家得寶 (HD) 2018 Q4 法說會逐字稿

Good day, and welcome to The Home Depot Fourth Quarter 2018 Earnings Call.

Today's conference is being recorded.

(Operator Instructions)

At this time, I would like to turn the conference over to Isabel Janci.

Please go ahead, ma'am.

Thank you, Christine, and good morning, everyone.

Thank you for joining us today on our fourth quarter earnings call.

Joining us on our call today are Craig Menear, Chairman, CEO and President; Ted Decker, Executive Vice President of Merchandising; and Carol Tomé, Chief Financial Officer and Executive Vice President, Corporate Services.

Following our prepared remarks, the call will be open for questions.

Questions will be limited to analysts and investors.

(Operator Instructions) 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 Craig, 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 that could cause actual results to differ materially from our expectations and projections.

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

Today's presentations will also include certain non-GAAP measures.

Reconciliation of these measures is provided on our website.

Now let me turn the call over to Craig.

Thank you, Isabel, and good morning, everyone.

Fiscal 2018 was another record year for our business as we achieved the highest sales and net earnings in company history.

Fiscal 2018 sales grew $7.3 billion to $108.2 billion, an increase of 7.2% from fiscal 2017, while diluted earnings per share grew 33.5% to $9.73.

And although fiscal 2018 was a record year for our business, our fourth quarter comp sales were slightly below our expectations as the quarter experienced some unfavorable weather.

Sales for the fourth quarter were $26.5 billion, up 10.9% from last year.

Comp sales were up 3.2% from last year and our U.S. comps were positive 3.7%.

Diluted earnings per share were $2.09 in the fourth quarter.

Internationally, Mexico posted another quarter of positive comps in local currency while Canada was essentially flat.

As we mentioned on the last quarter's call, our fourth quarter faced tough comparisons given the prior year's approximately $400 million in hurricane-related sales that would not repeat.

And we planned for this in our outlook.

But as Carol will detail, what we did not plan for was the extent of the unfavorable weather we experienced in all regions throughout the quarter.

It was cold.

It was snowy.

And perhaps, worst of all, it was wet.

Wet weather delays projects and this was evidenced in our sales performance in the quarter.

In fact, as Carol will detail, ex weather, our business performed in line with our expectations.

And as Ted will discuss, both ticket and transactions grew in the quarter, and we saw growth in both Pro and DIY categories.

Pro sales once again outpaced DIY sales in the quarter, and the work that we're doing to enhance the service capabilities for our Pros continues to resonate.

I am very proud of our associates for continuing to do what they do best, serving our customers.

Our merchants, store teams, supplier partners and supply chain teams did an outstanding job of delivering value and service to our customers throughout the quarter, both in stores and online.

In fact, several key accomplishments took place during the quarter.

We set record performances on Black Friday and during Cyber Week.

Our holiday decor offering and gift center events set new all-time highs.

And during the quarter, we reached a new watermark of approximately 2 billion annual visits on homedepot.com with many of these visitors indicating that their next stop is a Home Depot store.

In fiscal 2018, we made progress with regard to the One Home Depot investment plan.

But we are still in the early days of our journey.

Our strategic efforts to drive and enhance interconnected customer experience through investments in both the physical and digital worlds are yielding solid returns.

We also continue to focus on productivity as a virtuous cycle by leveraging technology and improving processes throughout the value chain of our business.

Fiscal 2018 provided a lot of great learnings and momentum that we will continue to build on in 2019.

I'm particularly excited about the investments we're making for our Pros.

In the quarter, we announced a consolidated go-to-market approach for our Pro customers under the banner, Home Depot Pro.

And we continue to invest in a more personalized offering for our Pro customers with a new B2B website experience.

We have now onboarded over 100,000 Pro customers and the reception has been positive.

Our plan is for continuous enhancements with new features and capabilities.

For example, in response to customer feedback, we are adding the ability for businesses to enhance account management and ordering capabilities with improved tools.

Our intent is to roll out this new Pro online experience to over 1 million Pros in 2019.

Beyond B2B personalization, we continue to make great strides in driving our digital experience.

This year, we invested in our website and mobile applications, improving search capabilities, site functionality and product content.

This ongoing investment in our digital properties has increased traffic and conversion.

Versus prior year on a like-for-like basis, online sales grew 22.7% in the fourth quarter and 24.1% in fiscal 2018, now representing 7.9% of our total sales.

While we are seeing significant growth in our online sales, these online shoppers see the relevance of our stores as approximately 50% of our online U.S. orders are picked up in our stores, a testament to the power of our interconnected retail strategy.

We continue to roll out automated lockers in our stores to make pickup -- picking up an online order easier and more convenient.

To date, approximately 1,000 stores have lockers with more to come in 2019.

Customer response to the lockers has been very positive as almost 94% of customers rated their locker pickup experience a 5 out of 5 stars.

We fundamentally believe that when a customer comes to one of our stores, it has to be a great experience.

