家得寶 (HD) 2006 Q2 法說會逐字稿

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  • Operator

  • Good day, everyone, and welcome to today's Home Depot second quarter earnings conference call.

  • As a reminder, today's conference is being recorded.

  • Beginning today's discussion is Miss Diane Dayhoff, Vice President of Investor Relations.

  • Please go ahead.

  • Diane Dayhoff - VP IR

  • Thank you, and good morning, everyone.

  • Welcome to the Home Depot second quarter earnings conference call.

  • Joining us on our call today are Bob Nardelli, Chairman, President and CEO of Home Depot, Carol Tome, Executive Vice President and Chief Financial Officer, and Tom Taylor, Executive Vice President of Merchandising and Marketing.

  • Today's discussion will begin with a review of our business by Bob.

  • Tom will provide insight into our merchandising efforts.

  • And Carol will complete a prepared statement with a discussion of our financial results.

  • Following this brief discussion by Management the call will be open for analyst questions.

  • Questions will be limited to analysts and investors and as a reminder we would appreciate it if the participants would limit themselves to one question with one follow-up please.

  • This conference call is being broadcast realtime on the internet at HomeDepot.com with links on both our home page and the Investor Relations section.

  • The replay will also be available on our site.

  • If we are unable to get to your question during the call, please call our Investor Relations department at 770-384-2387.

  • Before I turn the call over to Bob, let me remind you that today's press release and the presentations made by our executives include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.

  • These statements are subject to risks and uncertainties.

  • These risks and uncertainties include but are not limited to those factors identified in the release and in our filings with the Securities & Exchange Commission.

  • Now let me turn the call over to Bob Nardelli.

  • Bob Nardelli - Chairman, President, and CEO

  • Thanks, Diane.

  • In the second quarter, we delivered sales of $26 billion, up almost 17% from last year.

  • Our net earnings were $1.9 billion, and excluding a one-time tax assessment, diluted earnings per share were $0.93, an increase of over 13%.

  • During the quarter, we continued our focus on returning value to our shareholders.

  • In May as you recall, the Board approved the repurchase of $2 billion or approximately 53 million shares through an accelerated share repurchase program.

  • Since the inception of our buyback program in late 2002, we have repurchased almost 350 million or approximately 17% of our outstanding shares.

  • In addition since 2000, we've more than doubled our annual dividend, increasing it from $0.16 to now $0.60 a year.

  • Over the past five years we've returned 65% of cumulative earnings to our shareholders in the form of dividends and share repurchase.

  • Carol will take you through our financial results in more detail later.

  • Our retail segment grew by 5% with an operating margin of close to 13%.

  • In the second quarter, we continued introducing new and innovative merchandise and gained market share in key categories including appliances, grills, patio furniture, and outdoor power.

  • Our services revenue, which is included in the retail segment, grew by almost 10% in the quarter to $1 billion.

  • Our Home Depot Direct business representing e-commerce and catalogs experienced solid growth.

  • It is on track to deliver $1 billion in annual sales.

  • In the second quarter sales in our Home Depot Supply segment grew by 325%, and the operating margin in that business was 7.5%, up from the 7.2% last year.

  • Our integration of Hughes Supply is exceeding our expectations.

  • Over the last few months, Home Depot Supply acquired four additional companies.

  • We would like to welcome Western Fasteners, Texas Contractor Supply, Rice Planter Carpets and Forest Product Supply into the Home Depot family.

  • Let me now shift to the macro economic environment.

  • As you know, we use an econometric model for planning purposes, and the economic indicators that drive growth in our industry are mixed.

  • Some indicators like unemployment and wages remain healthy.

  • Also the install base for homes has grown over the last three years, and housing continues to age, which benefits home repair and maintenance spending.

  • In fact, we believe discretionary dollars will become repair and maintenance dollars.

  • On the other hand, the consumer is feeling the pressure of higher oil and gas prices, rising interest rates, adjustable rate mortgage resets, and this pressure on the consumer impacts our transaction count.

  • Therefore, we see a challenging second half.

  • We're planning conservatively overall but not in the retail business.

  • We are accelerating investments to aggressively focus on our valued customers and attempt to gain share in a down market.

  • First, in May we told you that we were going to reset 100 bays in each of our top 500 volume stores by year end.

  • Today we're excited to announce that we have added the 40 stores here in our hometown of Atlanta.

  • I have walked the first reset stores and really liked what I have seen.

  • This aggressive refreshening will become part of our ongoing retail model through the balance of this year and beyond.

  • Further, as you will hear from Tom Taylor, the financial results of the resets have been positive.

  • Tom will also talk to you about our merchandising initiatives later in the call.

  • Second, we are accelerating capital expenditures on our store modernization program.

  • This includes the completion of self checkout in all stores, Customer Service call boxes to selected stores and just simply spending more on store appearance to prove the overall shopping experience.

  • Third, typically we adjust our staffing levels to match sales.

  • Up in the spring, down in the fall.

  • For the back half of the year we're going to keep the staffing level in place, and we'll be adding more.

  • In total the U.S. stores will have 5.5 million more hours in our stores to serve our customers.

  • You will see more associates in the store than prior fall seasons.

  • Finally, and fourth, we're continuing with our technology and logistics initiatives.

  • SOSI or our special order service initiative, should be in the flooring department in all of our US stores by the first quarter of next year.

