Blue Chips

Home Depot Stock With 23% Dividend Growth

Home Depot Stock has an impressive record of growing dividends at an annualized rate of 23% over the last 5 years and raising them every year since 2009.

Although the company did not make it to the Dividend Aristocrats list, it has paid dividends since 1987 and did not raise them during the great financial crisis of 2008 to 2009 due to the downturn in the housing market.

In this article, we review Home Depot’s business synopsis, latest financial results as of 3rd Quarter 2019, dividend growth history, stock’s performance and valuation versus the S&P 500.

Business Synopsis

Founded in 1978 under a Delaware Corporation, Home Depot is the largest home improvement retailer in the world. The company operates 2,287 stores in the United States, Canada and Mexico as of the end of 2018. Each Home Depot store averages 104,000 square feet of retail space, along with a 24,000 square feet of garden area.

As a comparison, discount retailer Costco averages 145,000 square feet of warehouse area. The Home Depot sells building products, home improvement goods as well as installation services to 3 primary customers.

  1. First are DIY (do it yourself) customers who buy and renovate their own homes.
  2. Second are DIFM (do it for me) customers who typically renovate their homes once or twice during their lifetimes and require the help of Home Depot’s services department.
  3. Third are professionals who build and renovate homes for a living and have builders’ or renovators’ licenses.

If you hop on to their website www.homedepot.com, you can find thousands of products in different departments.

  • The building materials department sells insulation, sidings, ceilings, molding & mill work, fences, decks, plywood, etc.
  • The heating and cooling department has products like heaters, thermostats, fireplaces, HVAC systems, outdoor heating, ventilation and fans.
  • The Lawn & Garden department has sheds, garages & outdoor storage products, insect & pest control, trees & brushes, water & irrigation, lawn mowers, etc.
  • The paint department sells interior and exterior paint products, paint sprayers, caulk & sealants, spray paint, concrete and garage floor paintings, etc.
  • The plumbing department retails water heaters, water pumps, bath faucets & shower heads, pipes & fittings, etc.

Business Analysis

Trading on the New York Stock Exchange under the ticker HD, Home Depot stock has a market capitalization of $260 billion and pays a dividend yield of 2.3%. This is 40 basis points higher than the yield provided by the S&P 500 Index at 1.9%.

For the year 2018, Home Depot generated $108.23 billion in sales, a 7.2% growth over sales in 2017 which came in at $100.9 billion. Net income for 2018 was $11.121 billion, providing a healthy net profit margin of 10.3%. The company provides a breakdown of sales by department, here are some interesting facts we gathered from the 2018 annual report.

  • Top selling department is Indoor garden which had sales of $10.438 billion in 2018, making up 9.6% of total sales.
  • Second largest department is appliances at $9 billion (8.3% of total sales) and third is lumber at $8.388 billion (7.8% of total sales).
  • A typical store carries 30,000 to 40,000 items throughout the year and the online store carries even more variety of products to complement the stores.
  • Comparable sales growth which measures same store sales growth for stores that have been open at least 12 months was up 5.2% in 2018, down from 6.8% in 2017 and 5.6% in 2016. This could be attributed to the increase in mortgage rates in 2018 when the 30 year fixed rate mortgage shot up from 3.95% in early 2018 to as high as 4.95% in November 2018.
  • When mortgage rates rise, housing activity slows down as consumers qualify for smaller mortgages and their purchasing power decreases. As less consumers buy houses, prices drop and companies like Home Depot which are the backbone of the housing sector experience drop in sales.
  • Employs 413,000 “Orange” associates, a corporate term for sales representatives of whom 29,000 are salaried with benefits while the rest are hourly and temporary workers.
  • The company is leveraging over 2000 stores as customer pick up points and for returns and deliveries.
  • For fiscal 2018, 50% of all online orders made from the Home Depot.com website were picked up in store. The company has also rolled out van and car delivery for nearby customers that cover 70% and 40% of the entire US population respectively.
  • Home Depot has 1,981 stores across the United States with highest concentrations in California (232 stores), Florida (153 stores) and Texas (179 stores). The company has 182 stores in Canada with 88 in the province of Ontario.
  • One of the strongest areas of growth is online sales which represented 7.9% of the total $108.2 billion in 2018 net sales. These sales are made online through Home Depot.com and picked up in store or dropped off to customers’ locations.
  • Online sales grew 26.2% in 2018 over the last calendar year.

Financial Metrics, Growth & Operating Margins

In its 2018 annual report, Home Depot provides investors comparable data regarding same store sales growth, average purchase ticket, sales per square foot and how many customer transactions from 2016 to 2018. Here is a brief summary.

  • Same store sales increased 5.2% in 2018 from prior year, 6.8% in 2017 and 5.6% in 2016. This growth was due to increased customer transactions and increase in average ticket price.
  • All departments had increase in sales except for Lighting which dropped in sales due to deflation in LED prices.
  • Average purchase receipt increased from $63.06 in 2017 to $65.74 in 2018, a growth of 4.2%.
  • One of the strongest selling products is Vinyl Plank flooring, due to its 100% water resistant properties, long lasting durability, low maintenance and easy to clean. It makes perfect solution to floor up kitchens, basements, bathrooms as well as commercial applications.
  • Aside from selling home improvement products, Home Depot also sells services which generated $5.27 billion in sales for fiscal 2018, a 6.5% growth from 2017 sales which came in at $4.948 billion.
  • Examples of services include home improvement installations including carpet and flooring installation, tiles, HVAC systems, cabinets and counter tops, bathrooms, doors, garages and windows, etc. Home Depot also provides tool and equipment rental services to its PRO customers.