With our investment program, approximately 40% of our U.S. stores now have a new look and feel, and customer response has been very positive.

The store investments are not just about the customer response, as we are also seeing increased associate engagement and higher productivity.

Another key component of a best-in-class interconnected shopping experience centers on enhanced delivery and fulfillment options.

Fiscal 2018 was the year of the pilot as we kicked off our (inaudible) [$1.2 billion] investment journey to create the fastest, most efficient delivery network for home improvement goods.

We are now live with a number of these pilot facilities.

We look to fiscal 2019 as a year to take what we have learned in pilot and begin the rollout that we expect to complete by 2022.

As a demonstration of the confidence in the business going forward, today, our board announced a 32% increase in our quarterly dividend to $1.36 per share.

The board also authorized new share repurchase program of $15 billion, replacing our existing authorization.

We remain committed to maintaining disciplined capital allocation to create value for our shareholders.

Turning to 2019 and beyond, I'm excited about the opportunities that are ahead of us.

Carol will take you through the details, but we expect 2019 to be another year of growth with sales growth of approximately 3.3%, comp sales of 5% and diluted earnings per share of approximately $10.03.

Our strong performance in fiscal 2018 also positions us well with respect to our 2020 financial targets.

And today, we are reaffirming those targets.

It's an exciting time to be part of The Home Depot.

And we look forward to the work ahead as we continue our journey to create the One Home Depot experience.

There's a great deal of change being introduced throughout the business.

But as they always do, our associates are rising to the occasion, meeting new challenges head-on without losing the passion to serve our customers that has made The Home Depot what it is today.

I want to close by thanking our associates for their hard work and dedication to our customers in the fourth quarter and throughout the year.

For the second half of the year, 100% of our stores will receive Success Sharing, our bonus program for our hourly associates.

We look forward to continuing our momentum in 2019.

And with that, let me turn the call over to Ted.

Thanks, Craig, and good morning, everyone.

When we look through the unfavorable weather we experienced in the fourth quarter, we were pleased with how the business performed.

Looking at our departments, comps in tools, appliances, decor, indoor garden, building materials, outdoor garden, hardware and paint were above the company average.

Electrical, plumbing, flooring, millwork and kitchen and bath were positive but below the company average.

Due primarily to price deflation, lighting and lumber reported low to mid-single-digit negative comps.

In the fourth quarter, our average ticket increased 2.3% and comp transactions increased 0.9%.

The fourth quarter finished what was a volatile year in many commodity markets, particularly lumber.

For example, during the second quarter, we saw lumber prices that were more than 40% higher than they were in the year prior.

These prices fell significantly during the third and fourth quarter and now sit approximately 25% below last year's prices.

While this deflation pressured sales, we have seen strong unit growth as prices have come down and this unit productivity drives activity across the store.

During the fourth quarter, deflation in lumber negatively impacted average ticket growth by approximately 41 basis points.

However, this deflation was largely offset by inflation in other core commodity categories for a net impact to average ticket from core commodities of negative 8 basis points.

During the fourth quarter, big ticket comp transactions or those over $1,000, which represent approximately 20% of U.S. sales, were up 4.8%.

A number of factors served as headwinds to big ticket sales in the fourth quarter, notably unexpected wet weather across the U.S. and lapping last year's hurricane-related sales.

Excluding hurricane-affected markets, we see that January's big ticket comp was up almost double digits, in line with what we saw throughout 2018.

Big ticket categories like vinyl plank flooring, roofing and appliances all had comps above the company average in the fourth quarter.

We saw growth with both our Pro and do-it-yourself customers in the fourth quarter with Pro sales growing faster than the company's average comp.

We continue to see strong performance in Pro-heavy categories like power tools, water heaters and commercial and industrial lighting.

Sales to our DIY customers grew year-over-year as our customers completed a variety of interior projects.

Categories like hard window coverings, safety and security and cleaning all posted strong growth in the quarter.

We also saw a record performance with our annual gift center and holiday sets.

Additionally, the combination of outstanding values from our suppliers, right assortments from our merchants and phenomenal execution in our stores led to the single-highest sales day in our company's history on Black Friday.

As part of our journey to enhance the One Home Depot experience, we are significantly investing in our digital assets to provide a frictionless, interconnected shopping experience.

Earlier this year, we formed approximately 50 cross-functional squads focused on agile development to improve our online customer experience.

These teams have accomplished a great deal in a short period and are driving results.

In 2018, we hit a milestone of approximately 2 billion online visits.

And our ongoing efforts to improve the interconnected customer experience have led to a consistent improvement in our conversion rates throughout the year.

However, our work is not done.

In 2019, we will continue to roll out enhancements across our digital assets.

As you heard from Craig, we are excited to be rolling out a new B2B online experience for our Pro customers to provide a more tailored, personalized offering.

And for consumers, we will continue to focus on improving the way we bring our assortments to life in the digital world.

As we look to 2019, we are excited to build on our momentum.

