Source: PaxForex Premium Analytics Portal, Fundamental Insight
After halting stock buybacks at the start of the pandemic, Home Depot recently resumed them. In the first two quarters of the fiscal year 2021, $6.9 billion was spent on share buyback.
It's important to note that when a company repurchases its stock, it reduces the number of shares outstanding. It ends up distributing profits to fewer shares. In other words, each share gets a bigger cut. With a market capitalization of $342 billion as of this writing, buying $6.9 billion worth of stock has relatively little impact. Indeed, the weighted average outstanding stock price is down 0.8% from the same six-month period last year.
Still, if Home Depot is spending so much money buying its stock, does that mean investors should follow suit and do the same? Let's take a closer look at the company's long-term prospects and determine if this is a good idea.
Home Depot is one of the few brick-and-mortar retailers that is doing a good job of protecting its business from Amazon encroachment. The nature of the products it sells makes it difficult to compete effectively with Amazon. Almost half of all Home Depot sales come from professionals. Very often these professionals need a product immediately to complete a job.
Over the past decade, Home Depot has increased sales by 6.9% per year. Growth accelerated during the pandemic, but will likely return to its long-term trend line. Impressively, Home Depot's average operating profit margin was 13.6% during that time; a figure that grows along with sales growth.
Moreover, one of the long-term effects of the pandemic may be an increase in the importance of people's homes. Although most workers are expected to return to offices late this year or early next year, working from home for at least part of the week will become a reality. Whatever the balance between working in the office and working from home, it will likely be higher than before the pandemic. That means extra space to maintain and more time spent at home.
Home Depot's stock price is up more than 20% in 2021, despite concerns that further positive developments in the fight against the COVID-19 pandemic will be a hindrance. With billions of people getting vaccinated and economies reopening, Home Depot is likely to face a slowdown in revenue growth sooner rather than later.
Like many other companies, Home Depot is experiencing supply chain problems. The coronavirus pandemic has limited people's ability to spend money. No longer able to spend money on concerts, amusement parks, and games, some customers were spending heavily on physical goods rather than services.
The problem worsened after several rounds of government stimulus and abundant unemployment benefits. People had more money to spend and fewer places to spend it. Sales at Home Depot surged as the company was recognized as a major retailer and allowed to stay open during the economic crisis. Although the surge slowed, Home Depot's sales were up $12 billion in the first half of this year.
In an attempt to meet customer demand, Home Depot took one especially creative step. The home improvement retailer purchased several container ships for exclusive use. Still, the company's management isn't thrilled with the availability of merchandise in the stores.
During a second-quarter 2021 earnings call, Ted Decker, the company's president and chief operating officer, said: "While inventory levels are still not at desired levels, we are maintaining the improvements we have made over the past several quarters and are building inventory depth in key categories, as proved by outperforming year-over-year sales growth."
Surely, inventory levels at the end of Q2 were 40% higher than at the same time last year. It is important to note that this increase comes at a time when revenue growth is slowing. The economy is reopening, people can now choose where to spend these funds, and the influence of stimulus checks is waning. Nevertheless, company executives may think it's better to keep that inventory on the shelf. Most of the items Home Depot sells are not decaying, so there is little risk of obsolescence. And out of stock could involve missing a client.
This exceptional step taken by the company to secure inventory has all the chances to please shoppers. It is particularly precise for Home Depot's most precious customers, the professionals. This small group makes up only 4-5% of Home Depot's total customers, but professionals account for 45% of sales.
Management craves to do everything imaginable to make professionals be positive in getting what they need to do their jobs. Losing even a few valuable customers for not having the product they were looking for can have serious long-term negative consequences.
In addition, if competitors struggle to meet customer demand, Home Depot's high inventory levels can attract new customers. In fact, by providing such high levels of inventory, Home Depot may make it more difficult for competitors to purchase the products they need.
Overall, the increase in inventory is likely to be a positive thing for Home Depot shareholders. It is a smart decision by the company's management to take advantage of the longevity of the products it sells. How positive it proves to be for the stock will depend on how prosperous competitors are in restocking their shelves. The more difficult their supply chain becomes, the more prudent this move will seem in retrospect.
As long as the price is below 332.00, follow the recommendations below:
- Time frame: D1
- Recommendation: short position
- Entry point: 320.00
- Take Profit 1: 304.00
- Take Profit 2: 297.00
Alternative scenario:
If the level of 332.00 is broken-down, follow the recommendations below:
- Time frame: D1
- Recommendation: long position
- Entry point: 332.00
- Take Profit 1: 343.00
- Take Profit 2: 350.00
