Does This Hardware Store Offer Good Value?

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

While stores that offer goods for home improvement are to some degree reliant on the strength of the housing market, people will generally need things to fix up their house regardless of the macro-economic situation. Looking for stocks that might beat the cliff, it is always good to buy companies that produce consumer necessities. Home Depot (NYSE: HD) is one of the largest hardware chains in the United States, and although they may appear to be a relatively safe bet with a beta of .82, they do seem fairly valued at the moment.

Speaking probably mainly for the males among us, it is always fun to walk around the Home Depot. The sheer size of the place, combined with its extensive range of products, is bound to instill even the most timid home improver with a sense of purpose and adventure. One can find here anything from countertops to carpets and water heaters, and the firm also offers installation services to its customers. Home Depot has a market cap of $92.2 billion dollars, operating 2,249 stores across Canada, the United States and Mexico.

Q2 results were strong with an EPS of $1.01, beating the $0.97 consensus. EPS growth as well as dividend growth has beaten the industry for the last five years. Revenue was up 1.7% to $20.6 billion dollars, falling slightly short of analyst expectations. Profit was up a handsome 12%. The outlook was also solid with an expected EPS of $2.95 over 2012, 3 cents over the analyst consensus. Q3 earnings are due today , analysts are expecting EPS of $0.70 and an increase in revenue of 3.2%. These figures are solid, and as such, it is not earnings have me slightly worried about the stock’s potential upside.

In the last year, Home Depot stock has seen a meteoric rise of over 60%, in no small part buoyed by the recovering US housing market. This has led to the stock’s current rich valuation. The P/E stands at 21.98x, slightly over the industry average and even the forward P/E is somewhat daunting at 18.04x. The stock trades at an even richer 5.23 price to book. There is some comfort in the fact that their main competitor trades at similar valuations. Lowe’s (NYSE: LOW), Home Depot’s largest competitor by market cap, trades at 21.43x earnings but only 2.49 to book. Lowe’s is up almost 40% in the last year.

The main risk for Home Depot is a further deterioration of the US housing market, although there are signs things may be turning around. As less people buy homes and move, there would be less need for Home Depot’s products. However, things tend to break around the house, which should ensure a minimum of business for the chain. Other risks include tough competition from peers who have been pricing aggressively in an attempt to gain market share.

The home improvement industry has seen a lot of upside recently with strong price action across the board. Although this is partly a reflection of good earnings, it has also led to rather rich valuations for these stocks. Home Depot is a strong company with a healthy outlook, but at the moment it looks fairly valued, if not pricey. I would advise patience to investors appraising Home Depot’s potential upside, and wait and see how the company has fared in the latest earnings report.

 


DUJames has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend The Home Depot and Lowe's Companies. 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.If you have questions about this post or the Fool’s blog network, click here for information.

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