Thursday, June 11, 1998
Lowe's Companies, Inc.
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Phone: 910-658-4000
Website: http://www.lowes.com
Price (6/10/98): $83 1/2
HOW DID IT DOUBLE?
As the number-two player in the home improvement market, Lowe's hasn't always gotten a lot of respect. After all, juggernaut Home Depot <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: HD)") else Response.Write("(NYSE: HD)") end if %> is the proverbial category killer, and Lowe's was supposed to be dead meat. But it didn't take a two-by-four to the skull for Lowe's to figure out that it, too, could play the do-it-yourself game.
During the '80s, this North Wilkesboro, North Carolina firm transitioned to a more consumer-oriented retail format from its old setup as a supplier mainly serving professional contractors. And starting in 1989, it has been transforming most of its smaller stores into giant warehouses. Since then, the stock has sprinted from $5 to the mid $30s, lumbered for three years in the $26 to $43 range, and now has hammered home a double in the last seven months thanks to strong financial results and new expansion plans.
Revenues jumped 18% for the year ended January 30, with net profits rising at a 22% clip thanks mainly to a boost in gross margins from 25.9% to 26.5%. Those gains resulted from careful monitoring of its everyday competitive pricing strategy, which it highlights in advertisements. The different product mix resulting from more superstores also boosted margins.
First quarter results announced May 18 were even better, with a 21% sales increase leading to an impressive 32% jump in EPS to $0.54, which was $0.03 ahead of estimates. Comparable-store sales came in 5% higher and its larger stores did even better, scoring a 7.4% comp-store sales increase as the strong economy had fixer-uppers donning their overalls.
On April 21, the company announced an ambitious expansion into the western United States, with plans to roll out more than 100 new stores in the region over the next three to four years. So Lowe's will be a true national retailer. The company added fuel to the rally by announcing a two-for-one stock split to be paid June 26.
BUSINESS DESCRIPTION
Lowe's is a Fortune 500 retailer serving the do-it-yourself home improvement market as well as the home decor and home construction markets. After opening 9 stores during the first quarter, it operates 451 stores (298 are warehouse stores) in 26 states, mainly in the Southeast. Traditionally, the company has focused on smaller towns, but it has recently moved more strongly into metropolitan areas, more and more often going head-to-head with Home Depot.
Its stores feature departments devoted to electrical items, plumbing supplies, hardware, tools, paint, lawn and garden, building materials, and lumber. They also feature home decor departments that offer appliances, carpets, flooring, and kitchen design assistance.
Its new warehouse stores now account for 76% of sales and 74% of operating profits. These stores are over 100,000 square feet in size, with the latest prototype for small markets set at 101,000 sq. ft. Larger market stores cover 115,000 sq. ft. with about 34,000 sq. ft. for lawn and garden centers.
Insiders own just 2.3% of the stock, but other employees control another 10.3% through a very strong employee stock ownership plan. Institutions own 26%, with 14% owned by Fidelity.
FINANCIAL FACTS
Income Statement
12-month sales: $10,635.7 million
12-month income: $381.6 million
12-month EPS: $2.18
Profit Margin: 3.6%
Market Cap: $14,654.3 million
Balance Sheet
Cash & Securities: $651.2 million
Current Assets: $2,921.8 million
Current Liabilities: $1,949.7 million
Long-Term Debt: $1,331.2 million
Ratios
Price-to-earnings: 38.3
Price-to-sales: 1.4
HOW COULD YOU HAVE FOUND THIS DOUBLE?
Compared with Home Depot, Lowe's has traditionally had a stronger following among professional contractors. That means it is somewhat more susceptible to the economic climate. With the good times rolling, an investor might have turned naturally from reports of terrific growth in new housing starts to a company like Lowe's.
The numbers would have backed up the suspicion that Lowe's would be doing well. The company recorded healthy double-digit sales gains over the last three years (16% in 1995, 22% in 1996, and 18% last year) thanks to new store openings, larger store formats, and mid-single-digit same-store sales gains. Lowe's has also delivered estimate-beating quarterly results, eliciting a number of analyst upgrades late last year and early this year.
WHERE TO FROM HERE?
Zacks shows consensus earnings estimates of $2.53 per share for the fiscal year ending next January and $3.03 a share for the following year. Those numbers are roughly in line with the consensus projections for 20% long-term growth. Based on the estimated growth for the rest of this year, the PEG ratio would be a very rich 1.7. Even using the high-side estimate of $2.61 per share, the YPEG fair value would be just $52.
By these basic valuations, Lowe's looks pricey after its recent rally. Although Home Depot is even more expensive today, trading at about 40 times forward earnings estimates, it also sports higher profit margins (4.8% last year vs. 3.5% for Lowe's) with promises of consistent 24% EPS growth. It is also more than twice the size of Lowe's, justifying a premium for its market power.
Lowe's has clearly shown it can compete with Home Depot, meaning it should benefit from the continued consolidation of the home improvement market. Plus, the economy remains remarkably strong, a major factor in the company's terrific first quarter performance. Trusting that performance rather than just the newly raised earnings estimates, it's possible the Lowe's will grow into its share price over the next year or so.
At this point, though, the stock price seems to have discounted the recent good news and then some.
-- Louis Corrigan
([email protected])