Motley Fool Money - Walmart & Home Depot vs. Inflation

Episode Date: May 17, 2022

Two major retailers, two different results as they battle inflation. (0:30) Asit Sharma discusses: - Walmart's unusually large stock drop in the wake of disappointing 1st-quarter results - Being a blacksmith, not a goldsmith - Home Depot raising guidance after strong 1st-quarter profits - The role of higher mortgage rates play for home improvement retailers (15:30) Alison Southwick and Robert Brokamp continue their conversation with Business Insider's Mark Reeth about unusual economic indicators. Stocks discussed: WMT, HD, LOW, AMZN Host: Chris Hill Guests: Asit Sharma, Alison Southwick, Robert Brokamp, Mark Reeth Producer: Ricky Mulvey Engineers: Dan Boyd, Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

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app, which makes it so much easier to stay on track. And you can get unlimited expert help at no extra cost, even on nights and weekends during tax season. Visit turbotax.com to get matched with an expert today, only available with TurboTax full service experts. We've got a tale of two retailers. It was the best of times. It was the blurst of times. Motley Fool money starts now. I'm Chris Hill, joined by Motley Fool's senior analyst, Asset Sharma. Thanks for being here. Chris, thanks for having me. Two of the biggest retailers in the U.S. Two pretty different stories. And we'll start with the bigger one. We'll start with Walmart, bigger company and bigger story. First quarter profits

for Walmart were much lower than expected. Shares are down 10 percent, and I know we don't really care about stock movement for any one given day. I will point out, however, we don't really see that type of movement up or down with this company. And I get the impression. I'm sure this is not the impression Doug McMillan, the CEO and his team are hoping to give, I'm sort of left with the impression that they seem surprised by the impact of inflation on this quarter. What did you think when you saw the results in the commentary from management? I mean, Chris, I think, yeah, they, like other big retailers, are taken aback by the pace of inflation, the magnitude of it, and the fact that it looks like it's going to stick

around for a while. But I thought this earnings report maybe makes the case. for longer-term investors, why you want to invest in a company like Walmart if you're going to invest in the retail space and we have this kind of environment. I hail not directly because I was born in Massachusetts, but I hail from an agricultural region through my parents of India where they have a lot of great rustic sayings. And one of those is, I'm not a goldsmith. I'm a blacksmith. meaning thereby, sometimes it's good to wield a heavy hammer on an iron forge rather than be someone who's very good with intricate design and molding small earrings and such. And this is what Walmart did.

I mean, they are paying for over-resourcing. They overstaffed last quarter because they had a lot of employees on COVID leave. And those employees came back before they thought they would. They spent a ton on inventory, and I should say invested here, because that's something that comes off of your cash flow statement into your assets. It's not really an expense, but they, let's put it this way, they bought a ton of inventory because they suspected that they would have increasing problems with supply chain. That turned out to be the case, and it totally turned their cash flow around from a very nice,

positive complexion to negative cash flow this quarter. But these are the kinds of things. If you're a long-term investor, you want to have these big mammoth companies in your portfolio so they can react ahead of time. If they're over-resourcing for problems, so be it. You don't want to be on the other end of things where you've got a company that doesn't have the resources to deal with higher inflation over time or can't manage inventory problems in advance. I'm giving them a lot of credit this quarter.

Certainly, Walmart, when you consider its size, moved. so nimbly early in the pandemic in the way it was able to staff up, staff up safely, invest in curbside pickup, beef up their delivery, all those sorts of things. And so I think we're going to find out pretty quickly if this quarter that we're seeing right now is a stumble or if it's a pattern, because I don't think anyone expects inflation to drop dramatically in the next three months. And maybe Walmart is just taking it on the chin all at once with this one quarter and things get smoothed out three months from now.

But again, long term, you want to give McMillan and his team the benefit of the doubt because they've earned it. But if this were a less seasoned management team, I would absolutely understand people looking at them saying, you just blew it. You just blew this quarter, particularly in the wake of Home Depot, which we're going to to talk about in a minute. But I think that's part of the challenge for Walmart from an investor relations standpoint is they're not doing this in a vacuum.

