HOME DEPOT, INC. quarterly report, Q1 FY2011

Business context and reporting period

The Home Depot, Inc. operates warehouse-style home-improvement stores serving do-it-yourself, do-it-for-me and professional customers. This Form 10-Q reports the first quarter of fiscal 2011, the three months ended May 1, 2011, compared with the three months ended May 2, 2010. The request metadata says “2010 Q1,” which does not match the period stated in the filing.

Financial and operating performance

Sales declined 0.2%; comparable-store sales fell 0.6%, with transactions down 2.1% and average ticket up 1.5%. Management cited unseasonably cold weather, particularly in the Northern division, and weak Indoor and Outdoor Garden results. Sales were positive in several other categories, including Electrical, Kitchen/Bath, Tools, Plumbing, Paint and Flooring. The filing gives average ticket as $53.35 in its selected-sales table and $53.34 in the narrative.

Gross margin expanded 28 basis points. SG&A declined 1.7% to $4.009 billion and decreased to 23.8% of sales from 24.2%, reflecting lower payroll, bonuses and advertising expense; advertising was shifted toward the second quarter. Depreciation and amortization was $397 million versus $411 million. The effective tax rate was 36.7%, compared with 35.0%, with prior-year benefits from favorable state tax settlements.

Cash, debt and liquidity

Operating cash flow was $2.098 billion; investing cash use was $184 million, including $199 million of capital expenditures; financing cash use was $664 million. Cash and equivalents were $1.806 billion at May 1, 2011, versus $545 million at January 30, 2011. Current assets were $16.161 billion and current liabilities $11.458 billion.

Long-term debt, including current installments, was $10.763 billion at quarter-end, versus $9.749 billion at January 30, 2011. In March, the company issued $1 billion of 4.40% notes due 2021 and $1 billion of 5.95% notes due 2041. Proceeds funded a $1 billion share repurchase and repayment of $1 billion of notes that matured in March. The company reported a 58.9% long-term debt-to-equity ratio, versus 39.6% at the end of the prior-year quarter. It had no commercial-paper or related credit-facility borrowings outstanding and reported compliance with facility covenants.

Management said cash, operating cash flow and access to debt markets should fund capital expenditures, dividends, repurchases and debt payments for the next several fiscal years. The company paid $403 million in dividends and repurchased shares, including a $1 billion accelerated share repurchase (ASR) and additional open-market purchases. The ASR delivered 21 million shares initially and a further 6 million upon completion in the second quarter; $8.6 billion remained under the repurchase authorization at quarter-end.

Material changes, outlook and risks

Reported net earnings rose 12.0% and diluted EPS rose 16.3% year over year. The prior-year quarter included a $51 million pretax charge for extending the HD Supply loan guarantee; excluding that item, prior-year net earnings were $758 million and diluted EPS was $0.45, making the year-over-year EPS increase 11.1%. Operating income growth also reflected lower operating expenses and improved gross margin. Return on invested capital was 13.0%, up from 11.5% in the prior-year quarter.

The filing provides no specific numerical sales or earnings guidance. Management described customer service, product authority, productivity and efficiency, and interconnected retail as key initiatives. It reported expanding product flow through its Rapid Deployment Center network and planned to complete rollout of “buy online, pick up in store” by year-end.

Key stated risks include economic conditions, housing and home-improvement markets, consumer spending and confidence, credit availability, and supplier disruptions. The company guaranteed up to $1 billion plus unpaid interest on an HD Supply loan; the reported outstanding loan balance at January 30, 2011 was $938 million, and the guarantee expires April 1, 2014. Market-risk exposure was primarily interest-rate fluctuations, with no material change from the annual report. Management reported effective disclosure controls and no material change in internal control over financial reporting. The interim financial statements were reviewed, not audited.

Important facts for investors to verify

• Confirm the intended reporting period: the filing is for Q1 fiscal 2011 ended May 1, 2011, not 2010 Q1.
• Reconcile the average-ticket figures of $53.35 in the table and $53.34 in the narrative.
• Assess the durability of comparable-sales weakness and the extent to which weather, transactions and category mix affected results.
• Review the higher debt and leverage following the note issuance and share repurchases, as well as future interest costs.
• Monitor the HD Supply guarantee, including the outstanding guaranteed balance and its April 2014 expiration.
• Evaluate the company’s liquidity and capital-return plans against the filing’s stated risks; the outlook contains no quantified guidance.