On May 19, Home Depot released its first quarter earnings results. As with many companies, Home Depot wasn’t immune to the impact related to the pandemic.
While results were mixed, I find a lot of positives in the company’s numbers. However, what I’m not excited about is the company’s valuation. Let’s take a look.
Quarterly highlights
Home Depot reported earnings per share of $2.08 in the first quarter, 18 cents below what the analyst community and expected and representing a decrease of 8.4% from the prior-year quarter. On the other hand, revenue grew 7.1% to $28.3 billion. This was $690 million more than expected.
Comparable-same store revenue increased 6.4% compared to estimates of 4.5%. U.S. same-store sales were even more impressive, coming in at 7.5% compare to the expected 5.8%. For context, in the first quarter of 2019, same-store sales increased just 2.5%, while comparable sales for U.S. stores were up 3%. This gives the company a two-year stacked same-store sales growth rate of 8.9% overall and 10.5% for the U.S., solid numbers in both cases.
The number of customer transactions in the first quarter did suffer a decline of almost 4% to 375 million. Offsetting this was an 11% increase in average ticket price to nearly $75. Sales per square foot were up 7.2% to $466.58.
Also telling of the strength in Home Depot’s business is that the company saw accelerated growth in the last three weeks of April as well as the first two weeks of the second quarter. Comparable same store sales reached double-digits during this time.
Some of these sales could have consumers and contractors stocking up on products due to the uncertainty regarding the ongoing pandemic. This could make the remaining quarters weaker than anticipated if this is what happened.
According to the company, there was some negative impact from the virus on first quarter results. In order to support its employees during this time, Home Depot authorized expanded paid time off for all associates, with additional time for those aged 65 and up or at higher risk for infection. The company is also providing weekly bonuses for hourly employees and doubled overtime pay. Finally, Home Depot extended benefits for dependent care and waived related co-pays for doctor visits.
The company pre-tax expenses of $850 million. This reduced net income by $640 million and EPS by $0.60. Gross margins, however, decreased just 10 basis points to 34.1%, showing that Home Depot did a solid job of maintaining profitability in the face of the current economic conditions. Selling, General and Administrative expenses increased 190 basis points to 20.6%, not unexpected given the expenses the company incurred due to extended benefits for employees.
The company maintained its dividend for the upcoming June 18 payment. Home Depot raised its dividend by more than 10% earlier this year, which gives the company 11 years of dividend growth. Prior to pausing its dividend during the last recession, the company had nearly three decades of dividend growth.
Home Depot did pull its financial guidance for 2020 due to uncertainty, citing Covid-19 as the reason. This has been a typical move by many companies that have already reported earnings results. Pulled guidance means that the company doesn’t have visibility into how its business will perform in the coming months. However, this doesn’t necessarily mean that Home Depot can’t reach its earlier guidance.
In order to account for some impact from the Covid-19 on results, I will assume that Home Depot will be able to produce 80% of its previous EPS guidance. This gives would give the company EPS of $8.36 for the year. Using Tuesday’s closing price of $238, Home Depot shares trade with a forward price-earnings ratio of 28.5. Even if the company reaches its previous guidance, shares would still trade at 22.8 future earnings. I stated in a previous article that I was waiting for Home Depot to trade more in-line with its five-year average price-earnings ratio of 21.2. Shares are above this target using either previous guidance or my reduced estimate.
Final thoughts
Home Depot’s first quarter earnings report was solid. Revenue came in above expectations thanks to higher than anticipated same-store sales. Store traffic declined, but ticket size was up double digits.
However, even using the company’s original guidance gives the stock a valuation above my target. For this reason, I will stay on the sidelines for now when it comes to Home Depot’s stock. I would be more interested in the stock on a pullback.
Author disclosure: The author is not long any stocks discussed in this article.
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