Wal-Mart vs. Home Depot: Quarterly Earnings Results and Future Prospects
On May 17, Wal-Mart (WMT) reported positive earnings for the quarter ended April 30, 2012, surpassing analyst expectations, taking the spotlight off the company’s bribery imbroglio in Mexico, and sending shares higher even as broader markets declined during the week. Home Depot (HD) also reported positive results for the quarter ended April 29, 2012, roughly meeting analyst expectations. WMT’s and HD’s upbeat results may reflect a broader improvement in American economic conditions, specifically strengthening consumer sentiment and rising homebuilder confidence. However, for individual investors wary of the Greece-induced market whiplash and uncertain about the prospects of the American economy and the housing market, Home Depot’s results should elicit skepticism. In contrast, Wal-Mart’s results are a sign of continued strength and even steady growth for the world’s largest retailer.
Wal-Mart: Growth and Resilience
Wal-Mart reported diluted EPS of $1.09, above guidance of $1.01 to $1.06 and an 11% increase on the same period in the previous year. Wal-Mart’s international segment drove revenue growth with a 10.9% increase in constant currency sales, yet U.S. same store sales in also grew substantially by 2.6% during the period – the largest increase since 2009 – outstripping the upper bound of guidance by .6%. Overall U.S. sales increased 5.9% and the company logged increases in both traffic and average ticket.
Wal-Mart is a bulwark of stability in times of uncertainty, with a relatively stable share price, a beta of just 0.35, and a current annual yield of 2.7%. The Commerce Department reported fairly robust overall consumption growth in both February and March, but a lethargic 0.2% increase in April. Wal-Mart’s U.S. sales growth easily outstripped these broader metrics – a testament to the company’s strength in the competitive retail sector during periods of steadily increasing consumer spending. Yet, Wal-Mart’s business model based on discounted good sales and one-stop shopping also proves resilient during periods weak consumer spending and sluggish personal income growth (as in April 2012). Should economic conditions improve, Wal-Mart will benefit, though less than more cyclical retailers. On the other hand, should economic conditions deteriorate, Wal-Mart will be less vulnerable than rival retailers as a result of its discounted product business model and significant international presence. Thus, the company offers investors some potential for capital gains should economic conditions improve, but more importantly it is an excellent safe haven investment for bearish investors and Eurozone pessimists.
Home Depot: Improvement but Caution
Home Depot reported sales and EPS figures roughly in line with analyst expectations. EPS increased 27.4% year on year and 33.7% over the previous quarter. Sales rose 5.9% and 11.2% over the same periods – a possible indication of increasing consumer spending on home improvement products and services. The combined effects of a warm winter, which allowed homeowners to start improvement projects earlier, and improving sentiment among homebuilders (the National Association of Homebuilders/Wells Fargo builder sentiment index rose to its highest level in 5 years in May) are credited with lifting sales and earnings. The company issued revised guidance for fiscal 2012 and now estimates annual sales increase of a little over 4%. While the company’s results were undeniably positive, there are a number of reasons for why Home Depot is not a stellar buying opportunity.
First, the company’s fortunes are highly correlated with those of the housing market. Although strong consumer spending and abnormally warm weather are credited with lifting sales and net income growth, temperate weather most likely motivated homeowners to simply begin improvement projects earlier than they otherwise would have. One would not expect weather alone to augment overall home improvement spending. Thus, this development probably just inflated revenues and income in the most recent quarter at the expense of future periods.
On the other hand, if revenue and income growth were entirely the result of increasing consumer spending, the positive effects on income would not be isolated to Home Depot. In this circumstance, Wal-Mart most likely was, and will continue to be, a greater beneficiary rising spending in the absence of a significant revival in the housing market. The overall housing market has shown signs of revival recently, but the resurgence varies with region and home construction and sales prices are still well below pre-recession levels. HD’s lackluster sales guidance for 2012 reflects expectations of enduring weakness.
Some analysts speculate that crisis escalation in Greece may stimulate risk-off behavior, sending capital fleeing to dollar denominated assets and lowering interest rates in the United States, thus stimulating spending and housing investment. However, this prediction fails to account for the undermining of consumer and business confidence that would result from further escalation of the crisis, which would counteract the positive effects of falling interest rates. Moreover, rates have plunged to new lows time and again for several years since the financial crisis, suggesting that further easing will not alleviate the housing supply glut any faster.
Finally, Home Depot has a higher beta (0.8) and a lower dividend (2.47% yield) than Wal-Mart, making it a comparatively poor safe haven investment in the event of deteriorating conditions.
Wal-Mart over Home Depot
Of these two retail chains, Wal-Mart is a more attractive investment. Although both companies logged positive results in the quarter ended April 30 and April 29, respectively, Home Depot’s success is contingent upon a revival in the housing market and growing investment in the upkeep of existing housing. Given the failure of the market to absorb a glut of vacant homes and mediocre economic data regarding employment and income growth, this prospect seems unlikely in the near term.
In contrast, Wal-Mart’s continued financial success is less contingent upon a revival in the American retail sector because, should economic conditions deteriorate, the company will be insulated by a shift to discount shopping and by its large and growing international presence. On the other hand, Wal-Mart would also benefit from improving economic conditions. In addition, the company is less dependent on the moribund housing market than Home Depot. In the event of weak global economic growth and escalating crisis in the Eurozone, Wal-Mart will prove much more resilient than most rivals. In an alternative optimistic scenario in which the enduring housing market hangover is rapidly cured, GDP and income growth accelerates in the United States, and a quick resolution to the European debt crisis is agreed upon, Home Depot is the better investment. While the first two conditions are certainly possible, the final one seems increasingly unlikely.
Disclosure: The author has no holdings in the stocks mentioned in this article and has no plans to initiate any positions within the next 72 hours. He does, however, have the intention of rating these stocks on WealthLift.com, a social media website where investment ideas are shared openly and free.