Earnings Preview: Home Depot

The Home Depot Inc. (HD), the world’s largest home specialty retailer, is scheduled to report its first-quarter 2011 financial results before the opening bell on May 17, 2011. The current Zacks Consensus Estimate for earnings in the quarter is 49 cents a share. For the quarter under review, revenue is expected at $17,042.0 million, according to the Zacks Consensus Estimate.

Fourth-Quarter 2010, Summary

Home Depot surprised with its fourth-quarter 2010 adjusted earnings of 36 cents a share. The adjusted earnings not only surpassed the prior-year quarters’ earnings of 24 cents (an increment of 50%), but also outpaced the Zacks Consensus Estimate of 30 cents.

During the reported quarter, net sales inched up 3.8% year over year to $15,126.0 million compared with $14,569.0 million in the prior-year quarter, surpassing the Zacks Consensus Estimate of $14,800.0 million. The growth in net sales was primarily driven by an increase of 3.9% in total company comparable store sales and a rise of 4.8% in comparable store sales in the U.S.

Management Guidance

Home Depot is expecting a 9.5% increase in adjusted earnings to $2.20 a share for fiscal 2011 from fiscal 2010 on the back of a 2.5% growth in sales. The company plans to open 10 new stores in this fiscal and generate a cash flow of approximately $5.7 billion from the business.

First-Quarter 2011 Zacks Consensus

The analyst covered by Zacks expects Home Depot to post first-quarter 2011 earnings of 49 cents a share faring better than earnings of 45 cents delivered in the prior-year quarter. The current Zacks Consensus Estimate ranges between earnings of 47 cents and 53 cents a share.

The current Zacks Consensus Estimate has remained constant over the last 30 days, as none of the analysts have changed their estimates.

With respect to earnings surprises, Home Depot has topped the Zacks Consensus Estimate over the last four quarters in the range of 1.41% to 20.0%. The average remained at 10.0%. This suggests that Home Depot has beaten the Zacks Consensus Estimate by an average of 10.0% in the trailing four quarters.

Our View

Home Depot through its strategic alliances with selected suppliers across the globe offers 30,000 to 40,000 proprietary and exclusive brands annually. The company follows a global sourcing merchandise program that enables it to purchase the market’s leading innovative products directly from the manufacturers, which provides an edge over its competitors in terms of pricing of products. In addition, with the introduction of new warehousing and transportation system, the company has been able to improve its supply chain while minimizing the cost. This has also helped Home Depot to improve its Central Automated Replenishment System and facilitate immediate refill of stock while reducing the investment in inventory. Besides, Home Depot has taken strategic steps to optimize its capital allocation and concentrate on core business activities. Consequently, the company has closed its underperforming stores, reduced its new store opening pipeline and exited businesses such as EXPO, THD Design Center, Yardbirds and HD Bath.

However, heavy job losses and reduced access to credit have led to a sharp fall in consumer discretionary spending on big-ticket items. Although the economy is showing signs of revival, we believe that spending on big remodeling projects will likely remain under pressure until the housing market stabilizes and consumer-spending rebounds. Furthermore, due to its exposure to international market, Home Depot remains prone to currency fluctuation. The weakening of foreign currencies against the U.S. dollar may require the company to either raise prices or reduce profit margins in locations outside the U.S. An increase in product price is likely to have a direct impact on the consumer demand.

Above all, the company’s business is highly competitive, primarily based on customer services, price, store location and assortment of merchandise. The company faces stiff competition from local, regional and international players such as, Lowe’s Companies Inc. (LOW) and Target Corporation (TGT). To maintain its market share, the company is making selective acquisitions and strategic alliances with third parties, which are increasing its operational risks.

Currently, Home Depot maintains a Zacks #3 Rank, which translates into a short-term ‘Hold’ rating. Moreover, our long-term recommendation on the stock remains ‘Neutral’.

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