Unscrambling Monday's Egg

Unscrambling Home Depot (NYSE: HD)

by Chick Cheryl

Just got back from a whirlwind weekend up at my folks. The highlight? No, not the golf, not even the fact that they babysat (although, pretty awesome). The highlight of our trip was our premiere visit to the Home Depot's new Design EXPO! All I can say is, "Wow" and all my husband could say was, "Sheez, you're only limited here by the money in your bank account!"  For anyone designing or renovating a home, it’s a must see!  Chick Karin, I hope Minnesota has one near that palace on the river you're building… Home Depot stockholders will love you! Now, let's see if we Chicks, potential stockholders, should love Home Depot.

The Chicks Dozen:

1. Buy What Ya Know
I know Home Depot. At least, I know my Home Depot… intimately! It’s a mile away, open 24 hours and is one of the largest in terms of sales volume in North America. The most coveted card in my husband's wallet is his Home Depot Charge Card. Whether or not he's working on a project, you can find him there several times a week. I guess its like "going to the mall" for men! Whenever I go, I have to chuckle at the sight of construction workers, with their low slung pants, barely hanging on to their hips, rubbing shoulders with freshly manicured, high-heeled women looking for a screw (no pun intended)!  The Home Depot has become a place for everybody. And why not, it truly does have everything… including the kitchen sink!

The company was founded in 1978 (more recent than I thought), and is based in Atlanta, Georgia. As of December 2000, the company was operating 1,101 stores in 47 states, six Canadian provinces, Puerto Rico, Chile and Argentina. They expect to be operating over 2300 stores in the Americas by the end of 2004.

2. Keep It Simple Sister 
Real simple. First, you've got your basic Home Depot. This is the huge building that gives you the hankering to do some sort of hammering, painting or planting before you leave. It’s designed for three types of customers:  the Do-It-Yourselfers (that's me), the Buy-It-Yourselfers (they buy, then hire someone else to build) and the Professional (they and buy and build for someone else). Next, you've got the EXPO Design Center Store. It’s huge, but not quite as huge as the original Depot. They hope to operate 200 of these stores throughout North America by 2005 (currently, there's 23). All I can say about these stores is that they're pretty awesome and will make you want to redo anything you may have already done. I guess that's why they say they're primarily designed for renovators. If you want another endorsement, just ask my husband about the Outdoor Kitchen Aisle… I'm surprised he didn't charge one and try and fit it in the back of our minivan! And last, are the Villager's Hardware test stores in New Jersey. I live in California so there'll be no testimonial on that one! There you have it, 3 types of stores which all cater to 3 types of customer.

3. Industry
Its industry is Retail, specifically, Home Improvement. Top competitors include Lowe's, Menard and Sears and every other little mom & pop hardware store out there. They are credited as being the "innovator of the home improvement industry, as well as offering a level of service unprecedented among warehouse-style retailers." Which leads us to our next point…

4. Leader In Its Field
Oh yeah. The Home Depot is the world's largest home improvement retailer and third largest retailer overall in the United States (based on net sales volume for fiscal 1999)! In October of 1999, they were added to the 30 Dow Industrials along with Microsoft, Intel, and SBC Communications. In addition, they were named in the Top 10 Most Admired Companies in America by Fortune magazine, which has also ranked it as America's Most Admired Specialty Retailer for seven consecutive years.

5. Repeat Profitability
Build, rebuild. Paint, repaint. Plant, replant, Decorate, redecorate… that's what we do. Ka-ching… that's what they do!

NOTE: For the following equations, figures used can be found at www.marketguide.com and were from the most recent quarter available, 10/29/00. All numbers are in millions of U.S. Dollars.

6. Gross Margins

(Sales - Cost of Goods Sold) / Sales

1,1545 - 8095 / 11,545 = 30%  (shy of our 50% criterion)

7. Net Margins

Net Income / Sales

650/ 11,545 = 5.6% (shy of our 8% criterion)

8. Cash vs. Long Term Debt

Cash* / Long Term Debt

300 / 774 = .39x

(Cash is .39 times greater than Long Term Debt…that's not a lot of green stuff, we want that number above 1.0. The more cash the better, call us greedy)

*Plus Marketable Securities

9. Flow Ratio

(Current Assets - Cash*) / (Current Liabilities - Short Term Debt)

7,879 - 300 / 5,089 - 0 = 1.45 (close, but no cigar, we want this number below 1.25)

*Plus Marketable Securities

10. Increasing Growth

(Most Recent Quarter Sales - Last Quarter Sales) / Last Quarter Sales

11,545 – 12,618 / 12,618 = - 8%

Yes, you read that right, sales have actually gone down 8% since last quarter, although they were up 16% when compared to the same quarter one year ago. The company believes their shortfall is due to a "declining economy and the continuation of price deflation in lumber, building materials and related products." Maybe this is why they've added Maytag washers, dryers, cooking appliances, dishwashers and refrigerators, as well as Jenn-Air cooking appliances to all Home Depot stores in the United States as of last December. Even the largest U.S. toy chain, Toys R Us, has joined ranks.  They are now selling Home Depot Inc.-branded tools, kits, and replicas of tools for children (the 4 year old I bought them for loved it!). I guess it’s never too early to start brand awareness!

Here’s something we Chicks can cluck about.  Since women are increasingly taking on more home improvement projects and are pretty much the deciding factor in home décor, Home Depot is gearing its design services toward female shoppers. Here are three examples.  First, trained design associates offer free in-store consultations to advise on a wide range of topics from complete room design to picking out paint colors.  Second, they’ve developed their own magazine called Style Ideas. Its pages are filled with beautiful rooms containing affordable products that all can be found at Home Depot. (I think that’s a brilliant idea myself!). And third, they offer two free training programs, “Do It Yourself Clinics” and “Home Depot University”.  These programs supposedly offer friendly nuts-and-bolts instruction on practically every design topic including: ceramic tile installation, decorative painting techniques, hanging wallpaper, assembling and installing cabinets and decorating with architectural molding! Wow, sign me up!

11. Strong Management and Operating History
Co-founder, Bernard Marcus has been Chairman of the Board since the company's inception in 1978. He also served as CEO until 1997, at which point he handed over the reigns to Arthur Blank. Again, the torch is being passed. On December 5, 2000, Home Depot announced the appointment of Robert Nardelli as president and CEO as well as a member of the company's Board of Directors. Arthur Blank will join Bernard Marcus as co-Chairman. The Depot happily swooped up Nardelli when he was not handed the coveted position as Jack Welch's replacement at GE. For more on this, check out Chick Karin's article on the new GE CEO and what happened to his runners up?

They must have good hearts because the Company had a philanthropic budget north of $25 million for the year 2000. It was directed right back into the communities in which they serve, focusing on affordable housing, at-risk youth and the environment.

12. Buy on Sale

52 week high: 70

52 week low: 34.68

52 week average: 52.34

Current Stock Price (as of 2/9/01): $44.43

Clearly, no blue light special here, but there is a discount being offered!