We are the #1 retailer for product authority in home improvement.

And together with our supplier partners, we will work to offer the best products at the best value for our customers every day.

A great example of our strong partnerships is in our paint business.

Our exclusive partners, Behr and PPG, bring the 2 highest-rated consumer paint and stain brands to The Home Depot.

These strong brands, along with the great execution in our stores, helped drive paint comps above the company average in the fourth quarter.

We are particularly pleased with our sales to our Pro painters as our investments and initiatives are gaining traction.

In addition to having the best products, we are investing to improve the in-store paint experience for our customers.

In 2019, we plan to roll out a new Color Solutions Center to all stores and we'll do a full reset in exterior stains.

We're thrilled with the results we are driving in our paint business and look forward to building on our momentum in 2019.

Product innovation is resonating with our customers as we see them trade up to new features and innovation across the store.

One example we are seeing this is with Traeger in our grill category.

Traeger is one of the fastest-growing brands in the grilling category in their innovative pellet grills.

Traeger offers the versatility and convenience of being able to grill, smoke, bake, roast, braise or barbecue all in the same grill.

Given the strong sales, we are introducing Traeger's new lineup of live-fire grills.

This technology connects the grill directly to your smartphone so you can monitor your grill or adjust the temperature remotely.

We are excited to be Traeger's exclusive partner in the big-box home improvement channel.

Another example of innovation is in our Pro-heavy roofing category.

Over the last several years, we have seen both residential and commercial roofers trade up for innovative products that save them time and money.

In the residential space, we have seen a significant shift from strip shingles to laminate architectural shingles.

These laminate shingles last longer, have a lifetime warranty, are easier to install and offer dramatic color contrast and dimension, which is important from a decorative perspective.

In the commercial segment, the trend has shifted from asphalt and aluminum roof coatings to elastomeric roof coatings that are more water and dirt-resistant.

A great example of this is Henry Tropi-Cool Silicone, an exclusive to The Home Depot in the home improvement channel.

No primer coat is needed, so the blend coat application saves time and money.

We are excited about the year ahead, particularly with the spring selling season right around the corner.

Our investments in localized assortments and innovative products and in Everyday Low Price will continue to position us as the product authority in home improvement.

With that, I'd like to turn the call over to Carol.

Thank you, Ted, and good morning, everyone.

In the fourth quarter, total sales were $26.5 billion, a 10.9% increase from last year.

And for the year, our sales totaled a record $108.2 billion, a 7.2% increase from last year.

Fiscal 2018 included a 53rd week, which added approximately $1.7 billion in sales to the fourth quarter and the year.

The extra week is not included in our comp sales calculation.

Our fourth quarter results also include the impact of a new revenue recognition standard that we adopted at the beginning of the year.

In the fourth quarter, the change in revenue recognition positively affected sales growth by $86 million.

Our total company comps were positive 3.2% for the quarter with positive comps of 3.1% in November, 3.1% in December and 3.3% in January.

Comps in the U.S. were positive 3.7% for the quarter with positive comps of 3.4% in November, 3.5% in December and 4.1% in January.

There were a few notable factors that affected our comp performance in the quarter.

First, a stronger U.S. dollar negatively impacted total company comp sales growth in the quarter by approximately $96 million or 0.4%.

Second, the commodity price inflation we experienced in the first 3 quarters of the year disappeared in the fourth quarter.

Finally, as you know, we were up against nearly $400 million of hurricane-related sales.

We expected that, but we did not expect such a wet winter.

Sometimes, weather-driven demand can help sales growth, sometimes hurt.

Relative to our expectations, we estimate weather-driven demand negatively impacted fourth quarter comp sales by roughly 85 basis points.

In the fourth quarter, our gross margin was 34.1%, an increase of 19 basis points from last year.

The year-over-year change in our gross margin reflects the following factors.

First, the new accounting standard drove $168 million of gross profit or 53 basis points of gross margin expansion.

Second, higher supply chain and fulfillment expense caused approximately 19 basis points of gross margin contraction.

Third, higher shrink than 1 year ago resulted in 10 basis points of contraction.

And finally, changes in the mix of products sold drove 5 basis points of contraction.

For the year, we experienced 29 basis points of gross margin expansion.

In the fourth quarter, operating expense as a percent of sales increased by 79 basis points to 21.3% due to the following factors.

First, we experienced 152 basis points of expense leverage in BAU, or business as usual, expenses.

The strong leverage in the core of our business was driven by solid expense control, but also reflects certain expense items that did not repeat this year, most notably a onetime bonus of $117 million that was granted to our hourly associates last year.

Our BAU expense leverage was offset by the following.

First, as we called out in our press release, as we move forward with our B2B experience, we recognized an impairment loss of $247 million or 93 basis points of expense deleverage related to the write-off of several trade names associated with Interline Brands.

Second, the new accounting standard resulted in a $168 million increase to our operating expenses and caused 63 basis points of operating expense deleverage.

