Both Home Depot (NYSE: HD) and Lowe’s (NYSE: LOW) recently reported better-than-expected third quarter earnings. Despite expectations that high inflation will hit the consumer cyclical sector, the home improvement market is proving to be more than resilient.
The question is, which is better for dividend investors?
Home Depot is more cautious than Lowe’s about the future
Both Lowe’s and Home Depot beat sales and earnings estimates. Higher interest rates and a cooling housing market have pumped up demand for DIY products. Here’s a snapshot of the third quarter outcome for these two home improvement giants:
- Home Depot’s revenues were expected to increase by 3% to $37.95 billion. This was beaten with a 5.6% increase to $38.87 billion. As for earnings, these grew by an unexpected 8.2% to $4.24 per share, handsomely beating estimates of $4.12 per share. This marks 10 consecutive quarters of earnings growth.
- Lowe’s also reported an earnings jump, surprising on the upside after two sluggish quarters. Analysts’ expectations had centered around a revenue increase of 1% and earnings increase of 13%. The actual outcome was revenue of $23.5 billion, an increase of 2.2%, and a leap of 20% in earnings to $3.27 per share.
Both fantastic results, but the devil is in the detail, as they say. Lowe’s is much more optimistic about the future. While Home Depot reaffirmed its guidance for 2022 – it expects revenue growth of around 3% and a 15.4% operating margin – Lowe’s raised its guidance. It expects full-year earnings of $13.65 to $13.80 per share, compared to previous expectations of $13.10 to $13.60.
Why the difference in outlooks?
Lowe’s is extremely optimistic about its supply chain and the positivity of its professional customers. As supply-side issues have abated, delayed projects are being brought back onstream.
Meanwhile, on its earnings call, Home Depot’s CEO Ted Decker cautioned that, “There are definitely some mixed signals. It’s definitely got our attention, and that’s why we’re cautious.” Home Depot is still blighted by stubbornly high inventories that have grown by almost a quarter year-on-year. Lowe’s’ inventories have also grown, but by a more manageable 19% over the last 12 months.
Share price performance – HD is now lagging LOW
After underperforming the S&P 500 for much of the previous 12 months, the share prices of both Lowe’s and Home Depot have clawed back some of their lag. However, as can be seen on the chart below, while Lowe’s’ 12-month share price performance is now in line with the S&P 500 index, HD still has some way to go to catch up.
Lowe’s’ share price has leapt from $186 to $210 since it declared its third quarter results. That’s still around 15% below where they stood in November 2021, but a much better performance than Home Depot. Its shares have recovered from $297 ahead of its results to $317 at the time of writing – around 21% below the price a year ago.
At current market prices, Lowe’s is trading at a PE ratio of 16.5 while Home Depot is trading at a PE ratio of 19. On this metric, despite its recent underperformance compared to Lowe’s, Home Depot would appear to be the more expensive stock to buy.
Let’s talk about dividends
Let’s get to the nitty gritty, and what income investors really want to know. Let’s talk about the dividends paid by the two companies, and the potential for hikes in the dividend. We’re going to look at a few key metrics as we do so.
Cashflows
Free cash flow is a crucial metric when analyzing dividend stock. It is the pot from which dividends are paid – so you want to see this grow. There is good news here for both Lowe’s and Home Depot. Free cashflow has rocketed at both during the last ten years:
- Home Depot has seen its free cashflow grow from about $6 billion to around $14 billion
- Lowe’s free cashflow has increased from around $4 billion to a little over $9 billion today
Both companies have enough cash to pay healthy dividends, and this doesn’t look set to change.
Dividend History
Both Lowe’s and Home Depot have a history of increasing the dividends they pay to shareholders.
- Home Depot has increased its dividend for 12 consecutive years
- Lowe’s has increased its dividend every year for 59 years
In the year ending February 2013, Home Depot paid an annual dividend of $1.26. The training 12-month (TTM) dividend as at the third quarter 2022 is $7.70. This represents a total increase of more than 510%.
Lowe’s corresponding dividend payouts are $0.62 for the year ending in the first quarter 2013, and $3.70 for the TTM to the third quarter 2022 – an increase of 496%.
In short, in terms of the relative increase in dividend payout, there is little to choose between Lowe’s and Home Depot, though Lowe’s does have a much longer history of increasing its dividend.
Payout ratios
The payout ratio is another metric that helps us to determine the quality of a dividend stock. This tells us how much of its earnings a company gives to shareholders in dividends. It’s a simple calculation to make:
Divide the dividend per share by earnings per share and express as a percentage
Here we see a marked difference between the two companies:
- Home Depot has a payout ratio of 44%
- Lowe’s has a payout ratio of 27%
On the one hand, Home Depot shareholders should be ecstatic. The company pays out almost half its earnings in dividends. However, this means that it has less to reinvest for business growth. Also, a lower payout ratio means that the company has a much better cushion to maintain (or increase) its dividend even should earnings fall.
The conclusion is that Lowe’s dividend is safer, but Home Depot still has an extremely healthy margin to maintain and increase its dividend even if revenue and earnings should take a dip.
Dividend yield
Dividend yield is used to measure how much return you receive as a percentage of the stock price. It’s a calculation based on an investment made at the current stock price. There are two dividend yield numbers to focus on:
The trailing annual dividend yield is calculated using the current share price and the TTM dividend. This shows the yield you should receive should the dividend remain unchanged over the next 12 months.
The forward dividend yield is calculated using the current share price and the expected dividend payout over the next 12 months. This indicates the yield you will receive should the dividend payout be as analysts expect (and the company may have forecast).
How do Lowe’s and Home Depot measure up?
| Trailing annual dividend yield | Forward dividend yield | |
| Lowe’s | 1.76% | 2.00% |
| Home Depot | 1.90% | 2.43% |
By this calculation, an investment in Home Depot will provide a significantly higher return. It may only read as 0.43% higher, but this is a shade over 20% better yield.
Lowe’s or Home Depot?
It’s great to see both Lowe’s and Home Depot beat expectations. It demonstrates that consumer demand is holding up and supply chains are improving. Analysts expect both companies to increase their earnings:
- The average earnings estimate for Lowe’s for 2023 is $13.68 per share and for 2024 it is $14.24
- For Home Depot, analysts’ average earnings estimate for 2023 is $16.67 per share and $16.94 for 2024
If these estimates are met, both companies should be able to continue to increase their dividend payout. However, Home Depot may find it more challenging to raise their dividend by any substantial amount, while Lowe’s has a lot more wiggle room to do so.
Has Home Depot played too cautiously when looking into its crystal ball? Investors would be wise to remain cautious in the current economic climate. But, given its conservative approach to its near-term prospects, any surprise on the upside in the economy (lower-than-expected inflation, a cooling of interest rate rises by the Fed, or a boost to consumer spending as examples) may deliver a greater boost to Home Depot’s share price than Lowe’s.
Lowe’s dividend and its ability to increase it looks a safer bet than Home Depot’s. On the other hand, you are likely to receive a higher yield by investing in Home Depot.
In conclusion, we believe that both companies offer potential significant upside for long-term dividend investors. But if we had to pick one over the other right now, we would have to go with Lowe’s – the numbers are a little better aligned for those whose primary goal is increasing dividend income, despite the lower yield.