  • Our core retail initiative is moving forward in Canada before we bring it to the U.S.

  • Additionally, I am delighted to have Mark Holyfield on staff as our yew Senior Vice President of Logistics.

  • Mark brings 29 years of logistics experience to the Home Depot.

  • In just a few weeks with us he has already brought some great ideas.

  • Finally, last quarter we launched a new associate initiative program raising the awareness and rewarding good Customer Services.

  • We call that orange juiced.

  • Orange juiced will pay out $30 million to our store associates on top of our success sharing program.

  • So I want to thank our associates for their hard work and focus on taking care of our customers.

  • We're clearly seeing the results on our current voice of customer data.

  • In total, we're spending about $350 million more in capital expenses than we had planned.

  • In order to do this, we have reprioritized some non-customer facing initiatives.

  • We're confident of our competitive position both in the retail business and in Home Depot Supply, and in a challenging environment like this, we believe it is all about investing to win.

  • In the back half of the year we're investing in our customers, our associates, and our stores, and I am confident in our team's ability to execute.

  • So now I would like to turn the call over to Tom to give you an update.

  • Tom Taylor - EVP Merchandising and Marketing

  • Thanks, Bob, and good morning, everyone.

  • We entered the second quarter with momentum.

  • From a merchandising perspective, we saw solid average ticket growth.

  • Our average ticket reached $59.98, a 4.2% increase compared to the same period last year.

  • The growth in average ticket was driven by continued strength in our repair/remodel businesses as well as market share gains in key categories.

  • While we had great merchandise momentum, our transactions softened up in the last part of the quarter, and we think it was a function in part of the economy.

  • Let me get back to merchandising.

  • We saw strength in our repair/remodel business, particularly in building materials, hand tools and power tool accessories, and electrical products such as wire, conduit and fittings.

  • These categories all reported positive comps driven by whole project selling as well as increases in commodity prices.

  • We also gained market share in key categories including electrical, hand tools, hardware, outdoor power equipment, grills, patio furniture, and appliances.

  • In electrical ,we gained share due to our ability to maintain a strong in-stock position compared to other regional competitors.

  • In outdoor power equipment we gained share in a shrinking market as a result of our comprehensive lineup of mowers and tractors.

  • According to an independent third party, on a rolling twelve-month basis, our core lawn power equipment market share increased 60 basis points to 24.4%.

  • Our results were driven by a stronger merchandising assortment and the power equipment specialists on the floor of our stores.

  • We have become the destination for grill and is patio furniture.

  • Two years ago we had a limited assortment of grills and a 14.4% market share.

  • Today we have an expansive assortment of grill and is increased our market share by over 300 basis points to 17.5%.

  • Patio furniture had another great quarter as we continued to increase our assortment, enhance the quality and provide great values through our proprietary Hampton Bay brand.

  • The momentum in appliances continued as we grew market share and hit our highest close rate ever.

  • According to an independent third party, on a rolling twelve-month basis, our core market share increased 130 basis points to 10.1%.

  • Our results were driven by our merchandising assortment and our knowledgeable sales associates.

  • Our customers continue to respond to our new and innovative products.

  • During the second quarter we rolled out the midnight blue LG Steam Sense Laundry with LCD display.

  • We also introduced an LG french door bottom-mount refrigerator with ice, crushed ice and a water dispenser.

  • In small appliances we added a new and exclusive vacuum line by Maytag.

  • Given the heat across the country, we saw strength in our air movement categories.

  • We had strong sell through in air conditioning units, portable fans, air filters and evaporative coolers and saw customers trade up in this category to optimize product efficiency and reduce energy costs.

  • During the second quarter lumber prices fell to 2002 level and is had a negative impact to the category.

  • Had lumber prices been at last year's retail price, our retail comps would have been slightly positive.

  • In the first quarter we told you we saw softness in flooring.

  • It didn't get much better in the second quarter, but we are making progress.

  • As we begin the third quarter, we're introducing new, fashion-forward merchandise in every category including hard flooring, ceramic tile and soft flooring.

  • For example, we are expanding our hard flooring assortment to include Thomasville wood flooring, DuPont Real Touch Elite flooring, presealed natural stone, and a Laurel vinyl flooring that has the look of real wood but the resilience of vinyl.

  • As part of our accelerated capital investment in the stores we will reset ceramic tile in over 500 our stores.

  • In soft flooring, we're introducing our exclusive line of Puress carpet that is specifically designed to resist stains and reduce odor in your home.

  • We're also adding five new products to the Sorona carpet line which offer superior stain resistance.

  • In addition to the merchandise, we have a number of other flooring initiatives under way from staffing to shortening the installation cycle time to clarifying our pricing proposition, all of which will turn this very important category around.

  • Bob talked about mixed signals in the economy.

  • As we look to the back half of the year, we know from our past experiences that in times like these our customers spend money on core repair re-maintenance projects.

  • Knowing that, we will be prepared to serve that customer.

  • At the beginning of this year we had a number of merchandising resets under way.

  • Last quarter we mentioned that we are increasing the reset activity in over 500 of our highest volume stores, we will reset approximately 100 bays in each of those stores by year end.

  • These 100 bays include key repair and remodel categories.

  • We call this program rapid refresh.

  • We have reset six pilot stores and are very pleased with their initial results.