And third, expenses related to our strategic investment plan of roughly $198 million resulted in approximately 75 basis points of operating expense deleverage.

Fiscal 2018 operating expense as a percent of sales was 20%, an increase of 49 basis points from last year.

Our fiscal 2018 expense performance was better than our initial expectations, driven by productivity in BAU.

For the year, we incurred almost $700 million of expenses related to our strategic initiatives, in line with our plans.

Our operating margin for the fourth quarter was 12.8% and for the year was 14.4%.

Interest and other expense for the fourth quarter grew by $19 million to $265 million, reflecting, for the most part, a loss on the sale of a nonstrategic asset.

In the fourth quarter, our effective tax rate was 24.7% and for fiscal 2018 was 23.6%.

Our effective tax rate for the quarter and the year reflects the closeout of the provisional charge we took last year related to tax reform and certain positive audit settlements.

Our diluted earnings per share for the fourth quarter were $2.09, an increase of 37.5% from last year.

For the year, diluted earnings per share were $9.73, an increase of 33.5% compared to fiscal 2017.

Our fourth quarter and fiscal 2018 diluted earnings per share were negatively impacted by approximately $0.16 due to the impairment charge recorded in the fourth quarter.

So moving on to some additional highlights.

During the year, we opened 3 new stores, including 1 in the U.S. and 2 in Mexico, for an ending store count of 2,287.

Selling square footage at the end of the year was 238 million square feet.

For the fiscal year, total sales per square foot increased 7.2% to $447, the highest in our company history.

At the end of the quarter, merchandise inventories grew $1.2 billion to $13.9 billion.

And inventory turns were 5.1x, flat with last year.

The growth in our inventory versus last year reflects the investments we are making to accelerate merchandising resets and higher in-stock levels than we had 1 year ago.

Moving on to capital allocation.

In fiscal 2018, we generated approximately $13.3 billion of cash from the business and used that cash as well as the proceeds from $2.2 billion of net debt issuances and cash on hand to invest in the business, pay dividends to our shareholders and repurchase our shares.

During the year, we invested approximately $2.4 billion back into the business through capital expenditures.

Further, we paid $4.7 billion in dividends to our shareholders.

And finally, during the year, we repurchased approximately $10 billion or about 54.3 million of our outstanding shares, including roughly $4.5 billion or 25.7 million shares in the fourth quarter.

Computed on the average of beginning and ending long-term debt and equity for the trailing 12 months, return on invested capital was approximately 44.8%, 1,060 basis points higher than the end of fiscal 2017.

Today's press release includes our guidance for fiscal 2019, and I want to take a few moments to comment on the main points.

Remember that we guide off GAAP.

So fiscal 2019 guidance will launch from our reported results for fiscal 2018, which includes sales and earnings associated with the 53rd week.

When we report our quarterly comp sales results, we will compare weeks 1 through 52 in fiscal 2019 against weeks 2 through 53 in fiscal 2018.

So with that, turning to our sales growth projections.

As you know, we use a directionally correct but imperfect model to predict -- project our sales growth.

It starts with GDP.

While we are in the 10th year of economic recovery, U.S. GDP is expected to grow in 2019.

And for our model, we are using 2.6% GDP growth.

To GDP, we add the expected spending impact from key housing metrics, including home price appreciation, housing turnover, household formation and the age of the housing stock.

As we look to 2019, most housing metrics are trending positive, albeit heading towards stability.

Two of these metrics worth highlighting are home equity, which is a function of home price appreciation, and the age of the housing stock.

Home equity has more than doubled since 2011, and 52% of the homes in the U.S. are greater than 40 years old.

And you will recall that the 3-year sales target we established in 2017 started with a base comp of 4%.

The sales forecasting model that we built for 2019 doesn't move us materially off that base.

For 2019, we are planning a 5% comp, which includes our base model plus growth emanating from our strategic investments.

For fiscal 2019, we expect total sales growth of approximately 3.3%, reflecting that compare to 53 weeks last year.

Two more comments for your models.

First, when you are thinking about the shape of the year, we would expect the comp for the first half of 2019 to be about 250 basis points lower than the second half of the year because of the hurricane-related sales overlap.

On a 2-year stacked basis, we expect that our first half and second half comps will be relatively similar.

Second, because of the shift in the year and the seasonality of our business, our 2019 comp sales will not match our sales growth rates in 3 of 4 quarters.

During the year, we plan to open 5 net new stores, 4 in the U.S. and 1 in Mexico.

For fiscal 2019, we are projecting our gross margin rate to be approximately 34%, in line with the 2020 target we set forth during our December 2017 Investor Conference.

At this time, we are not expecting further gross margin contraction in fiscal 2020.

We expect our fiscal 2019 operating expenses to grow at approximately 53% the rate of our sales growth.

On a 52-to-52-week basis and ignoring the impairment charge we recorded in the fourth quarter of fiscal 2018, we expect our fiscal 2019 operating expenses to grow at approximately 90% of the rate of our sales growth.

