Shares of Floor & Decor (FND -0.28%) are trading down about 38% from their all-time highs, and they're also down about 10% in May alone. As a shareholder, I couldn't be happier. I've been hoping for this.
Floor & Decor is one of my top investment ideas for the next decade. So I'm not really concerned with how it performs in the near term. Indeed, I believed the stock got ahead of itself. But I also believed economic conditions would bring the stock back down. And they have.
Here's why Floor & Decor is down, why it's still a solid business, and why investors should love the long-term opportunity.
Why Floor & Decor stock is down
With its large warehouse-style stores, Floor & Decor is similar to other home-improvement retailers like Home Depot and Lowe's. But it differs in that it only specializes in flooring. Management is betting there's big, widespread demand for a niche concept like this, and is opening new locations at an aggressive pace.
At the end of 2018, there were only 100 Floor & Decor stores. By comparison, the company had 194 at the end of the first quarter of 2023.
Many retail chains plan to open new stores at an aggressive pace. But Wall Street is littered with failed concepts that never had enduring demand from consumers. Measuring same-store sales, therefore, is important for brick-and-mortar growth companies like Floor & Decor.
Floor & Decor has historically excelled with same-store sales growth. In 2022, same-store sales increased for the company for the 14th consecutive year. However, management expects up to a 3% drop in 2023, breaking the streak. And this slowdown in the business is a big reason why the stock is down right now.
I anticipated a slowdown like this and hoped it would lead to a pullback in the stock price for Floor & Decor so that I could add to my position at a more attractive valuation. Indeed, this is a company to add to during a pullback. Here's why.
Laying a foundation for success
Some might interpret the drop in same-store sales as a sign that Floor & Decor is losing consumer appeal and that its growth plans -- which I'll share momentarily -- are doomed. However, I believe that's entirely the wrong inference.
There's a broad drop in home-improvement spending right now, it's not a problem unique to Floor & Decor. Lowe's expects up to a 2% drop in same-store sales in 2023. And Home Depot is likewise guiding for a 2% to 5% drop.
Other trends show that Floor & Decor is building an incredibly strong foundation for future growth. In Q1, 42% of sales came from professional customers, not homeowners. And same-store sales for pros were up 6.9%, compared to an overall same-store-sales decline of 3.3%.
Pro customers are better for the long-term health of Floor & Decor's business, in my opinion. A homeowner likely only owns one home and will update the flooring infrequently. By contrast, a professional flooring installer can be a steady source of business. And Floor & Decor is still winning the pro business.
Image source: Getty Images.
Moreover, there may be a hidden tailwind for Floor & Decor's business because of the state of the real estate market right now. Home Depot CFO Richard McPhail recently said: "Of the households that hold the mortgage, close to 90% of those hold fixed-rate mortgages under 5%. So with mortgage rates where they are today, there's a reluctance to sell your home, and there is a greater incentive to stay in place and improve in place."
In coming years, I expect the "improve in place" incentive will lead to a boom in remodeling jobs. This will benefit Floor & Decor because flooring is a common home upgrade, and because the company has a strong connection with pros.
Why Floor & Decor stock could achieve higher highs
Floor & Decor's slowdown appears temporary to me. And it's apparently temporary in management's opinion as well, considering it's marching ahead with its growth plans. It intends to open at least 32 new locations in 2023, good for nearly 17% year-over-year unit growth. And it hopes to open about 300 new locations over the next nine years, which would increase the size of the company by about 150%.
New stores will lead to higher sales for Floor & Decor. And assuming this niche home-improvement concept continues to find an audience, I expect sales per location to inch higher as well. This could lead to much higher profits for the company in the coming decade, which is why this stock remains among my highest-conviction long-term investments.
The temporary market downturn in home-improvement spending is a gift for investors. From both a sales and an earnings perspective, Floor & Decor stock now trades below its five-year valuation averages, making now a better-than-average time to buy and hold.