  • The 100 reset bays are out performing the same 100 bays in our control stores.

  • In the third and fourth quarters, we have a number of new programs and products that we will roll out into the stores.

  • We plan to help our customers reduce their energy costs inside their home.

  • As the Energy Star Retailer of the year we have a comprehensive program including clinics that will teach our customers how to reduce costs in their homes by using energy efficient products.

  • We will hold clinics in our stores throughout October promoting awareness of our Energy Star products.

  • These products include everything from lighting and ceiling fans, windows and doors, weather stripping, caulk and insulation and appliances.

  • In fact, we have almost 2500 approved Energy Star products in our stores.

  • In power we will continue to expand our assortment through the addition of more lithium ion power tools through Ridgid.

  • We carry the most comprehensive assortment in the home improvement industry.

  • New to lithium ion products from DeWalt, Ridgid, and Bosch were added to complement the Milwaukee, Mikita, and Stihl products that were introduced last fall.

  • We'll also add seven new product to our exclusive Ryobi 1 plus family increasing the number of tools that can be operated through the Ryobi 18-volt platform to more than 30 tools.

  • In appliances you'll see us expand the LG Steam Sense laundry line and introduce the LG giant washer and drier and the Maytag Duet front load washers and dryers.

  • In Paint, building on the momentum from our top rated Behr paint products, we're introducing new BEHR kitchen and bath and exterior paints.

  • These exterior paints utilize BEHR's exclusive nanoguard technology providing improved durability, color retention, washability and mildew resistance.

  • These paints also eliminate the need for a primer and can be used over bare metals.

  • Our proprietary brand of BEHR paints differentiates us as we continue to deliver value to our customers through quality, innovation and service.

  • I am excited about the initiatives and product introductions that we're planning to roll out from now until the end of this year.

  • We understand the challenges ahead and from a merchandising perspective we are prepared.

  • Now I would like to turn the call over to Carol.

  • Carol Tome - EVP, CFO

  • Thank you, Tom, and hello, everyone.

  • As Bob mentioned, in the second quarter our total company sales grew by 16.7% or $3.7 billion to $26 billion.

  • Of the $3.7 billion in sales growth, $1.1 billion came from our retail segment and $2.6 billion came from our supply segment.

  • In the second quarter, sales in the retail segment were $22.6 billion, a 5.1% increase over the same period in 2005.

  • This sales increase was driven by the addition of new stores.

  • Beginning this quarter we are returning to our historical practice of providing a comparable store sales for the retail segment.

  • Against a strong retail comp of 3.4% in the second quarter of 2005, comp or same-store sales were a negative 0.2% for the second quarter of 2006.

  • This is slightly down from our first quarter comp, which was a positive 0.2%.

  • The second quarter started off strong, and our May comp sales were in line with our expectations.

  • June softened up a bit, and in July our comps fell slightly negative.

  • One last comment about comp sales.

  • As you know, we strategically cannibalize our stores to take pressure off of high volume stores and to support market growth.

  • In the second quarter, we cannibalized about 18% of our stores, which had a negative impact on comp sales of approximately 2.1%.

  • We saw strong growth within our Supply segment.

  • Sales in the Supply segment were $3.5 billion, up 325% over the same period in 2005.

  • We look at sales growth in this segment from an organic and an acquired perspective.

  • Excluding 2006 acquired sales, total revenues at Home Depot Supply grew by 126% in the second quarter, and for the businesses we owned as of the end of the second quarter last year, the year-over-year organic growth rate was approximately 12%.

  • Another way we look at the performance and the underlying health of recently acquired businesses is to analyze each acquisition on a full-year basis.

  • For example, while we did not own Hughes in 2005, year-over-year, Hughes had organic growth of 14%.

  • This illustrates our success in buying quality companies with strong growth potential.

  • Consolidated net earnings totaled $1.9 billion for the quarter, an increase of 5.3% over the second quarter of 2005.

  • Reflecting the impact of our share repurchase program, diluted earnings per share increased by 9.8% to $0.90 per share.

  • During the second quarter Quebec passed legislation that retroactively changed the tax laws and as such, subjected us to additional tax and interest.

  • As a result, we received an assessment from Quebec for the 2002 through 2005 taxable years of approximately $69 million.

  • The earnings per share impact of this assessment in the second quarter was $0.03 per share.

  • Excluding this discrete item, our diluted earnings per share was $0.93, up 13.4% from last year.

  • In the second quarter, consolidated gross margin was 32.2%, a decrease of 102 basis points from the same period last year.

  • Our consolidated gross margin rate reflects our evolving business model.

  • As you know, Supply has a lower gross margin rate than retail.

  • Given the growth in our supply segment, we are experiencing a higher penetration of lower supply gross margin rate dollars.

  • In the second quarter last year, 4% of our gross margin dollars came from our Supply segment.

  • In the second quarter this year, 11% of our gross margin dollars came from Supply.

  • In the second quarter Supply's gross margin rate was approximately 26.5%.

  • A higher penetration of lower gross margin dollars coupled with a slight decline in the retail gross margin caused total gross margin compression in the quarter.

  • The retail gross margin rate dropped 26 basis points to 33% reflecting a changing mix of products sold due to growth in appliances.

  • Appliances are now our largest category class.

  • In the second quarter we continued to drive expense productivity.

