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Executive Summary - Home Depot

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Evaluated the strategy of Home Depot (NYSE: HD). Further used the strategic analysis, along with financial statement analysis and any other available information, to provide and support a long term …

Evaluated the strategy of Home Depot (NYSE: HD). Further used the strategic analysis, along with financial statement analysis and any other available information, to provide and support a long term growth rate estimate for the company.

Published in Economy & Finance , Business
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  • 1. Executive Summary Home Depot Submitted By: Usman Riaz
  • 2. Industry & Company Description Home Depot is a home improvement and construction company. It has its headquarters located in Georgia, Atlanta. Founded in 1978, Home Depot is the largest home improvement retailer in the United States with 2248 stores. This includes 1976 stores in US and the rest in Canada, Mexico, China, UK, Argentina and Chile. Home Depot serves three primary customer groups; do-it-yourself (D-I-Y), do-it-forme (D-I-F-M) and professional customers. The company offers over 300,000 different products. Home Depot operates in the home improvement and construction industry. The industry consists of other competitors like Lowe’s in USA which is the main competitor in term of size. Home depot and Lowe’s together make up only 18% of the total industry and the rest of the market share is distributed amongst big-box retailers such as Walmart and other small chains and businesses. Home improvement industry is recovering from a slum caused by the housing market collapse of 2008. The revenues of the industry got hit severely as the demand for these goods rock bottomed. But the good news is that the housing market has started a comeback in 2012 and the “Joint center for housing studies of Harvard University” suggests that the market is on the right path of a recovery. After several years as a drag in economy, the housing sector contributed positively to the GDP in 2012. Porter’s Five Forces Industry Competition Home Depot sit quite comfortably on the top as the market leader in the industry. Its closest rival Lowe’s stands far behind. The revenues for the year ending Feb 2013, Home Depot reported revenues of 74,754 Million whereas Lowe’s Revenues were a distant 50,521 Million. Home Depot has a core competency in store locations throughout the country. Besides this advantage the rivalry is very high. There are a lot of small retailers who are competing on prices. The market is saturated but the existing competitors are striving harder and harder to get a step ahead of each other. There are some small retailers who beat Home Depot on prices but their limited size and after sales services is something that cannot match Home Depot. Threat of New Entrant The threat of new entrant is low because of the high startup cost associated. The large size of Home Depot purchases gives it a significant buying power that a new entrant or another small competitor cannot enjoy. It is very hard and risky for a new entrant to come into a market that needs huge upfront investment and has settled competitors with strong brand identification already. Home Depot has experience of decades in the industry that makes it an even fiercer competitor for a new entrant. Suppliers Home Depot can drive the least prices out of the suppliers due to its huge buying powers. The greater the power of Home Depot, the lesser will be its supplier’s power to impose high prices. A buyer such as Home Depot will always dictate the terms when it comes to negotiating prices so the supplier has a low power in this case Customers The bargaining power of the customer is medium because of the presence of other retailers. What puts Home Depot in a relatively good position despite being on the expensive side is it’s after sales services
  • 3. that the smaller suppliers and even Lowe’s cannot match. Besides it has a strong brand name that is associated with quality. Home Depot’s presence in all parts of the US makes it a more preferable place to shop too. Substitute Products There is a low threat of substitutes as home improvement and construction products are essentials and not luxury. These products are necessary for the purpose they are bought. Financial Statement Analysis The key ratios have been calculated in the appendix. I will go over them in categories. The current ratio is improving since the last 5 years with a drop in the last year. The drop still keeps it above 2011. The liquidity ratios as a whole are getting better as a whole in the last 5 years. Profitability ratios are also improving significantly with ROE rising from 5.49 in 2009 to 11.04 in 2013. The leverage ratios have not shown such a good improvement. It has fluctuated up and down in the last 5 years. The times interest ratio has been improving for the last 5 years. The inventory turnover rate deteriorated from 2008 – 2011 but has started to improve since. Total Asset turnover also decreased in 2010 but has improved since then. The reason for these two sales and inventory related ratios slum in 2010 was the effects of recession that hit the housing market in particular. The market Value ratio has been on the rise and shows the company gaining value in the stock market. Relating Home Depot’s ratios to the Lowe’s and the overall industry, all the ratios show that Home Depot is doing better than the its main competitor and the industry as a whole. The graph in the appendix shows Home Depot’s stock performance vs. Lowe’s. So as a whole the company is doing well in a recovering economy. Conclusion I will use the historical data and analysis based on fundamentals and then I will also look at the charts to come to a conclusion. Looking at the recent history, after the recession Home Depot is doing well. The revenues are growing at an increasing rate but the most impressive thing is that the earning are growing at a better rate than the revenues. This shows a reduction in expenses and a greater profit margin. The GDP is growing after the recession is over so it gives Home Depot a favorable macro environment to grow. The Revenues are rising during the last four years and the appendix shows the percentage rise. At the moment the economy is getting out of a bad time so it is increasing at a higher rate. I expect the growth to smoothen in the next 5 years and be around 19%. With Home Depot currently performing better than its and analyst’s expectations, this number seems to be appropriate. The DuPont Identity shows that the asset turnover and the profit margins have increased showing that the expenses have decreased. I have calculated the growth in earning by using growth rate formula and Gordon growth model. I have taken the average and it come out to be 10.96%. For a 5 year period I would take this to be around 14%.
  • 4. Mrkt Value Inventory Cove rage Leverage Profitability Liquidity Appendix Ratios Net working Capital Current Ratio Quick Ratio Cash Ratio Gross Margin Operating Profit Margin Profit Margin ROE ROA 2013 3910M 2012 5144M 2011 3357M 2010 3537M 2009 2209M 1.34 0.34 0.22 34.57 10.39 1.55 0.34 0.21 34.47 9.46 1.33 0.16 0.05 34.27 8.59 1.34 0.23 0.14 33.87 7.26 1.20 0.13 0.05 33.65 6.11 6.07 25.51 11.04 5.52 21.70 9.58 4.91 17.67 8.32 4.02 13.72 6.51 3.17 12.71 5.49 Debt/Equity Debt/Capital Times Interest Earned Inventory Turnover 0.61 0.38 12.43 0.60 0.38 11.01 0.52 0.34 10.95 0.50 0.33 6.95 0.64 0.39 6.67 6.98 6.82 6.40 6.50 6.68 Total Asset Turnover P/E Ratio Market to Book Ratio 1.82 1.74 1.69 1.62 1.73 22.86 5.83 19.49 4.23 18.15 3.21 20.76 2.85 18.59 2.36
  • 5. DuPont Identity ROE 2013 2012 2011 2010 2009 25.51 21.71 17.67 13.72 12.71 Net Profit Margin 6.07 5.52 4.91 4.02 5.68 Asset T.O Leverage 1.82 1.74 1.69 1.73 1.75 2.31 2.26 2.12 2.11 2.50 Revenue Growth Rate: year 2011 2012 2013 2014 Revenue 15126000 16014000 18246000 Growth 3.82% 5.87% 13.94% 15%-16% Growth= (Retained Earningst-1/ NIt-1) * ROE = (20038000/4535000)*0.2551 = 12.71% CAPM = E (R)=Rf + b(E(Rm) - Rf) = 2.68+0.62(13.20 – 2.68) = 9.20 Gordon Growth Model = Value= Div/(r-g) 75.51 = (0.29*4)/(9.20-g) = 9.21% Averaging two rates gives us 10.96% 2018 19%