A Stock to Fly for Many Years to Come!

Brian is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

I have been saying it for months – buy Restoration Hardware (NYSE: RH)!

I first said to buy at $40 but kicked my outlook to a whole new level once the stock reached $50 after strong earnings. Now, after yet another great quarter – and a stock that’s trading over $65 – let’s see if there is still value in the stock.

A Look At The Quarter

For its first quarter, Restoration Hardware posted revenue of $301.3 million (beat by $2.17 million) and an Earnings Per Share (EPS) of $0.06 (beat by $0.03). The company’s revenue and comparable store-sales growth was 38% and 41%, respectively, year-over-year.

Such year-over-year comparable sales growth is unprecedented, as Restoration Hardware continues to explode with growth while not expanding its total number of stores. The company is currently assessing 20 different markets for expansion – considering its growth – this expansion should provide the next leg of explosive growth in the years ahead.

In addition to beating expectations, Restoration Hardware also raised its full-year guidance and guides ahead of Second Quarter (Q2) EPS estimates. The company also announced two new businesses, RH Kitchen and Tableware and RH Antiques.

Side-By-Side

It’s one thing to present the fundamentals of a company, but regardless of growth, fundamentals don’t tell you whether or not a company is presenting value. Therefore, let’s take a look at Restoration Hardware compared to other home improvement stores to see if the stock is still cheap.

 

Restoration Hardware

Ethan Allen (NYSE: ETH)

Home Depot (NYSE: HD)

Lowes (NYSE: LOW)

Market Cap (millions)

$2,630

$927

$111,800

$44,540

Trailing P/E

N/A

29.45

24.27

23.7

Forward P/E

31.0

19.78

17.95

16.37

Price/Sales

1.9

1.26

1.47

0.88

Operating Margin

1.93%

7.95%

10.89%

7.29

Revenue Growth*

38%

(4.4%)

7.4%

(0.5%)

Comps Growth*

41%

0.5%

4.3%

(0.7%)

*most recent quarter

Let’s look at key takeaways: Restoration has not produced a profit over the last 12 months, has the lowest margins, is more expensive on a sales/valuation basis, but is growing the fastest. While many people may choose to dwell on the lack of profitability, I see upside and room to improve.

What’s most compelling to me is Restoration Hardware’s operating margin and its price/sales ratio compared to its competitors. First, Restoration Hardware is without question the fastest growing of the four companies. Above, you can see the growth from most recent quarters, but what you can’t see is full-year guidance.

Restoration Hardware is guiding for revenue growth of 25% in 2013 and comparable store growth of 30%. Both Ethan Allen and Lowes are expecting full-year losses in both revenue and comps, while Home Depot expects revenue growth of 2.8% and comps growth of 4%. Therefore, Restoration Hardware is on a whole different level, and it “should” be valued as such.

Typically, if you compare two or more companies, the ones with faster growth will trade at a higher premium to fundamentals. In the case of Restoration Hardware this is true, but not to a large degree. In my opinion, the market is still discounting Restoration Hardware, possibly because its operating margins are still low.

The market often rewards high operating margins – as seen when comparing Home Depot to Lowes – but Restoration Hardware is in a growth phase. Currently, Restoration Hardware is focusing its attention on growth, not margins. Yet, as an investor, I view Home Depot, Ethan Allen, and Lowes’ margins as highly encouraging. It shows me the level of upside or improvements that are possible for Restoration Hardware.

Room To Improve

In my opinion, Restoration Hardware is a stock that will fly for many years to come. The company is producing industry-leading growth without new stores, and does not trade at a lofty valuation compared to its peers. With the company exploring new markets for expansion, investors should be optimistic that growth can continue for many years.

Then, when the company’s growth slows, it can focus on margins with at least five times the upside from current operating margin. With that said, I still think Restoration Hardware is presenting a grand opportunity, even at $70.



Brian Nichols has no position in any stocks mentioned. The Motley Fool recommends Home Depot and Lowe's. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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