  • As total operating expenses decreased 48 basis points to 20% of sales.

  • This leverage wasn't at the expense of store labor.

  • In the second quarter, payroll which is our biggest expense in the retail stores, increased by 6.2%.

  • Further, our stores and store associates received $10 million in incentives in the second quarter, directly related to improvement in Customer Service ratings.

  • Our ability to leverage total company expenses in the second quarter was due to the strong sales growth in Supply as well as continued benefit arising from safety programs and other initiatives inside the retail business.

  • In the retail segment, our operating margin was 12.9%, about flat to last year, reflecting slight gross margin compression and expense leverage.

  • In the supply segment, our operating margin grew by 34 basis points to 7.5% reflecting continued progress in achieving acquisition synergies as we leveraged the power of our combined businesses.

  • Consolidated operating margin for the second quarter was 12.2%, down 54 basis points from the same period last year, reflecting our evolving business model.

  • Net interest expense was $98 million in the second quarter, up $78 million from the second quarter last year due to interest associated with $1 billion of term debt issued in August 2005 and $4 billion of term debt issued in March of this year as well as interest related to the Quebec tax assessment.

  • In the second quarter, our income tax provision rate increased to 39.6% from 37.4% last year resulting primarily from the Quebec tax assessment.

  • For the year we expect our income tax provision rate to be approximately 38%.

  • Diluted shares for the second quarter were 2.07 billion shares compared to 2.15 billion shares at the end of the second quarter of 2005.

  • The reduction in outstanding shares is due to our share repurchase program.

  • In the second quarter we repurchased 58 million shares, including shares repurchased under our accelerated share repurchase program, and cumulatively since 2002 when the program began, we have repurchased 349 million shares and spent $12.5 billion under our $14 billion authorization.

  • Now I would like to share some of our operational metrics.

  • During the second quarter we opened 30 new stores, including two relocations with two new stores in Canada and one new store in Mexico.

  • Approximately 10% of our store base is found in Canada and Mexico, and we are the market leader in those two countries.

  • Today, we own 87% of our retail stores.

  • In the Supply segment we lease most of our locations and today we have over 900 locations in 44 states and in Canada.

  • In Atlanta alone, when you combine our retail and our supply businesses we have over 90 locations, and the served market has grown from $4 billion to now $16 billion.

  • At the end of the second quarter, selling retail square footage was $219 million, a 6.3% increase from a year ago.

  • The average square footage per store was 105,000 square feet, the same as last year.

  • Retail sales per square foot were approximately $411 for the quarter, down 2.3% from last year.

  • But sales per square foot in our new stores increased.

  • They increased by 1.3%, and it was the highest it has been since the second quarter of fiscal 2003.

  • Now, turning to the balance sheet, at the end of the quarter total inventory was $13.6 billion, an increase of 21% from last year, and inventory turns were five times about flat to last year.

  • The growth in inventory is primarily due to Home Depot Supply acquisitions as well as new stores.

  • On a per-store basis, inventory levels were $5.8 million which is about the same as the first quarter.

  • Computed on beginning long-term debt and equity for the trailing four quarters, return on invested capital was 23.7%, an increase of 70 basis points from last year.

  • We ended the quarter with $51.8 billion in assets including $659 million in cash and short-term investments.

  • This is a reduction of approximately $148 million in cash and short-term investments from the end of fiscal 2005, which includes cash flow generated by the business of approximately $5.8 billion along with the net proceeds of $3.5 billion of term debt offset by $3.8 billion paid to acquire new businesses, $2.8 billion paid for share repurchases, $1.5 billion of capital expenditures,$800 million used to repay commercial paper, and $628 million in dividends paid.

  • Our long-term debt to equity ratio at the end of the second quarter was approximately 24%.

  • Now as Bob mentioned, we are upping our investment in our core business and will spend about $350 million more than we had planned.

  • Of that, $180 million is capital, and we project that our full-year capital expenditures will be approximately $3.8 billion. $170 million of the accelerated investment is expense and will be partially offset by reduction in certain non-customer facing initiatives.

  • In January we told you that we thought we would grow our 2006 sales by 14 to 17%, and grow our earnings per share by 10 to 14%.

  • Given the current environment, we think comps could be flat to slightly negative in the back half of the year.

  • Based on our performance for the first half of the year, our conservative view for the back half of the year and our reinvestment plans, we now believe we will grow our fiscal 2006 sales and earnings per share at the low end of our guidance.

  • The Home Depot is a financial powerhouse, and we are using the power of our stellar financial position to invest in our customers and our business.

  • As Bob and Tom said, it is a challenging environment, but we are taking action.

  • Thank you for your participation in today's call, and, Gwen, we are now ready for questions.

  • Operator

  • [OPERATOR INSTRUCTIONS].

  • We'll go first to Eric Bosshard with Cleveland Research.

  • Eric Bosshard - Analyst

  • Good morning.

  • Could you talk a little bit about the $350 million spend as we think not only about the second half of '06 but about 2007 as well and specifically what I am interested in is the incremental investments.

  • Are those going to continue next year with form and magnitude would those take and ultimately what payback do you think we get from these?

  • Carol Tome - EVP, CFO

  • Good morning, Eric as we mentioned the $350 million spend for the back half of year is broken into both capital and expense. $180 million is capital, and that's capital that we will spend on revitalizing the front end of our stores as well as the merchandising reset that is Tom talked about.