For the year, we expect that our operating margin will be essentially flat with what we recorded in fiscal 2018.

For fiscal 2019, we estimate our effective tax rate to be approximately 25.5%.

We expect fiscal 2019 diluted earnings per share to grow approximately 3.1% to $10.03.

Our earnings per share guidance includes our plan to repurchase approximately $5 billion of outstanding shares during the year.

For the year, we project cash flow from the business of roughly $14 billion.

We will invest $2.7 billion of this cash back into the business in support of our strategic initiatives.

We also plan to use this cash to pay $6 billion of dividends.

As Craig mentioned, we just announced a 32% increase in our quarterly dividend, which equates to an annual dividend of $5.44, in line with our targeted dividend payout ratio of 55% of earnings.

Finally, we plan to repurchase $5 billion of outstanding shares using excess cash.

At our last Investor Conference in December 2017, we shared with you our long-term financial targets and our strategy to create the One Home Depot.

By the end of fiscal 2020, we are aiming to grow our sales to a range of $115 billion to $120 billion with an operating margin range of 14.4% to 15% and return on invested capital of more than 40%.

As evidenced by our fiscal 2018 results and our guidance for 2019, today, we are reaffirming our long-term targets.

Thank you for your participation in today's call.

And Christine, we are now ready for questions.

(Operator Instructions) Our first question comes from the line of Simeon Gutman with Morgan Stanley.

My first question is two parts on gross margin.

So getting to the 34% level in 2019, was that always part of your plan and the Street maybe just looked like it was mismodeling?

Or is something changing on your investment cadence?

And then the second part of that gross margin question is, can you split the-- it looks like about 30 basis points of contraction into like fixed versus variable costs?

And how much would gross margin flex if comps are better or worse than 100 basis points of your forecast?

Simeon, I think the first comment I'd have is, as it relates to the margin rate, was a difference than what we anticipated, a little bit more sustained pressure in supply chain maybe than what we initially anticipated in 2017.

But as we look at our model both for '19 and '20, let me break apart the gross margin performance for you in our expectations.

First, as you know, productivity is a virtuous cycle at The Home Depot.

And we have productivity in our cost of goods.

And we project the productivity into '19 and '20.

Offsetting that productivity in '19 is some pressure that Craig mentioned in supply chain as well as our supply chain rollout.

There's a little bit of shrink pressure in 2019, but we're going to cover that off with productivity.

And then there's the mix pressure, mix that was always in our plan as we see relative outperformance of growth in lower-margin category.

So as we look through '19 to '20, nothing comes to our attention that -- at this point that the margin will contract further because productivity will continue into '20.

On your second part of your question in terms of fixed/variable nature of our gross margin or of our cost of goods, we actually don't look it through that lens.

But I will tell you, within the performance in the fourth quarter, there were a few surprises relative to the guidance that we gave at the end of the third quarter.

First, the supply chain contraction of 19 basis points was a bit higher than we had anticipated.

We had 3 basis points of fuel pressure come through and about 5 basis points of higher fees related to third-party delivery agents.

And then we had a bit higher shrink than we anticipated.

Hopefully, that's helpful.

Yes, it's helpful.

My follow-up is on the demand side.

Can you tell us if you -- if there were any markets that were "normal," not meaning ex weather?

Did they perform in line?

Or did they perform better than you thought?

And then you've told us in the past where housing turnover markets have been soft, you've called out that the business has been solid, just checking if that's still the case.

Yes, we saw great performance in areas that had good weather.

I must say, the weather was across the country, but you can find pockets of that relative outperformance.

And if you look at the housing-related markets, let's take Seattle as an example.

Seattle is talked about a lot as the place where there's huge home price appreciation.

The comp in Seattle for the fourth quarter was at 6.3%.

Let's take Dallas, Dallas is another area of the country where home prices have seen significant home price appreciation.

The comp in Dallas was in line with the company average.

So we're not seeing any impact to our performance in a negative way because of the housing environment.

If you look at a market like L.A., when the weather is shifted, we see a 1,400 basis point swing week-to-week based on weather.

So when the weather was positive, it would lift 1,400 basis points.

Our next question comes from the line of Mike Lasser with UBS.

You noted that your comp guidance was based on 4% growth from underlying economic conditions and housing.

Is there a way that you could size the potential downside if GDP doesn't meet 2.6% and we see a continued deceleration on some of the key housing metrics?

Well, clearly, our base model starts with GDP.

And the forecasts for GDP next year are -- there's a wide range.

We landed on 2.6%.

We think that's the right number to use.

We added to that about 1 point coming from the various housing metrics that we look at, so that takes our base comps to 3.6%.

And candidly, we rounded it up to 4% because we're just not that good at it.

There -- we really wanted to call out two things that are important in our model.

And one is home equity.

There's $15.4 billion -- what am I saying?

$15.4 trillion of home equity out there.

