Renovate Your Portfolio with These Home Improvements…

Summer is all about sun, sand and construction. With the longer days comes the sights and sounds of pool and patio contractor trucks. Heavy (and small) equipment became a ubiquitous presence in most North American neighborhoods, in an undeniable sign that construction, home renovation and do-it-yourself (DIY) home improvement activities are kicking into high gear.

A pickup in home improvement and homebuilding activity bodes well for home improvement retailers as it pushes demand for their goods and services. Investors interested in capitalizing on the home remodeling activity may consider the following companies and wait for a meaningful pullback to create a margin of safety.

The world’s largest home improvement specialty retailer, Home Depot (HD) offers a wide range of products including building materials, home improvement products, lawn and garden products, as well as home improvement installation services and tool and equipment rentals. It operates 2,300 warehouse-format stores as well as online in the US Canada, and Mexico.

The company’s flexible distribution network supports and strengthens its brand value, as it enables faster delivery times, improving the overall DIY experience. “The success of ongoing initiatives should allow for modest operating margin expansion above prepandemic levels longer term, despite inflationary pressures and near-term economic turbulence,” says a Morningstar equity report, adding that the company is “set to deliver US$153 billion in revenue in 2023.”

Repair and remodel spending in the US has seen a temporary deceleration so far this year, but is poised for a potential recovery. “Our long-term outlook, which sees rebounding residential construction and repair and remodel spending beginning in 2024, remains unchanged,” says Morningstar sector director, Brian Bernard, who recently lowered the stock’s fair value to US$259 from US$267 to account for slowing top-line momentum.

Lowe’s (LOW), the second-largest home improvement retailer in the world, operates over 1,700 stores across the US and Canada. Its range of products and services includes home decorating, maintenance, repair and remodeling.

Lowe’s targets retail DIY (around 75% of sales) while do-it-for-me customers, commercial and professional business clients account for around 25% of sales.

“We estimate Lowe’s captures a low-double-digit share of the domestic home improvement market, based on US Census data and management’s estimates for market size,” according to a Morningstar equity report, stressing that the retailer is set to capture around US$90 billion in sales in 2023.

The company efficiently leverages costs while maintaining its low-cost position. It keeps a portion of the cost savings thus realized and offers the remaining benefits to customers through everyday low prices. “These competitive advantages support our wide economic moat rating,” says Bernard, who pegs the stock’s fair value at US$218 and forecasts a long-term revenue growth rate of 4.5%.

Lowe’s boasts robust vendor relationships and pricing prowess which makes it difficult for smaller retailers to enter the market and threatens the retailer’s position, he adds.

Sherwin-Williams (SHW) is the largest provider of architectural paint in the US with over 4,900 stores that sell premium products at higher price points than most competitors. Additionally, the firm sells paint-related products in big-box stores and provides coatings for original equipment manufacturers.

North America accounts for over three fourths of Sherwin’s business. Much of its international exposure is the result of the 2016 acquisition of Valspar. The acquisition boosted Sherwin’s retail presence, as Valspar’s long-standing relationship with Lowe’s led to an exclusive partnership for Sherwin in 2018, says a Morningstar equity report.

The paint stores business remains Sherwin’s largest segment, which has maintained solid growth even in developed markets. The company adds nearly 100 new stores every year across the Americas, the report notes.

“Its strategic focus on building this segment has created a strong value proposition for contractors,” says Bernard, who puts the stock’s fair value at US$201, and forecasts healthy growth and profitability for Sherwin over the next 10 years. Approximately 90% of the paint store group’s sales are attributed to professional painters, while DIY customers make up the rest.

Sherwin’s wide moat, or sustainable competitive advantage, stems from its intangible assets and strong brand equity. “Sherwin-Williams is one of the most trusted brands in the residential paint industry, producing high quality products sold at premium prices,” notes Bernard.