Dividend History, Sustainability and Payout Ratio

Home Depot (HD) paid its first dividend in 1987 and the company has increased its dividend every single year, except for the years 2007 to 2009 due to the great financial crisis. The company exercised financial prudence by not raising its dividend during times of distress in the housing market. What makes this company so strong is that management did NOT cut its dividend during the housing crisis of 2009.

Home Depot stock has grown its dividend from 1 cent in 1990 to $4.12 in 2018, a jaw dropping 412,000% increase. This is a 23% compounded annual rate of growth, which is the kind of performance shown by  Warren Buffet’s track record of growing Berkshire Hathaway stock price. Below is a chart showing the steady uptrend in dividend growth from 1990 to 2004 giving way to a steep rise from 2009 to 2018.

Below is a chart showing annual dividend growth from prior year in percentage terms. We see that in 2006, the company grew its dividend almost 70% year over year while in 1992 and 1993, dividend growth was in the 50% growth range. The chart also shows no growth from the year 2007 to 2009 as mentioned above due to the housing crisis.

Measuring the Dividend Payout Ratio

Even though Home Depot is not part of the prestigious S&P 500 Dividend Aristocrats index, its dividend growth over the last 29 years is anything but spectacular. How awesome is it to be able to be a shareholder in a company that supplies your next flooring or kitchen renovation, collect growing dividends and receive awesome stock appreciation.

For investors, it is smart to examine the dividend payout ratio for Home Depot to ensure its stream of dividend payments is safe and supported by incoming free cash flows. Dividend Payout Ratio measures how much of a company’s free cash flow is paid out in the form of dividends. Free cash flow is the cash a company generates from its daily operating activities minus capital expenditures like investing in new plants or equipment. Free cash flow is calculated from the statement of cash flows, and is not artificially modified using accounting rules or non-cash expenses like depreciation, amortization, fair value revaluations, etc.

In its 2018 annual report, the company quotes, “We generated $13.0 billion of cash flow from operations during fiscal 2018 and issued $3.5 billion of long-term debt in fiscal 2018. This cash flow, along with cash on hand, was used to fund cash payments of $10.0 billion for share repurchases, pay $4.7 billion of dividends, fund $2.4 billion in capital expenditures, repay $1.2 billion of senior notes that matured in September 2018, and repay $220 million of net short-term borrowings.”

Knowing this information, what is the dividend payout ratio? First we need to calculate free cash flow which is cash from operations minus capital expenditures.

Free Cash Flow = Cash from Operations – Capital Expenditures

Free Cash Flow = $13 billion – $2.4 billion

Free Cash flow = $10.6 billion

Now lets calculate the dividend payout ratio.

Dividend Payout Ratio = Total Dividends Paid / Free Cash Flow

Dividend Payout Ratio = $4.7 billion / $10.6 billion

Dividend Payout Ratio = 44%

A dividend payout ratio of 44% is quite easy to maintain and leaves room for future dividend increases. Note from the information above that Home Depot also bought back $10 billion in stock in 2018. Stock buybacks could be cut back while dividend payments could also be increased.

Performance of Home Depot (HD) Stock over the Long Term

Below is a long term monthly chart. The stock traded at $1.73 on January 1st, 1990. As of October 2019, the stock is trading at almost $235. This is an outstanding 13,500% gain over a period of 29 years. The compounded annual growth rate for Home Depot stock since 1990 is 18.5%.

The stock has gone through gut wrenching draw downs including in 2002 when the stock dropped from a high of $66 in December 1999 to $22 in January 2003, a drop of 66%. The stock again lost more than 50% of its value during the 2008 great financial crisis.

Home Depot (HD) Stock Performance and Valuation versus S&P 500 and XLY

Home Depot stock has crushed the S&P 500 Index by about 900% over the past 10 years. While the S&P 500 Index is up 197%, Home Depot stock is up 1088.5%. This is shown in the chart below where the red line is Home Depot stock while the blue line is S&P 500.

Home Depot is included in the S&P Consumer Discretionary Index (XLY) which has gained 22.12% year to date as of November 2019 while Home Depot has gained 36.5% year to date.

Studying the chart below, we see that there was not even one instance during the last 10 years where S&P 500 out performed Home Depot stock, hence making this stock a clear 5 star winner. In terms of valuation, while the S&P 500 trades at a forward price to earnings ratio of 17.2 as of November 2019, Home Depot stock trades at a forward PE of 23 times earnings.

This means for every $1 of earnings that Home Depot generates, investors are paying $23 for the right to be a shareholder in the company. We would not recommend buying the stock at these levels as it is quite expensive, overbought and ripe for a pullback. However, for longer term investors, a pullback of 10% to 15% presents a great opportunity to buy.

Executive Summary

Market Capitalization $260 billion
Dividend Yield 2.3%
Forward PE Ratio 23 times earnings
Dividend Growth (5 Year Avg.) 23.2%
Dividend Payout Ratio 44%
EPS Growth (5 Year Avg.) 20.79%
2018 Revenues $108.2 billion
Gross Margin 34.3%
Net Margin 10.2%

 

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  1. […] 1st, 1999 – Chevron, Goodyear Tire, Sears Roebuck and Union Carbide are replaced with Home Depot, Intel, Microsoft and SBC […]

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