There are other major retailers on deck this week. Home Depot reported this morning as well, but you like to hope that they're going to just smooth this out over the next few months, because right now this looks bad. I mean, I agree with that. And as far as Doug McBillan and team are concerned, they've got some really good muscle memory that they will sort of prod awake now. During the pandemic, they face challenges. I mean, Amazon was really taking it out on the rest of the retail world by boasting about how much it paid its employees. And Walmart was forced to react. So some of their wage growth was reaction. They had that muscle of cutting costs being very agile with distribution, with managing their inventory. I mean, for years, that's how they made their bottom line is by being a sort of a cutthroat type of retailer.

So I think they'll prod those skills back awake this year. Having spent the last couple of years just trying to catch up, invest in e-commerce, make sure that they had competitive wages. is all the investments and rising of costs that they've willingly endured in the near term, I think that will serve them, but more than that, just going back to some of their old playbook to manage cost during inflation and makes a little bit more of these sales, which, remember, these sales are rising because price are higher. So they've got that part that's helping them, make more of that revenue drop to the bottom line.

I think it's an open call. We're just going to have to watch. My guess, though, Chris, would be that they do manage this better than people seem to expect today on the ground looking at the stock price. And one of the things they talked about was how the impact of inflation, in terms of what are people buying at Walmart, it was more heavily slanted towards essentials like groceries and less sort of nice to have things, you know, sort of additional things, which would drive up with the average ticket. Different story at Home Depot.

First quarter profits and revenue came in higher than expected. Home Depot raised guidance for the full fiscal year. It's the first quarter that, a full quarter that Ted Decker is installed as CEO. And I was a little surprised at the boldness of that call, because we got three quarters to go in the fiscal year. assuming you don't raise guidance like that unless you are confident that whatever comes your way in the next nine months in terms of inflation, in terms of supply chain issues, you're going to be able to deal with it.

Chris, I think that they feel very confident about one thing, which is the direction of interest rates for the rest of the year. So if we were to wind back the clock a year ago today, the 30-year average mortgage, according to the St. Louis Fed, which tracks this number, was sitting at 2.96%. Today, that number is 5.11%. Now, that's the average. If you have less than average credit, that interest rate to take out a 30-year mortgage is going to be a lot higher, maybe closer to 6%. So I did some number crunching right before you and I taped today. A 30-year mortgage at the median US home price of $375,000, that monthly payment is $1573.73. Now, that's what you would have been in store for last year if you had taken out a 30-year mortgage a year ago today. This year,

same mortgage, same house. It's a $2,000 payment, $2,000.38. So you've got a $465 dollar delta, monthly delta. And this is something that is, I think, pushing Home Depot's results this quarter, because those rates didn't rise overnight. They've been sort of creeping up over the last year. And I think there are thousands of potential home buyers who have put off purchases, and we'll start to see these numbers more and more as we look at the pace of home sales. But I think you see the effect on the DIY business, the Do-It-Y business at Home Depot, and also the pro business.

So these are the installers who help people with projects, who help put stuff into new homes. Both of these components contribute when we go into a period where people are delaying home purchases. We saw this at the beginning of the pandemic. I think Chris, you and I talked about this on a podcast, how they benefited. It's the same thing again, except it's not COVID. It's interest rates. And you sort of see this all over their numbers. I mean, they, like Walmart had roughly 3% growth, but they brought most of that home to the bottom line.

They had this very nice, just steady growth. I'm looking at their gross profit margin. Their total gross profit dollars grew about 3%. So almost following the sales growth. Company had net earnings of 4.2 billion. So it was a nice 2% increase here over a year. But the good news here is investors are breathing a sigh of relief. Okay, Home Depot is making some money in this environment.

Big ticket purchases are still moving along strongly. seen some weakness in parts of their business. There was a delayed spring season. So some of the items that are seasonal haven't done as well. But overall, you've got the case of a company that's enjoying this environment. And I think that's what's driving their confidence going forward for the rest of this year. You also have same store sales in the U.S. up 1.7%, which is not a big number, But that's off of a year ago. It was up 30%.

