Lowe's: The Housing Chill Deepens

Shares in the home-improvement retailer sank Monday after it cut its sales and profit outlook for 2008

The weak housing sector is putting a bigger dent in home improvement retailers' sales and profits. Lowe's Companies (LOW) followed in the footsteps of its rival Home Depot (HD) on Nov. 19 by cutting its outlook for the final quarter and its current fiscal year. The retailer also warned that industry pressures are likely to persist well into 2008. The news pushed Lowe's stock down to a new 52-week low.

Lowe's reported a 10% drop in net earnings from a year ago, to $643 million, for the quarter ended Nov. 2. Third quarter earnings per share came in at 43 cents, vs. 46 cents a year ago. Same-store sales -- a key performance metric -- dropped 4.3%, while total sales rose 3.2% to $11.6 billion. Analysts were expecting EPS of 41 cents on revenue of $12.4 billion.

"Our sales for the quarter fell short of our expectations, but disciplined expense management and ongoing safety initiatives combined with rational and targeted promotions enabled us to deliver earnings per share at the low end of our guidance," said Lowe's CEO Robert A. Niblock in a release. "Many external factors contributed to the weak sales environment, including a continuing housing correction, drought conditions in several U.S. markets, and slower than expected sales in Gulf Coast markets. Clearly the largest of these impacts was the unstable housing environment evidenced by an even steeper decline in housing turnover, falling home prices in many markets, and a near record inventory of homes for sale."

For the fourth quarter, Lowe's projects EPS of 25 to 29 cents on 3%-5% lower same-store sales and about 3% higher total sales. That's well below analysts' EPS forecast of 36 cents.

For fiscal year 2008 (ending Feb. 1), the Mooresville, N.C. company sees $1.83-$1.87 EPS on about 4% lower same-store sales and 3%-4% higher total sales. Back in August, the company thought EPS for the year would come in "at the low end" of its forecast of $1.97 to $2.01

"The home improvement consumer remains pressured by the ongoing housing correction, tighter credit standards in the mortgage market, and rising financial obligations, but we believe our guidance for the fourth quarter reflects these factors and is appropriately conservative given the uncertainties that exist," Niblock said. He added that "pressures on our industry are likely to continue well into 2008."

Lowe's shares dropped 6% to $23.49, after touching a fresh 52-week low of $23.18. Lowe's shares have skidded 23% in the last year.

Worry about how badly the housing and mortgage troubles will hurt consumer spending -- and in turn, the economy -- has been one of many reasons the stock market has retreated recently. "This release should only heighten concerns about the housing market and consumer health," wrote Bear Stearns analyst Christopher Horvers in an early note on Nov. 19.

Deutsche Bank Securities analyst Mike Baker said in a note that "business likely has fallen off pretty dramatically since the end of September." He noted that a recovery "is not at hand in late 2007 or early 2008."

"The third quarter results that the company announcement this morning suggest a significant slowing in trends at the company over the past few months from already soft levels earlier in fiscal 2007," wrote UBS analyst Brian Nagel in a note. He says he expects Lowe's to keep suffering for at least the next several quarters. Still, he kept a buy opinion, reflecting the stock's valuation and the company's "still compelling longer-term fundamentals.

Lowe's downward preannouncement coincides with other retailer revisions, namely Target (TGT), as well as worse than expected existing home sales (down 13% in August), noted JP Morgan analyst Stephen Chick. Last week, Home Depot reported a 27% decline in profits and lowered its full-year earnings outlook, saying it expects difficult conditions to continue into next year. "All in, bad trends are well advertised, in our view," Chick said in a research note.

With the shares so depressed, the valuations may look tempting. Chick pointed out that Lowe's trades at 14 times revised 2008 forecasts (its 6-year low p-e is 13), while Home Depot is trading at 12 times 2008 estimated EPS (6-year trough is 11). He kept his overweight recommendation on both Lowe's and Home Depot shares. (JP Morgan has provided investment banking services for Lowe's and Home Depot during the last year.)

And Deutsche Bank's Baker wrote: "once business turns, we believe Lowe's will be an ideal stock to benefit from the recovery." The problem is, no one knows when housing will turn around, so investors should tread carefully.

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