19 May, 2009

Tool Time with Lowe's & Home Depot

The markets had a strong start to the week, led mainly by Bank stocks and the Tech sector. However, the two biggest names in Home Improvement were also on tap to deliver results. Lowe's (LOW) delivered Monday with bigger brother & competitor Home Depot (HD) coming in on Tuesday.

During Monday's bullish day, Lowe's was able to capitalize on results that beat expectations and climb 7% utilizing its first-reporter advantage. Now although profits fell 22% year over year, expectations were for a more severe drop. Income came in at $476Million vs $607Million in the year ago quarter ($0.32/share), while on the top line, Revenue was $11.83Billion vs $12.01Billion, a drop of 2%.

Compared to expectations of $11.63Billion in Revenue and $0.25/share in Income, it would appear that Lowe's is holding onto business at a better than expected clip. However, talk from traders, and what was wildly reported by the Investment media was that the expectation beating results were driven primarily by cost-cutting, as top line Revenue numbers were rather muted.

Lowe's did its best to try and appease Investors by guiding higher for next quarter with a range of profits from $0.51 to $0.55 per share, compared to Wall Street's numbers of $0.50 per share in earnings. Lowe's continues to pay its quarterly dividend, with a yield standing at about 1.7%.

Housing data coming out Tuesday morning along with results from Home Depot were worrisome to Investors at the start of trading. Housing starts, which is a big part of the Home Depot and Lowe's business models fell 13% to a record low in April, according to the latest figures. These headlines took much steam of out of a pretty good Home Depot report which largely mirrored Lowe's from the day before. Once investors digested the news, there was a few points that could act as silver linings for bullish traders. First off, the number was actually better than the forecast by economists (485000 vs 525000 expected), and second, a majority of the drop off was due to condos and related living fixtures. An area of the Home Improvement sector generally not suited to the repeat home renovation business that both Lowe's and Home Depot rely heavily on. Case in point, the number of new pure housing starts actually rose by nearly 3% in April, which provided some good news in this sector, hence the rebound in Lowe's stock to near break even territory.

The Home Depot stock story today, is unfortunately not as rosy, as many buyers of the stock yesterday retreated today, selling on the expected earnings news. Nearly a 10% drop in Revenue to $16.2Billion was met with mixed reaction even though profits were above expectations, mainly due to cost cutting. Ex-items Home Depot earned $0.35/share versus analyst expectations of $0.29/share, which had been baked into the stock already given Lowe's nearly identical performance just a day ago. Home Depot lost around 4% this morning and hasn't seen the same uptick as its smaller competitor after the housing report had been looked over. Home Depot has the added benefit of a dividend yield, twice the size of Lowe's for those keeping score.

These stocks will largely trade in tandem, as the economy recovers as both are similarly priced to earnings and both have the cushion of a dividend yield for the more conservative Investor. With foreclosures still likely to rise in the near future and the unemployment number still showing no signs of turning back around for now the time to invest in these names will still present itself later in the year. You can only go so far on cost cutting alone, and Wall Street will only celebrate this type of approach for a few quarters before some real questions have to be answered on the conference calls. For now both should be a Hold, but as economic indicators improve and the work force stabilizes and begins to grow again, there will be a surge of pent-up Home Improvement demand going into 2010. There will still be time to own these names, but for a longer term play LEAPS should be in the investment cards for some potential high-powered Tim Taylor style returns.

Disclosure: Author holds no position in HD, LOW

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