Home equity has more than doubled since 2011.

And if you look at the home equity per owner-occupied household, that equity is $193,000 and has not been extracted.

So we think that bodes well.

It's a wealth effect that bodes well into 2019.

The other aspect of the housing market is just the age of the housing market.

52% of the homes is older than 40 years.

We know that spend for homes that are 40 years and older is 30% greater than spend on homes less than 10 years.

And my follow-up question is on the contribution from your initiatives.

Shouldn't we expect that the contribution, which we sized at 100 basis points, shouldn't we expect that that's going to build over the course of the year as you've had more time to benefit from what you put in place over the last 12 to 18 months?

And what's the upside risk from that -- those initiatives driving more than 100 basis points of contribution to your comps?

Michael, it will build as we go forward.

You're thinking about that the right way.

And so we definitely -- we see it building throughout 2019 and then beyond.

So I mentioned...

In fact, what...

Mike, I mentioned that the back half comp would be greater than the first half comp.

Part of that is due to the hurricane overlap, but part of it is due to the build.

And what leading indicators are you looking at within the business that give you confidence that it's going to contribute the 100 basis points that you're expecting?

Well, when we look at the initiatives that we've begun to put in place, whether that is the amount of store refreshes that we have done, whether it is the interconnected experience with the automated lockers that we've put in place, which is driving, obviously, a great response from the customers, these are things that we tested, we piloted and as we rolled, we began to see a benefit as a result.

And we feel comfortable that those are going to be the driver behind that point of initiative growth.

We're also seeing outsize growth in our Pro business.

And as we continue to add Pros to our website, to our new Pro experience, if you will, we're adding over 1 million customers this year, we see spend with those customers increasing.

Our next question comes from the line of Scot Ciccarelli with RBC.

Scot Ciccarelli.

So can you help us understand maybe the investment pace a little bit better?

It sounds like there may be some shifts between the original expectations between 2019 and 2020, just from a timing perspective, number one.

Number two, could we end up facing a scenario where the absolute investment amounts, what you're doing with the supply chain and in the stores, et cetera, maybe exceed your prior views, and almost every company out there is -- their investment plan seems to be a moving target?

Well, I'm happy to take you back to December of '17 when we laid out our investment plan where you'll recall, we announced an $11.1 billion investment plan, which was $5.4 billion over what we would've spent in a BAU basis.

And this is the cash look of the investment.

So it's both expense and capital.

Then we shared with you a chart back in 2017 that broke that spending down by year.

We said we would spend $1.4 billion in '18, $1.9 billion in '19 and $2.1 billion in '20.

If we look at what we spent in '18, we spent $1.4 billion, about $550 million in expense and $800 million in capital.

Now on the expenses, we also had some depreciation, but that wasn't on the chart that we shared with you.

If you add the depreciation related to our investments in 2018, it was more like $700 million.

As we look to '19, we are projecting and in our guidance that we will spend $1.7 billion, $550 million in expense and about $1.1 billion in capital.

That's roughly $200 million under what we shared with you in 2017.

That spending is being pushed to '20, and it might push out a little past '20.

The reason for this is because we're just getting smarter about how we spend our dollars.

And I've had to change the prioritization of some of our activity to deal with some of our legacy IT systems.

As we look at it today, our estimate is we won't exceed our spend.

In fact, we may be able to deliver this under the target.

But we've got to face this the appropriate way so that we don't actually deliver an initiative that the foundation can't serve.

So hopefully, that's helpful.

It is.

Yes, Scot.

This year was a learning year as it related to the investments.

And we found that some things, we could actually accelerate and other things are going to take us a little bit longer, as Carol mentioned, because of the legacy systems that we have to fix.

Our next question comes from the line of Chuck Grom with Gordon Haskett.

Charles, just on the macro again.

I'm just trying to connect the dots between your 5% guide and [Lear's] view for 2019, particularly it's the expectation that gains in our renovation spending slows as the year progresses, which is sort of counter what -- to what you're speaking to.

And just also on a follow-up to the comp, with the shift going from weeks 1 to 52 to weeks 2 to 53, I know for some of the department stores, that tends to throw things off a lot.

Is there anything that we should think about in terms of the quarterly cadence because of that?

Yes, so let me address the latter part of your question first, and then we'll get back to the macro.

So the shift in the calendar wouldn't be such a big deal if we weren't such a seasonal business.

But we are a very seasonal business.

So this year, let's take the first quarter, we will be comparing weeks 1 to 13 in '19 against weeks 2 to 14 in '18.

And that shift will have an impact.

So you would expect the comp in the first quarter to actually be lower than the actual sales growth that we report.

That reverses in the second quarter.

In the second quarter, we would expect the comps to be higher than the sales growth we report.

In the third quarter, it will be about the same.

And then in the fourth quarter, the comp will be higher than the sales growth that we report, especially because we're up against 14 weeks versus 13 weeks that we will share.

I will tell you that the first week difference is about $1.5 billion sales.

