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HD or LOW: Which is a Better Home Improvement Stock Pick?

Zacks Equity Research
HD or LOW: Which is a Better Home Improvement Stock Pick?

The home improvement industry is poised for growth in the coming years mainly supported by the uptrend in the economy, with strong employment level and rising income. Higher disposable income has increased consumer interest to spend on home improvement projects. Further, higher home prices and interest rates have forced homeowners/buyers to undertake improvement projects than purchasing new homes.

Notably, limited supply of homes, higher mortgage rates, higher raw material costs — owing to the recent imposition of tariffs, and labor shortage continue to plague the housing industry. However, these factors have failed to mar the performance of the home improvement space due to increased demand for lumber and other building materials.

We expect solid focus on enhancing services to Pro customers, enhancement of omni-channel capabilities, product innovations, expanded brand assortments and effective cost-containment efforts to benefit home improvement retailers like Home Depot HD and Lowe’s Companies LOW in the future.

Given this backdrop, let’s try to ascertain which of these two key home improvement players — Home Depot and Lowe’s Companies — is a better investment option. We need to delve deeper into factors beyond rank, since both the companies carry a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
   
Market Cap

Home Depot’s market capitalization is $242.5 billion while that of Lowe’s is just $92.4 billion. Considering business size, Home Depot undoubtedly has an edge and is better positioned over the long term, courtesy of its massive scale of operations. However, short-term industry headwinds are likely to equally affect both the companies.

Sales Performance

Home Depot’s net sales increased 8.4% in the second quarter of fiscal 2018. This also marked the company’s seventh sales beat out of the last eight quarters. The top line continues to gain from the solid execution of its team of store associates, merchants, suppliers and supply chain, which also lead to a robust comparable store sales (comps) performance. Home Depot recorded comps growth of 8% in the fiscal second quarter.

On the other hand, Lowe’s revenues advanced 7.1% in second-quarter fiscal 2018 while comps increased 5.2%. The company has delivered a positive sales surprise in three out of the last four quarters. Lowe’s top line growth is the result of its well-chalked initiatives to drive sales across stores and online platform. Commonly, both Home Depot and Lowe’s are gaining from increased focus on driving Pro Customers’ sales, which has been outperforming DIY sales in the recent quarters.

Backed by a solid first half of fiscal 2018, Home Depot anticipates sales growth of nearly 7% for fiscal 2018 compared with 6.7% growth expected earlier. Comps growth is estimated to be 5.3% versus the prior guidance of 5% increase. On the flip side, Lowe’s curtailed its sales view on account of plans to exit Supply Hardware business and focus on rationalizing inventory levels. It projects sales growth of 4.5% compared with 5% rise estimated earlier. Comps are likely to improve 3% compared with 3.5% growth anticipated earlier.

Earnings History and Estimate Revisions

Considering a more comprehensive earnings history, Home Depot boasts solid surprise trend, having reported earnings beat for more than five years. Conversely, Lowe’s has delivered positive earnings surprise in just two out of the trailing four quarters. Moreover, Home Depot is advantageously positioned, with an average earnings surprise of 3.6% in the trailing four quarters. This compares positively with Lowe’s average negative surprise of 3.2%.

While comparing earnings estimates for the last 30 days, Home Depot’s earnings estimates for fiscal 2018 have increased by 3 cents (up 0.3%), whereas that of Lowe’s declined 21 cents (down 3.9%). Further, Home Depot’s earnings are expected to grow 28.3% in fiscal 2018 compared with Lowe’s improvement of 19.1%. This indicates that analysts are more optimistic about Home Depot’s performance.

Price Performance

Lowe’s shares have surged 44.6% in the past year, surpassing the broader industry’s 33.7% rally. Meanwhile, Home Depot’s shares have returned 32.2%, underperforming Lowe’s and the broader industry’s growth.

HD - LOW Price Comparison



Taking a broader view, both Home Depot and Lowe’s have outperformed 16.2% growth recorded by the S&P 500 index.

Valuation

Both Home Depot and Lowe’s look undervalued when compared with the industry average, implying that there’s more upside left for the stocks. Home Depot has a trailing 12-month price-to-earnings (P/E) ratio of 24.2, which is below the industry’s average of 25.9. Similarly, Lowe’s has a slightly lower P/E 22.3x. However, Lowe’s Value Score of B in comparison with Home Depot’s Value Score of C makes Lowe’s a preferred investors’ choice.

Final Thoughts

Our comparative analysis shows that Home Depot has an edge over Lowe’s when considering future earnings and sales performance. However, Lowe’s strong price performance and cheaper valuation compared with Home Depot cannot be ignored.

In conclusion, one has to consider that Home Depot’s large scale of operations, efforts to attract customers with its integrated retail strategy, and relentless focus on affording innovative products have proved to be highly effective in driving sales. Further, Home Depot has outperformed earnings estimates by a higher percentage and is expected to register strong earnings growth in fiscal 2018. This is why it may be a good idea to bet on Home Depot over Lowe’s.

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