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Using a Value Line Report: Home Depot’s Doing Fine without a Robust Housing Recovery
Dow-30 component The Home Depot (HD – Free Home Depot Stock Report) had hit a rough patch in the early part of the new century, with some suggesting that it had lost its way. A new CEO, with his roots in General Electric’s (GE – Free General Electric Stock Report) management ranks, was brought in to much fanfare, but little result.
The stock market brought the shares of this hardware supplier to the $20 range in 2003. It meandered, range bound between the low 30s and early 40s until the housing bubble popped and its stock price fell to the high teens. (The high and low price for each year and be found across the top of the Graph.) The recession that followed between 2007 and 2009 was particularly hard, as it involved a massive slowdown in home building, a large drop in home values, and financial difficulties on the banking front. People simply stopped spending, particularly on house related items like home repairs and improvements, let alone buying all of the things necessary to make a newly purchased home a “home.”
Earnings at The Home Depot fell from $2.79 per share in 2006 to $1.66 by 2009 (these figures can be found in the historical portion of the Statistical Array). The company was so concerned about its own outlook that the dividend was held steady between 2007 and 2009 at an annual rate of $0.90 a share, after being increased regularly prior to the recession. It’s no wonder that the shares were trading at such low levels in 2009. Since that time, the economy has only seen slow and unsteady improvement and the housing market has been, more or less, moribund. The Home Depot, however, has been doing quite well financially.
Revenues and earnings have rebounded to pre-recession levels; dividends are again being increased; and profit margins are moving closer to previous highs. These positive trends have been accompanied by a rising share price. In fact, The Home Depot stock recently broke above the top end of the price range in which in languished for so many years, trading recently in the low $50s. Value Line analyst Matthew Spencer expects the good news on the operating front to continue.
In the Analyst Commentary, Spencer highlights the company’s goal of a 12% operating margin. The company’s operating margin was well above that level prior to 2007, though it fell well below that level when sales dropped during the recession. The company has been making changes to control costs and improve performance that have paid off handsomely, with the operating margin increasing from a low of 8.6% in 2008 to 11.7% in 2011. Spencer estimates that an increase to the targeted 12%, coupled with continued revenue growth, should boost per share earnings to $2.87 in 2012, up nicely from the $2.47 earned last year. (Note that estimates are shown in bold in the Statistical Array, where these figured can be found.)
Looking out to the 2015-2017 time period, Spencer is conservatively holding the operating margin steady as 12%, despite the fact that this ratio has been higher than that in the past. Revenues, however, are projected to increase by about 7.5% on an annualized basis, with earnings advancing at 12.0%. (These figures can be found in the Annual Rates box.) That puts revenues and earnings at record levels. This is a bright outlook to say the least, though dependent, to some degree, on a continuation of the sluggish housing recovery.
The positives, unfortunately, appear at least partially reflected in The Home Depot’s stock price. The earnings projection translates to a share price range of between $60 and $70, an advance of 15% to 30% on an absolute basis. Including dividends in the equation leads to middling annualized total return projection of between 6% and 10%. (These figures can be found in the Projections box.) There are many stocks that offer more potential reward, but one of the draws at The Home Depot is the low level of risk.
Indeed, the company earns Value Line’s best Safety Rank (1, Highest). This is based on its solid Price Stability rating of 85 and top-notch Financial Strength rating of A++. (The Safety Rank can be found in the Ranks box at the top of every Value Line report, while the Ratings box contains the other measures, at the bottom right of every report.) Companies with Safety Ranks of 1 are expected to decline less in down markets, which is why Spencer describes The Home Depot’s stock as a “solid core holding for conservative investors”.
Investors looking to find a safe haven should the world’s economic issues cause panic selling, while still allowing for solid, though modest, appreciation potential, would do well to consider this leading hardware retailer. The over 2% dividend yield provides added incentive to hold the shares for those seeking a modest level of income from their portfolio.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.