So part of the guidance that we're seeing at Home Depot is just that load of mid-single-digit comp growth the rest of the year. Every time Home Depot reports, I can't wait for 24 hours into the future because we're going to get lows reporting. And typically these two sort of go in concert. It's going to be interesting to see if we get. similar results and similar optimism about the rest of the fiscal year out of Lowe's as well. I mean, I'm guessing we will. Both companies have done a pretty good job of working on their stores over the last few years. So the stores, they just look more spruce. If you walk into

Lowe's or Home Depot, they're using more digital technology. Lowe's has been playing behind in terms of its distribution and warehousing for years from Home Depot. It's catching up. So I, I, I'm guessing they had a good quarter as well. But, you know, the bottom line here is, Chris, you said, they've managed to maintain their pandemic gains. People are still going out en masse. And this just shows up in the numbers. We were talking about Walmart having sort of negative cash flow. I think they're negative free cash flow number. So when you take their cash burn versus, sorry, and add what they invest in their fixed assets, something like that. $7 billion. And here we have Home Depot, which, again, they're investing in inventory as Walmart

is. So, while they didn't generate as much operating cash flow this quarter, still $3.8 billion, a very healthy quarter of cash generation. So now, watch the market prove me wrong. But I think we'll also see some pretty nice results out of Lowe's. I want to go back to one thing before I let you go, which you touched on, which is the digital investments that both Home Depot and Lowe's have made because it's one of those things that I feel like has gone a little bit under the radar for the investment community. There hasn't been, in either case, some huge, splashy acquisition that either of them have made over the past decade or so. They've just steadily invested in improving that customer experience, their own logistical

networks so that if you are either going into a Home Depot or Lowe's, location or just going to their website. Both of them are so much better than they used to be in terms of telling you what they have, where they have it, when you can pick it up. Just the communication that both these businesses are able to do with customers is so much better. It's one of those things that doesn't necessarily show up in a quarterly report unless you look at it through the lens of same store sales, and then it makes sense. For sure. I mean, it makes you wonder why they made it so hard to buy, to search, and return stuff in the first place. I mean, you'll note these are sometimes minor floor changes coupled

with the digital experience. Home Depot is a great example. They've sort of rearranged in many stores, how they present their customer service. They have now multiple kiosks set up, not the weird sort of line they used to have, I called it like a labyrinth type of line. It just makes it easier to get to someone to talk to them and they usually have now a handheld device or a good access via the computer at their station to help you quickly return something or to find an item in store. Touches like this, I mean, just are really great. And I'll put in one last thing, which is also an area that neither company has invested in. It's an area of, um, um, digital prowess that they benefited from. And that's the prowess of people like you and me who've

become very adept at using YouTube to figure out how we can swap out a bathroom fixture or properly apply paint to do it ourselves. This is something that is also underappreciated as well, the availability of knowledge that we all have access to, to give us the confidence to go out and do a project ourselves. Awesome, Charma. Always great talking to you. Thanks for being here. Appreciate it. Thanks, Chris. What can cardboard boxes and RVs tell us about the economy? Allison Southwick and Robert Brokamp continue their conversation with business insiders Mark

Rees about unusual economic indicators and just how accurate they may be. This week, you may have noticed a leading indicator that would tell you that this week, we're going to talk about more leading indicators. Yes, that's right. Mark Reith is back. And we are going to talk about a few more leading indicators that, in theory, maybe predict the health, the future health of the economy and the markets. But I don't know. We're going to talk about them, and then we're going to rate them on our Bereathability scale, which Mark Reith hates the name of, but he doesn't have a choice because it's not

his show. Mark, welcome back. Hello, I stand by the Bereathability scale. I will have you know the patent is pending, and that means that you can't use it anymore in the future. or we have to give you a nickel every time. Done. Sold.

All right. Your nickel's in the mail. So, yes, last week we talked about the men's underwear index, the lipstick index, and also the recession index, how much the word recession shows up in the news. And so today, we're going to kick it off by talking about an indicator that feels like one particularly well suited for the age of Amazon. And that's the Cardboard Box Index. That's correct. The cardboard box index is pretty straightforward. The more cardboard boxes are being produced, the better the economy will perform.