So we're dropping off the compare on $1.5 billion, and we're gaining that compare of over $2 billion.

So hopefully that helps you kind of model what that first quarter impact will be.

Now going back to the macro questions, we use a directionally correct but imperfect model.

And it's worked for us pretty well since we implemented it.

And if you've been following us for a while, you'll recall that we set 4 stages of housing recovery and the impact it would have on our comps.

And we had 3 stages of housing recovery.

There was sharp, there was moderate and then there was stability.

And if you look through that document, I think it's on our website, if not, we can get it to you, you can see in the stability area, which is where we think we are trending, our model suggests it's GDP plus 1% to 2%.

We conservatively said GDP plus 1%.

So if you use a 2.6% GDP and you add 1 basis -- 100 basis points to that, you get to 3.6% and we rounded up a bit to 4%.

And then as you heard from Craig, we added 1 point relative to our strategic investments.

There are lots of forces and economic prognosis that you can use.

So one thing that we use to kind of support our point of view is what the Harvard Joint Center says for remodeling activity.

And their forecast for remodeling activity in 2019 is a 5% growth.

Okay.

Great.

And then one more for you, Carol.

On the third quarter call, you gave some helpful color on tax refunds and the timing impact.

Just curious if your views on that front have changed at all.

And it looks like February refunds are down a lot, which is expected, just wondering if that's impacted your business thus far in February.

Yes, no.

We wouldn't say that there's an impact to our business from tax in February.

And as you pointed out, we wouldn't expect the real benefits coming from tax reform to come in later as those filers who have an earned income credit or a child's credit, they actually haven't filed.

Those returns get filed and processed later.

Our next question comes from the line of Christopher Horvers with JPMorgan.

So there's a lot of noise in '18, hurricane, inflation in the first half of the year, a twitch in the fourth quarter of deflation.

Can you just -- it'd be helpful to think about 2018, if we backed out weather on an annual basis and we backed out the net benefit from inflation in the first 3 quarters, what is that underlying rate?

And how does that compare to the 5% guide that you're putting out for 2019?

And does that guide include any benefit from -- or headwind from inflation, deflation?

As we looked at that, we backed those noise levels out, it gets you somewhere in the area of a 5.5% to a 5.7% as a normalized run rate.

You think about taking out the storms, you take out the weather, you take out the inflation and that's where we rounded to.

And as you know, when we build our plans, we are commodity-inflation neutral.

We don't really know how to plan for that.

Based on where commodity prices are, there may be a little bit of pressure in the first half of the year, but we planned for that.

Understood.

So just to summarize there, so you're basically saying, I mean, precise basis points, but 70, 80 basis points of moderation in the underlying driven -- comp from '18 and '19.

Yes, which is exactly what you'd expect.

You would expect that where we are in the housing recovery.

You would expect that.

Got it.

And then in terms of the shift from pricing -- well, turnover net then pricing and now home equity and age, does that express itself in any way in terms of traffic versus ticket growth?

Do you expect ticket continue to lead?

Does ticket growth actually become more of a factor versus the traffic growth?

How are you thinking about that?

Yes, it would, in fact, continue to support ticket growth for sure.

And if you think about the formations estimated to be increasing in 2019 while turnover is more flattish to where it was in 2018, that would definitely drive project business.

Okay.

And then one quick -- go ahead.

Sorry, Ted.

Yes.

Sorry, Chris.

I would just add on the ticket.

The thing that's really encouraging about ticket, reasons we called out the innovative product and more premium roofing and a grill like a Traeger grill.

We look at a number of signals very closely.

One is the line structure where sales are coming from OPP to good, better, best.

We continue to see stronger productivity as we move up price points.

And we break that out.

A second data point we look at very closely is where is ticket growth coming from.

And we include commodity, we include tariff, we include new items, et cetera.

And by far, our largest ticket growth is coming from the introduction of new, innovative items.

It's actually much more significant than either inflation or tariff.

Got it.

And then just to sneak one last one in.

Carol, anything -- any particular cadence around gross margin and SG&A versus sales growth?

Obviously, in the fourth quarter, you lapped the extra week.

But anything else to call out on a quarterly basis in margins?

Yes, we have the [signals where things should go].

And we try to predict when spring will break.

And we use 5-year historical averages and forecasts from Planalytics, and we try to predict when it will break.

We're usually wrong but we try.

Now based on the way that we build our plan, we think that spring is going to break -- it hasn't yet, but we think that spring is going to break in the first quarter.

So because many of our seasonal categories are lower margin, you would expect the margin decline to be the greatest in the first quarter.

So that's an important thing to get out there as you're building your models.

Chris, as you know, we're not really good at this, but with -- that's -- with our model, that's how we're planning.

Then from an expense growth factor, the real noise will be, I guess, in the fourth quarter.

But you -- I think we've given you enough color there that you can model to that.

So there's really nothing too goopy on the expense side.

Our next question comes from the line of Steve Forbes with Guggenheim.

