic forced people to spend more time than ever in their homes, so the focus on renovation projects and upgrades remains strong. This consumer trend benefits Home Depot's business model.
Looking ahead
Major retailers Walmart and Target had to lower guidance in recent months in the face of soaring inflation and a buildup of excess inventory. Home Depot's management team, on the other hand, reaffirmed its outlook for the rest of fiscal 2022.
Sales and comps are expected to increase 3% compared to the prior fiscal year, which is impressive given that it's on top of the double-digit annual gains registered in fiscal 2020 and 2021. And the operating margin is projected to be 15.4%, the same as last year. Unsurprisingly, CFO Richard McPhail did point to the difficult operating environment, one that's characterized by record inflation, supply chain challenges, and rising interest rates.
But McPhail took an upbeat stance. "We also see engaged and resilient homeowners who have strong balance sheets, consumers spending more time in their homes, and continued structural support for home improvement project demand," McPhail said on the earnings call.
Although Home Depot recorded $155 billion in revenue over the past 12 months, the business is penetrating what management estimates is a $900 billion total market opportunity, evenly split between the professional and DIY segments. So with just a 17.2% share of that massive pie today, there is still a sizable growth runway for Home Depot in the decades ahead. That means greater sales, expanding profitability, and the possibility of a higher share price over time.
Current valuation
As of this writing, Home Depot's stock is down 22% in 2022, but it has still increased 114% over the past five years. This performance was better than the S&P 500's 89% total return during the same time period. And for a price-to-earnings ratio of 21, which is below the trailing 10-year average multiple of 23, investors get to own an outstanding company with a long and successful operating history and that still has room for major expansion.
What's more, Home Depot's management engages in shareholder-friendly practices. Over the past three fiscal years, from 2019 through 2021, the business paid out a total of $19.5 billion in dividends. And during that same 36-month stretch, Home Depot repurchased $22.6 billion of its stock. This capital allocation policy could be attractive for investors.
After posting a strong quarter in a difficult macroeconomic environment, and with a large growth opportunity ahead and a compelling valuation, buying Home Depot's stock today seems like a no-brainer.
