Don't back up the truck. Back up the garbage bin.
Every week, I recommend a stock that investors should consider dumping from their portfolios. Every week, I also nominate three stocks to take its place.
Who gets tossed out this week? Come on down, Home Depot
Knock on wood
My son successfully tested for his Taekwondo black belt over the weekend, with the bruises to show for it. Two weeks ago, this meant that my wife took him over to Home Depot to pick out the countless wooden boards that he would break during the ceremony.
The timing couldn't have been worse. Fay -- the tropical storm that was threatening to make landfall here in South Florida as a hurricane at the time -- was barreling down our way. I warned my wife about the circus she would encounter, as homeowners lined up for plywood and camping supplies alongside contractors looking to secure their construction projects.
She was in and out, back quickly with a stack of lumber and laughing at me for filling her head with notions of some deranged orange-apron circus.
Yes, Home Depot is not the hotbed of cash register activity that it used to be.
"Home Depot had a good thing going when the housing boom was humming along," I wrote last week in singling out some of the biggest blue-chip losers over the past four years. "It was even widely believed that the hardware superstore chain could withstand a real estate hit, because folks would simply renovate their homes. The problem is that when home prices began to crater, the ability of homeowners to tap disintegrating equity in their homes to bankroll the remodeling projects dried up. Tighter lending practices simply made an already bad situation even worse."
Last week's lackluster earnings report only confirmed my thesis:
- Earnings from continuing operations fell sharply during the quarter, partly offset on a per-share basis only by the company's aggressive share repurchases.
Comps fell by a sharp 7.9%, even worse than the 5.3% same-store-sales dip at rival Lowe's
(NYSE:LOW)during the same period. Fewer customers are coming, and even those patrons are spending less.
- The company is scaling back this year, closing 15 stores and opening 50 fewer locations than originally planned.
- Earnings per share have now fallen on a year-over-year basis for seven quarters in a row.
That last point bears repeating, because investors clinging to Home Depot based on an attractive earnings-based valuation are chasing a moving target. And that target keeps heading lower.
Analysts see the struggling hardware superstore chain earning $1.75 a share this year and $1.76 a share next fiscal year, and that's with the ambitious share repurchases pumping up results. It's a far cry from the $2.27-per-share profit it generated a year ago, and those figures keep dropping. Three months ago, Wall Street was looking for $1.90 a share next year.
As I have every week, I don't talk down a stock unless I have three alternatives that I believe will outperform the company getting the heave-ho. Let's go over the three fill-ins.
(NYSE:BBY)-- Home Depot laments that consumers are coming in for cheap fixes like replacing leaky faucets instead of overhauling bathrooms and kitchens. Where are consumers making their big-ticket improvements? Home theaters. With real estate prices crumbling, there's no point in installing marble kitchen countertops or porcelain bidets. Consumers who are staying closer to home to combat tighter discretionary spending and higher fuel costs are just upgrading their televisions.
(NYSE:LL)-- Don't let the Home Depot malaise turn you off entirely to the home-improvement sector. Hardwood flooring specialist Lumber Liquidators isn't walking the plank. The company's second-quarter report had net sales rising 21%, margins improving, and profits more than doubling. Comps rose 2.7%, and that's stacked on top of a huge 9% comps advance a year ago. The company also revised its top- and bottom-line guidance higher this month. Hardwood floors may not seem like a popular upgrade in a rough economy, but the chain's reputation as a massive discounter is attracting thrifty shoppers and overstocked suppliers.
(NASDAQ:TITN)-- Specialized industrial equipment retailers like Titan and Tractor Supply (NASDAQ:TSCO)are holding up well against the real estate-dependent chains like Home Depot and Builders FirstSource (NASDAQ:BLDR). The key for companies such as Titan is an emphasis on booming agricultural clients. Titan is posting huge sales gains and also raised its guidance during its most recent quarterly report in June.
Somewhere out there, I'm sure befallen Home Depot CEO Bob Nardelli is smiling, knowing that while he may have played a part in the company's downfall, his eventual replacements have only made things worse.
Other headlines out of the weekly Dumpster:
Do you like Rick's substitutions? Would you rather stick it out with the tossed company? Are there other stocks Rick should look at in future editions of this column? Let him have it in the comment box below.
Home Depot, Builders FirstSource, and Best Buy are Motley Fool Inside Value selections. Best Buy is a Motley Fool Stock Advisor pick. The Fool owns shares of Best Buy. Try any of our Foolish newsletter services free for 30 days.
Longtime Fool contributor Rick Munarriz is proud of his son's years of dedication to Taekwondo but feels sorry for the splintered boards. Rick does not own shares in any of the stocks in this story. Rick is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool has a disclosure policy.