I wanted to focus on the enhanced delivery and fulfillment option rollout, Craig, you mentioned for 2019.

So maybe you just comment on the number and type of facilities slated to open in '19 and, I guess, how you're moving along relative to the original plan.

Yes.

Steve, we're excited about the pilots that we've put in place in 2018 and the learning that we have.

And Mark is here, I'll let him address that.

But I also would say that we're excited about the options that we provided for our customers during the year as well on same-day delivery for car and van service for product out of our stores.

Yes.

Just as a reminder, we have our 5 direct fulfillment centers already up, providing 1- and 2-day service to over 90% of the population.

We've got our Interline Brands facilities, now Home Depot Pro, that give us near national coverage with next-day delivery via 700 private fleet trucks.

We've opened 3 market delivery operations.

And we have openings planned and groundbreakings planned through the year on the various new platforms, market delivery operations, flatbed delivery centers, et cetera.

So we're looking forward to that.

And of course, we have our car delivery and van delivery fast options there with 40% coverage of the U.S. population for low-cost car delivery and 70% with van coverage.

And then just a quick follow-up, maybe more of a modeling question, right, as it relates to D&A specifically.

Can you -- because I think if you walk back to the Analyst Day in '17, there was a -- I guess an average 3-year D&A run rate, right, that was called out.

Can you just update us on how that's -- what we should be building in as we look out to 2020?

So I think in our guidance, we gave you a D&A number of, what did we say, $2.3 billion.

Some of that flows through cost of goods sold.

So on the expense line, you could plan about $2 billion of D&A on the expense line, and the remaining $300 million would be up on the cost of goods sold.

And then any comment as we look out to 2020 relative to the 3-year plan you laid out during the Analyst Day for D&A?

Just keep it at that -- about that rate.

Our next question comes from the line of Zack Fadem with Wells Fargo.

You talked about some of the dynamics around the transition to the spring selling season.

With the later spring last year, is there anything that gives you confidence this year from either a weather to-date or product perspective?

And just given the calendar shift, you gave some helpful color.

But curious whether you anticipate the Q1 comp to be above or below the full year comp growth, just given the full...

I mean, I would -- I'd start with what Carol said earlier.

And that is we do use a multiyear average model in terms of planning.

And when you look at that model, it suggests that we'll actually see spring break in Q1.

We don't provide quarterly guidance, as you know.

So I'd like to go back to the half.

That's the easiest way to think about our business.

We expect the first half comp to be lower than the full year comp.

Okay, fair enough.

And could you comment on how some of the external factors in '19, like lower gas prices and mortgage rates for the consumer, are incorporated in the '19 outlook?

And then second, what are you assuming around the tariff environment?

We, for years, have tried to correlate gas prices to our business.

We've never been able to draw a correlation on that.

And so we -- there's nothing built in for that, whatsoever.

And then we have assumed nothing beyond what is in place today on tariffs.

We just feel -- we don't try to plan for something that hasn't happened.

Yes, as we've said with tariffs, that's been manageable.

Good news, obviously, Sunday, and it looks like negotiations are continuing.

But all the tariffs that have been put in place to date, we have managed through that without any issue.

Our final question today will come from Seth Sigman with Credit Suisse.

So regarding the weather impact and the impact on exterior projects, you gave us the 85 basis point impact.

I'm curious, during these types of periods, do you actually see an offsetting benefit on indoor projects?

And then just narrowing in on the exterior projects, to what extent are you already starting to see those come back or expect to see those come back in that first half outlook?

Yes, I mean, generally, as Ted mentioned, we felt very positive about our paint business.

And so customers have a tendency to focus inside when they can't do work outside.

And that is something that happens in the business overall.

So we felt good about the interior side of the business.

Yes, I would say, every cycle, we have had a bad weather.

Craig mentioned the huge swings in a market like Los Angeles.

We have seen that consistently across all our markets.

Last spring, for example, we were delayed.

And as soon as the weather broke, our business just exploded.

And we see that across markets now weekend-to-weekend.

So full expectation that when spring comes, we're ready for it.

We got great, innovative products.

We're in stock and ready to go for our customers.

Yes.

Got you.

Okay.

And then just one follow-up on the pricing environment.

You talked a lot about commodity prices.

Can you just talk a little bit about price changes that you're seeing in non-commodity categories?

And if you're embedding anything in the guidance?

There's nothing in the guidance, for sure, across-the-board, not just with tariffs, but we've seen through '18 an increased cost expectation from our suppliers just -- whether it's wages or transportation, supply chain, fuel, things that they've experienced.

But we've digested all of that and run that across a full year basis, and we don't see any increased pressure going into '19.

If anything, as you mentioned, things like fuel and transportation capacity and hopefully the tariff outlook, all those pressures should be abating a bit.

So thank you for joining us today.

We look forward to speaking with you on our first quarter earnings call in May.

This will conclude today's call.

We thank you for your participation.