  • Of the $170 million of expense, more than 50% of that is directly related to the investment that we're making in our associates, the remaining expense, are expenses associated with the various store merchandising and store reinvitization program that is we have under way.

  • As we think of what this means for 2007, what you should expect is a continued investment in the retail business.

  • As Bob mentioned in his comments, in an environment like this, it is all about investing to win, and that's what we're planning to do.

  • Eric Bosshard - Analyst

  • Does this suggest that it is the strategy shift is the wrong word, but if this is a changed mind set about the amount of investment that you want to make in the retail business permanently and what payback do you think that means in terms of sales growth as well as profitability?

  • Carol Tome - EVP, CFO

  • We have a balanced approach in terms of investing in our business as you know.

  • If you look at the capital spend this year, the $3.8 billion, 95% of that capital spend is directly in support of retail business.

  • You should expect that to continue.

  • Eric Bosshard - Analyst

  • Okay.

  • Very good.

  • Thank you.

  • Operator

  • We'll go next to Deborah Weinswig with Citigroup.

  • Deborah Weinswig - Analyst

  • Good morning.

  • In terms of initiative with redeploying additional labor to the stores can you give us additional specifics in terms of categories that we might see that labor in, or any change in terms of the staffing, thoughts on the store?

  • Carl Liebert - EVP

  • Hi Deborah, This is Carl.

  • The way we allocate our labor model for the store is based on the types of stores, whether it be volume or the format of the store, and what we're doing is reinvesting in the customer experience inside our stores in the various types of stores, so, for example, you will see more aprons on the front end to take care of customers, you'll see more aprons in the departments in order to serve customers in the transactional side.

  • As Bob alluded to earlier, is making sure we have enough aprons in the store to make sure we present, that we're ready to go from a store readiness perspective each and every day.

  • It is based on a store by store decision.

  • Deborah Weinswig - Analyst

  • Carol, with you provide additional color on the gross margin performance in the quarter?

  • Carol Tome - EVP, CFO

  • Absolutely.

  • If you want to break it in its components, what we saw is changing mix in the retail business, and the retail business saw accelerated growth as Tom talked about in appliances, and because appliances are a lower margin category than the rest of the store, that puts some pressure on the gross margin.

  • The gross margin in the retail business dropped 26 basis points to now about 33%.

  • On the supply side we saw evolving mix in the supply business because of the acquisition of Hughes.

  • The supply margin of 26.5% in the second quarter is ahead of our plan.

  • We're very pleased with the synergies that Joe DeAngelo and the rest of the team are driving in that business.

  • Deborah Weinswig - Analyst

  • Okay.

  • Bob, I was very impressed with the accelerated retail investments for the back half of year.

  • Why do those -- how should we think about the comps in the back half?

  • Bob Nardelli - Chairman, President, and CEO

  • I think as Carol said, we certainly would expect flat to negative comps in the second half of the year.

  • Carol Tome - EVP, CFO

  • If I could just jump in, that's really reflecting the economic environment that we see ahead of us, and as you know, when you invest, it takes time to see a return on that investment.

  • As Tom pointed out, in the categories that we have reset in those six pilot stores, the 100 bays are outperforming our control stores.

  • We feel good about that.

  • Deborah Weinswig - Analyst

  • Should we really expect, then to see the benefits of these investments in 2007 and hence I am trying from a model perspective, should we be more optimistic on '07 in light of the investments being made in the back half of '06?

  • Carol Tome - EVP, CFO

  • There are a couple of dynamics to think about as you're building your model for 2007.

  • We are investing in the business to win.

  • We also have economic head wind that's coming right at us.

  • You've got a balance those two things as you think about your model for 2007.

  • Deborah Weinswig - Analyst

  • Okay.

  • In light of the economic back drop that most of us probably already had in your model, should we then think this would give an additional lift?

  • Diane Dayhoff - VP IR

  • This is Diane.

  • I don't think we can talk to you specifically about your specific model.

  • What Carol says I think is an overarching thought process.

  • Deborah Weinswig - Analyst

  • Okay.

  • Great.

  • Thank you so much.

  • Carol Tome - EVP, CFO

  • Thank you.

  • Operator

  • We'll go next to Matthew Fassler with Goldman Sachs.

  • Matthew Fassler - Analyst

  • Thanks a lot.

  • Quick question on the inventory.

  • You talked about the sequential change from Q1 levels.

  • Can you compare that to a year ago as well and also just tell us how you think about your inventory in the context of the slowing economic environment you see but also your effort to raise Customer Service levels?

  • Carol Tome - EVP, CFO

  • Yes, Matt, absolutely.

  • Relative to a year ago, inventory in our stores is up.

  • Some of that is by design.

  • Some of it also is reflection of the sales environment that we just discussed.

  • We feel very good about the quality of the inventory in our stores.

  • That's the most important thing, and we will sell this through in the ordinary course of business.

  • Matthew Fassler - Analyst

  • Understood.

  • Just a very quick follow-up clarification on your guidance.

  • You guided to the low end of 10 to 14%.

  • How should we think about the $0.03 tax item?

  • Is that included in your guidance or excluded?

  • Carol Tome - EVP, CFO

  • It is included.

  • We guide off of GAAP.

