While other retailers may leave CRE executives with questions about the impact of inflation, rising interest rates, and the overall health of the U.S. consumer, 1Q22 results from Home Depot and Lowe’s reinforced our previous views that homeowners remain relatively healthy and could offer a multiyear period of growth for home improvement retailers. While visitations are down Y/Y as we lap two exceptionally strong years of demand and there are signs of slowing new home construction, the outlook for home improvement visitations is positive, as they have a higher correlation with home price appreciation for existing homeowners:
Home Depot CFO Richard McPhail
"[T]o start with who our customer is, you need to keep in mind our customers are homeowners. Virtually all sales to our Pro customers are on behalf of a homeowner, and over 90% of our DIY customers are homeowners as well. So let's talk about home improvement demand and what drives it.
Over our history, we've seen that home price appreciation is the primary driver of home improvement demand. When your home appreciates in value, you view it as a smart investment and you spend more on it. So let's look at what's happened at home prices. We've seen appreciation of over 30% over the last two years. In fact, home equity values over the last two years have increased by 40% or over $7 billion just in the last two years. So the homeowner has never had a balance sheet that looks like this. They've seen the price appreciation, and they have the means to spend. And in surveys, our customers tell us that their homes have never been more important, and their intent to do projects of all sizes has never been higher. And our Pros say the same thing about their backlogs.
So let's talk about interest rates. I think it's important to remember that our addressable market is the 130 million housing units occupied in the U.S…Of those 130 million housing units, on any given year, only about 4% or 5% are sold. That means that over 95% of our customers are staying in place. They're not shopping for a mortgage. Nearly 40% of those homes are owned outright.
Of those who have mortgages, about 93% of those mortgages are fixed rates. So when you think about our addressable market, the vast majority aren't really paying attention to mortgage rates. And what we've -- what's interesting about that is what we've heard, when they do look at moving, they're actually more and more tempted to stay in their low fixed rate mortgage and remodel their home instead. So these low locked-in mortgages are probably a benefit to an improvement."
With home prices remaining healthy, existing homeowners locked in fixed rate mortgages, and other non-traditional tailwinds (including increased wear and tear as more consumers work and school-from-home), it’s easier to piece together a positive outlook for this retail category. There will be temporary disruptions, including the late start to the spring selling season due to unfavorable weather that impacted other retailers and cost inflation running in the low-double-digits across many categories (including copper, building materials, and lumber, although lumber prices have fallen recently and are down 35% Y/Y). However, Placer’s visitation numbers still point to relatively strong retailer health across the home improvement category.
Additional Home Depot Insights
- 2Q22 visitation trends Improving. During the first quarter, Home Depot comparable sales increased +2.2%, buoyed by a +11.2% increase in average ticket due to inflation but also new product launches, partly offset by a 8.4% decrease in transactions. By month, U.S. comps were +12.5% in February, -0.3% in March, and -2.9% in April. When factoring in double-digit average ticket increases, Home Depot’s monthly transaction trends are consistent with Placer visitation data over the period (below). Consistent with commentary from other retailers in recent weeks, Home Depot’s March trends reflect the anniversarying of last year’s stimulus payments while April was impacted by unfavorable weather trends across much of the country. 11 of Home Depot’s 14 merchandising departments posted positive comps, led by plumbing, building materials, millwork, and paint but offset by double-digit negative comps in seasonal categories due to the late arrival of spring and slightly negative comps in appliances. Despite the slow start to the spring selling season, Home Depot has seen improvement in visitation trends in recent weeks. Not surprising, management expects these trends to continue, as weather conditions improve and demand for lumber picks up given its recent pricing drop.
- Data suggests Home Depot maintaining traction with Pro customers. Home Depot management was "thrilled" with its Pro customer performance in the quarter, driven by underlying strength in project demand and outpaced DIY customer transaction. Big-ticket comp transactions (those over $1,000) were up +12.4% Y/Y, with strength across categories like pipe and fittings, gypsum, and fasteners. Although Lowe’s also noted strength in its pro customer sales (up 20%), Placer data suggests that Lowe’s weekday visits (a proxy for Pro customer visitations) held were roughly consistent with previous quarters.
- Home improvement poised for long-term demand. According to Home Depot management, "we're in a unique position now in recent housing history where we have built a chronic shortage of housing units in the U.S. consistently and steadily for the last 10 years. Some economists assume that that shortage is a little less than 2 million. You hear numbers as high as 4 million. If you take other estimates of what will likely be built, we're looking at least five years, if not seven or eight years, before we could actually get back to a point of equilibrium. So we believe that supply and demand are going to be the main drivers of support for home price appreciation, and we know that that chronic undersupply is going to be a condition for quite some time."
Additional Lowe's Insights
Lowe’s 1Q22 update struck a similar tenor as Home Depot, with tougher stimulus comparisons and a late start to the seasonal selling period weighing on comparable sales but also strong demand from Pro customers (though not quite to the same extent as Home Depot) and a pick-up in visitations as weather improves across much of the country.
- Visitation trends are improving as seasonal demand recovers. Lowe’s comparable sales declined 4% during the first quarter, with the U.S. comps down 3.8%. Comparable ticket grew 9.1%, driven by higher Pro sales, increased levels of product inflation, and 150 basis points of commodity inflation, but was offset by comp transactions declining 13.1% due to a later start to spring and the impact of cycling government stimulus and storm recovery purchases in the year ago period. Excluding seasonal category, management noted that sales were in line with our expectations for the first quarter, with solid DIY demand for core nonseasonal home improvement projects Like Home Depot, the company has seen improved visitation trends over the past few weeks as spring weather has improved and demand for seasonal categories improved (below). During the quarter, 10 of 15 Lowe’s categories were above company average, while eight categories were up over 20% on a two-year basis. Within home decor division, paint and flooring delivered the strongest comps this quarter.
- Pro customer penetration continues to grow. Although the late spring postponed our DIY sales, Lowe’s Pro customers continue to shop to fuel their strong business demand. Lowe’s recent surveys indicate that the majority of its Pro customers continue to report strength in their business and a full slate of projects for the year. Lowe’s noted that it has seen a 600-basis-point improvement in Pro sales penetration in the U.S. over the past three years, improving from approximately 19% in Q1 of 2019 to 25% in 2022.
