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Stock Analyst Update

Home Depot Investors Can Sleep Easy

Though the economy is softening, the company's future is rock solid.

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What Happened?
Home Depot (HD), the third-largest retailer in the United States, reported third-quarter sales and earnings Tuesday morning that rose 17% and 13%, respectively. The results met recently lowered First Call consensus estimates. Earnings rose less than sales because of margin pressures brought on by falling lumber and building material prices and weakening consumer spending. Comparable results were also affected by the lack of Y2K- and Hurricane Floyd-related sales this year. Inventory turns slowed from 5.7 in last year's third quarter to 5.4 this year, while return on invested capital over the past four quarters slipped to 21.3% this year from 22.4% last year. However, on the conference call, management said these trends are reversing as a result of tight cost controls and aggressive inventory management.

What It Means for Investors
We think Home Depot shareholders can sleep easy. The stock has fallen about 39% so far this year--despite a 21% rise in earnings--and now looks undervalued. Home Depot's problems appear to be completely non-company-specific, and the firm continues to take market share from smaller local and regional competitors, such as lumberyards, small hardware stores, and building material distributors. In fact, comparable-store sales (sales at stores open more than a year) during the quarter were up 4% from the same quarter last year; this implies that Home Depot is taking market share from arch rival Lowe's, whose comparable-store sales were flat in its most recent quarter.

Mark Sellers does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.