  • If you think about the first half of year, we earned $1.60, and if you look at the guidance towards the low end of the guidance range, that would imply $1.40 in the back half of the year.

  • Matthew Fassler - Analyst

  • Thank you very much.

  • Operator

  • We'll go next to Danielle Fox with Merrill Lynch.

  • Danielle Fox - Analyst

  • Thanks.

  • Good morning.

  • Bob, can you talk about what you're doing to develop the next generation of senior executives at Home Depot and in particular what you're doing in terms of succession planning and how close you are to filling Tom's merchandising spot?

  • Bob Nardelli - Chairman, President, and CEO

  • Well, Diane, it has been one of the key initiatives in our Company over the last five years.

  • We're very proud of a number of initiatives as it relates to the store leadership program, our merchandising leadership program, our business leadership program, and we're investing not only in the senior management but we'll do over $600 million of training in our stores in our associates this year.

  • We have a very robust process where we review succession planning with the board.

  • We spend a significant amount of time, Dennis Donovan and myself on the road.

  • We did five days just within the last four weeks, and we did six sessions a day across the country meeting what we believe is top talent.

  • We're looking very closely at positioning them in career expanding opportunities, and the good news is Tom has agreed to stay on which allows for a very orderly transition, and I think we've got rich robust talent within this company that we're looking at from a transitional standpoint.

  • Danielle Fox - Analyst

  • Okay.

  • Great.

  • And just a follow-up question about your acquisition strategy in the supply business.

  • Can you revisit, we have two quarters in segment reporting for Home Depot Supply.

  • Could you revisit your next steps and longer range plans for driving Supply to be I think a $25 billion business as your target by 2010.

  • At the analyst meeting, Carol, you mentioned you didn't expect to spend more in acquisitions over the next five year than you did over the past five years.

  • Is that still your latest thinking in terms of how acquisitions will contribute to achieving that goal?

  • Bob Nardelli - Chairman, President, and CEO

  • We've got the expert in the room.

  • Joe, why don't you comment on that?

  • Joe DeAngelo - President

  • Certainly.

  • I think we're consistent with what we talked about in January is that we're always looking at great acquisitions, but they need to be the right acquisitions at the right time.

  • We're always looking for a willing seller with great talent, has a great business model and at the right price, and so we'll continue to be right on that task, and I think Frank Lake and his team with Ted Decker do an awesome job of lining up the pipeline and being very discrete in terms of who we buy.

  • We look at 10 to 15 for every one we get.

  • Also, we're very much focused on just being organic growth machine.

  • We buy everybody to grow.

  • I think you have seen that in the Hughes acquisition to date and every acquisition we've had, so really we look at it in terms of if you don't have a great organic growth model,you don't earn the right to acquire.

  • We'll stick on strategy, and it will happen the same way it happened the last couple of years.

  • Danielle Fox - Analyst

  • Do you feel like the 12% which was a really good number could have been even higher in a more robust demand environment or you're not really seeing the macro impact at the supply business?

  • Joe DeAngelo - President

  • I think look at any time the economy goes up you're going to get some tail wind on that.

  • I couldn't be happier and prouder of what the teams have done in every one of the market segments we participate?

  • Danielle Fox - Analyst

  • Great.

  • Thanks very much.

  • Operator

  • We'll go next to Gary Balter with Credit Suisse.

  • Gary Balter - Analyst

  • Thank you.

  • Just a comment and question.

  • I am used to being audited from Quebec, so feel good it was only $0.03.

  • Carol Tome - EVP, CFO

  • You feel our pain.

  • Gary Balter - Analyst

  • The question is for Bob, I guess.

  • The investment back in retail effectively marks a change what we've been seeing.

  • We've been seeing lower labor hours and if anything, lower investments in the past.

  • What caused the change?

  • Is it looking at your relative performance versus Lowe's?

  • Is it just a sense that the retail businesses wasn't moving in the directions you thought?

  • Obviously it is a pretty significant change.

  • There has to be something behind it.

  • Bob Nardelli - Chairman, President, and CEO

  • Yeah, Gary, I think it is a multi-pronged response.

  • Certainly I think in a down market we have to get more aggressive to hold share.

  • That is clearly a priority for us in the second half. 2, as I said, seasonally we would adjust our labor models up in the spring and down in the fall.

  • Consistent with the capital reinvestment we all know you can have great merchandise, great looking stores, but it is our associates that bring it to life, and so it is just a logical extension of the capital investment to invest in our associates to make sure we have more associates on the floor when customers will be more discerning, have more choices and we clearly are going to be aggressive and committed to holding and gaining share.

  • We're starting to see very good results in our voice of customer, certainly supported by these initiatives and certainly the opportunity for incentive recognition through orange juiced, Carl and the team were up in Minneapolis Minnesota last Sunday night, had a big celebration.

  • We're going to be announcing the second quarter winners as soon as we get off this call, so it is all about momentum.

  • It is all about attitude, and we wanted to convey a very robust strong commitment.

  • I think Carol mentioned about the capital, 90% was in retail.

  • I don't see it as a dramatic change from where we've been, but we certainly are laser focused in with the uncertainties of the second half we're laser focused on retail.

  • Gary Balter - Analyst

  • What is the do to the buyback?

  • Bob Nardelli - Chairman, President, and CEO

  • I think Carol mentioned we still have about 1.5 billion remaining on our buyback.

  • We have I think set a pattern as a Corporation and certainly in retail we don't just announce buybacks, but we actually do them as evidenced in what we've done over the last few years.

  • We returned 65% of our earnings back to our shareholders, and as we said time and again going forward you should use what we've done as a representative model in your planning going forward.

  • Obviously that's all contingent upon board approval, but I certainly would say that what we've done is certainly something you can consider for the future.

  • Gary Balter - Analyst

  • And asked differently given you're reinvesting $350 million back in and you're going to continue to buy back this, have you changed your thoughts about the leverage that you would like in the Company?

  • Bob Nardelli - Chairman, President, and CEO

  • No.

  • I think again we said time and again we have a pretty balanced approach.

  • I think we are certainly reinvesting through stock repurchase.

  • We've taken the dividend from $0.16 when I got here to $0.60, while at the same time I think you'd agree with me, Gary, that the strategic reinvestment in going from 0 to $12 billion in our Home Depot Supply business certainly broadens our ability to -- broadens our customer base.

  • Just here in Atlanta, we'll go from a 4 billion market to a $14 billion market by a combination of stores branches.

  • In twelve months we now have a $1 billion catalog business.

  • In three years we have a $1 billion business in Mexico, and so I think the approach is balanced I think we are very sense I have to to a broad range of constituents, and I think that we've been very responsible in our actions and we will be going forward.

  • Carol Tome - EVP, CFO

  • If I could jump in we added additional leverage into our capital structure, increasing our debt to equity ratio to 24%, where last year it was 9%.

  • We have a tremendous amount of cash that comes off our business.

  • Our stores are cash cows.

  • On average they generate $5 million in EBITDA, and we have access to tremendous leverage outside of the business.

  • We can do whatever we need to do.

  • Gary Balter - Analyst

  • Great.

  • Thank you very much.

  • Bob Nardelli - Chairman, President, and CEO

  • Thanks, Gary.

  • Operator

  • We'll go next to Michael Baker with Deutsche Bank.

  • Michael Baker - Analyst

  • Thanks.

  • Just a couple quick ones here.

  • I think on the guidance originally when you gave the guidance in January of 10 to 14% earnings growth, it did exclude any impact from share buybacks and then I think you reiterated that at least off line in the first quarter to me.

  • Is that still the case, 10 to 14%?

  • Does that exclude your assumption of share buybacks?

  • Carol Tome - EVP, CFO

  • What I would like you to think about is in the second quarter we had $0.03 of accretion from our buyback program, and we lost $0.03 because of the Quebec tax assessment.

  • Those two offset each other.

  • What we are guiding from is GAAP, freezing the buyback as of where we are today and looking forward tore the back half of the year.

  • The full year guidance we have given you is at the low end of the EPS growth of $0.10 to $0.14.

  • Michael Baker - Analyst

  • You said freezing the buyback where you are today?

  • Carol Tome - EVP, CFO

  • Just from a modeling perspective.

  • Michael Baker - Analyst

  • Not assuming any more buyback.

  • Carol Tome - EVP, CFO

  • Correct.

  • That's right.

  • Michael Baker - Analyst

  • Thank you.

  • Carol Tome - EVP, CFO

  • You bet.

  • Michael Baker - Analyst

  • I think that was the way you said in January and very helpful.

  • Then quickly one more on the Home Depot, you said you plan conservatively, Bob, but not at retail.

  • Does that imply that you're planning conservatively at the Home Depot Supply business and broadly speaking the macro slowdown which I think we're all seeing here.

  • Is that more impactful to Home Depot Supply or Home Depot retail business?

  • Bob Nardelli - Chairman, President, and CEO

  • Two comments, and then I am going to flip it over to Joe on the second half.

  • My comment was specifically uncharacteristically companies would probably pull back in given the downward pressure in the economy.

  • My comment was specifically as it related to our retail announcement of the $350 million of accelerated expenditures in that uncharacteristically we were going to accelerate investments in spite of the uncertainty and in the economy.

  • I think Carol shared with you from a guidance standpoint at the retail level with same-store sales, so again we are planning conservatively as it would relate to that.

  • We're being very aggressive in our capital reinvestment was the point I was trying to make, and I think Joe as he indicated will stay the course, but I would ask Joe so comment them.

  • Joe DeAngelo - President

  • I think if you look at Home Depot Supply, we have a very diverse portfolio now which really helps through any cycle.

  • We're about 36% infrastructure, about 43% construction, 16% maintenance, 4% repair/remodel, 2% international, so no matter what's happening in the cycle, our philosophy is we're going to be number one in every one of those segments and when certain things go down, certain other things go up.

  • We plan to have strong performance through the back half.

  • Michael Baker - Analyst

  • Thanks.

  • If I could slide in one more, actually I would turn it over to someone else.

  • Thanks.

  • Bob Nardelli - Chairman, President, and CEO

  • Thanks, Michael.

  • Operator

  • We'll go next to David Strasser with Banc of America Securities.

  • David Strasser - Analyst

  • Thank you N listen to go your vendors conference calls for the second quarter, virtually all of them talked about trying to raise prices and push pricing through as a result of commodities.

  • They talked about in a lot of different ways.

  • How are those negotiations going and how are you sort of -- where is that level of discussion at this point?

  • Bob Nardelli - Chairman, President, and CEO

  • It is interesting before Tom answers having been on the other side of the fence in selling to major retailers, I am going to be interested to hear Tom's comments.

  • Tom Taylor - EVP Merchandising and Marketing

  • Thank you, Bob.

  • Bob Nardelli - Chairman, President, and CEO

  • Come on, Tom.

  • Tom Taylor - EVP Merchandising and Marketing

  • Look, we feel very good about our vendor negotiations as we may have mentioned I think on the previous call, certainly in my 101 sessions with the analysts, we added a vendor management team at the end of the last quarter.

  • They're in place now.

  • Assisting our merchants.

  • When we do see price increases and aggressively going after taking cost out of our business, so we feel good about it.

  • I think that we are approaching our negotiations better educated than we've ever been.

  • I think the merchants are coming with great knowledge and an understanding, so when a vendor partner comes in with a price increase, we have a better understanding and can negotiate favorably.

  • I think we're doing a very good job.

  • David Strasser - Analyst

  • I think when you think about it, when you're going to accept them at some point, is it something you would most likely plan on passing through, or would you accept increases that you didn't think you could?

  • Bob Nardelli - Chairman, President, and CEO

  • I think in our discussions with our supplier partners, and they've been great, is we both work on the same objective, that is to get volume and hold customer volume traffic, so at the end of the day if in fact commodity prices and we feel good about the productivity pass-through that our suppliers are giving us, it would be our position to test the market.

  • If they hold, then we'll stay there.

  • If they don't, then we go back and talk with our supplier about sharing the burden, but certainly not being uncompetitive in the marketplace.

  • Point two I think one of the big advantages we have in addition to broadening our customer base through supply is the commonality of our suppliers, and Joe and his team along with Tom have had some great harmonizing discussions with our suppliers.

  • If you look at our cost of goods sold, we certainly have a premier position in talking to the suppliers, and, again, keep many in not only have we added 900 stores, but we've added 900 branches.

  • Their ability not only to grow in the existing channels, but those precious new channels that Joe talked about in construction, industrial, and so forth, in giving them access to market is a huge opportunity for them through the same company base.

  • David Strasser - Analyst

  • Okay.

  • Thanks a lot.

  • Bob Nardelli - Chairman, President, and CEO

  • Okay.

  • Diane Dayhoff - VP IR

  • Gwen, we have time for one more question.

  • Operator

  • We'll go next to Joe Feldman with Kelsey Advisory Group.

  • Joe Feldman - Analyst

  • Hi, guys, thanks for taking me.

  • One question about the supply chain.

  • I know Mark is pretty new there, and you suggested, Bob, in your earlier comments he already had a little impact I I was wondering from his perspective if he is available what he has seen and where he think there might be some opportunities?

  • Bob Nardelli - Chairman, President, and CEO

  • Let me say this.

  • Mark is not in the room because he is doing what all new associates do.

  • He is working in the store.

  • I think even though he's got close to 30 years of experience, I think it is important, and he's having a great time working in the store, working all the departments.

  • He has also spent a significant amount of time obviously in our DC transfer centers, I think the first thing Mark is looking at is bringing his experience and how he might optimize what we currently have, and Tom and I are very pleased with certainly his fresh look.

  • Concurrent with that, and I think Mark is going to be looking at where do we go from our current system and how do we -- from how do we maximize what we have to where do we want to go, and basically we've asked Mark to come in with no preconceptions, kind of no mandate but a clean sheet approach, bring his wealth of experience over the years and come up with a recommendation.

  • Joe Feldman - Analyst

  • Got T thanks.

  • The one last thing I wanted to ask, if on the new orange juiced program, can you describe a little more in detail on how it works and you know what type of metrics that you actually measure and how you measure them?

  • Carl Liebert - EVP

  • Sure.

  • Sure.

  • This is Carl again.

  • We spend an enormous amount of time looking at overall satisfaction in the store as well as likely hod hood to recommend.

  • We know that it important metric for our customers as well as loyalty in our consumer base.

  • What we have is monthly winners by region, and as you know we have RVP's in the marketplace.

  • Each RVP is allowed to award overall satisfaction metrics as well as most improved within the month, and we award monetary awards at the store level, most importantly at the associate level, and the benefits go directly back to the associates who are serving our customers.

  • As Bob alluded to, I was in Michigan earlier this week.

  • We for our highest overall satisfaction store in the chain we celebrated and we awarded five associates a monetary bonus that serve our customers.

  • They were nominated by their peers as the best servers of customers in their store, and they received that award.

  • Bob is going to pull the names out of the hat for the second quarter shortly after this call, and then we'll be traveling out to three stores in each division -- one store in each division, three stores total, to award those checks to those associates as well, and it has been a huge morale lift for our stores and a big win.

  • We've invested over $30 million and if you're a divisional associate one of the winners, you get a check for $10,000.

  • Five associates in these three divisional winning stores get a check for $10,000 each.

  • It is a great, great win.

  • Joe Feldman - Analyst

  • That's great.

  • That's great.

  • Thanks very much.

  • Good luck.

  • Bob Nardelli - Chairman, President, and CEO

  • Thank you.

  • Diane Dayhoff - VP IR

  • Thanks everybody for being on the call with us today.

  • We look forward to talking to you next quarter.

  • Operator

  • Thank you, everyone.

  • That does conclude today's conference.

  • You may now disconnect.