The idea is that the production of cardboard boxes is a leading indicator that goods manufacturing is rising. And that's a great sign for the economy. And as you said, Alison, you know, in the age of Amazon post-pandemic, when all of us were trapped at home and I don't know about you, but there is an Amazon box arriving every single day at my front door. Yeah, cardboard boxes are suddenly a probably not a bad indicator of how the economy is doing. It's not super duper accurate, but it is a good informal indicator. And in fact, there is a formal following of this indicator. The Federal Reserve Bank of St. Louis keeps tabs of the price of corrugated shipping containers, cardboard boxes, and the production of paperboard containers, cardboard boxes. So if you take a look

at the Federal Reserve of St. Louis's website, it'll show you that the price of cardboard boxes bottomed out in April 2020 and then skyrocketed later that year, November 2020, as supply chains started to sort themselves out a little bit, and people realized, oh, oh, this is real now. Oh, we're going to have to be trapped at home and start to order all of our goods, on Amazon. So you see, if you look at the chart, it's this crazy skyrocket up into the right from November 2020 until October 2021, and it kind of steadies out at that all-time high in October 2021. It's about even with where we are today. As opposed to the actual production, the amount of boxes being built or being made skyrocketed again from May 2020 until March

2021, but it's since trended a little bit lower. And the problem there, is supply chains, which is kind of ironic, because when you think of like supply chain issues, you think about the goods being shipped and not the containers they are being shipped in, but it's those containers that are a good informal indicator of manufacturing capacity and consumer goods. So for me personally, just the fact that the Fed actually does track this one, They don't put an intern in the Haynes Isle at Target, counting men's underwear, but they do have somebody actually keeping track of cardboard box production and prices. Tells me that this one is at least a little bit more formal than the last couple of

indicators and indices that we've analyzed here today. So I'm going to give this one a solid four bereathability nods. That's one, two, three, and for the people watching at home, four, four nods. on the bereathability scale. Yeah, our listeners should know that when we say how many thoughtful nods, we're giving it, we're giving you those thoughtful nods, aren't you, Mark? Darn Tudin. There we go.

All right, bro. What's your take? I'm going to give three thoughtful nods just because the evidence shows that the accuracy of this indicator is not superty-duperty. So, but that said, it's still interesting. I'll do like looking at anything that indicates how the economy is. is performing in terms of demand. So this type of thing is good. I like to look at how much it costs to ship things, both over water and over land. By the way, the cost of both of those

are down significantly over the last couple months. It could either mean a good thing because inflation is coming down or it could mean a bad thing because demand is drying up. Either way, I like to put them all together and take a look at them. So yeah, I'll keep this one on. I'll keep this one in mine. Darden and Supertie Dooprity. This is the level of economic analysis. You're going to going to get with the body. Forget the berefability index. Let's get the superty-duberty scale going. I give it three darn tutans. All right. Next, we're going to talk about one that feels particularly timely because who among us doesn't want to live that sweet, sweet van life? Me, I don't. But,

so yes, we're going to talk about the RV index. That's right. The RV index. The idea is that a decline in RV sales precedes a recession. The logic there is that if you're uncertain about the future, maybe you're putting off buying big-ticket items like an RV. And to the RV indexes credit, it actually has been superty-duper-de-accurate, at least recently, and we'll talk about my change of tone of voice there in a moment. But RV sales slipped in 2018, 2019, and then, of course, 2020 happened, and we had ourselves a recession. and actually declines in RV sales have preceded all three of the most recent recessions. So there might be something there, but of course, 2020 comes along and the pandemic throws a wrench into every economic indicator right there.

Because with people afraid to leave their homes and afraid to travel, RVs suddenly became a very safe option for getting out of their house without sacrificing safety. So RV sales have skyrocketed in the last. couple of years. Now, I mentioned, you know, the St. Louis Fed tracks cardboard boxes. They also track RV sales. And you can see, if you take a look at their website, it is a slow but steady rise over the last few years with a big old bump beginning in September 2020. Again, as people realized, hey, I'm trapped at home and this sucks. What if I bought a big old van packed my life into it and got the heck out of Dodge? I would give that a strong superty-duperty look if I was

still trapped at home, rootin-tootin, et cetera, et cetera. But seriously, no, the price of RVs has gone up over the last two years. It's starting to flatten since November of 2021, but RV sales themselves are very, very strong right now. There is a year-over-year increase of about 18.7% in RV sales, according to the RV Industry Association. So sales are strong, despite the fact that People might be a little bit more worried about a recession now more than ever. For me, personally, I'm going to give this solid three and a half nods. That's one, two, and then a little tilt to the side for the three and a half there. The RV index, again, it's been accurate in the past, but I think 2020 threw a wrench into

everything. Maybe it's not so accurate going forward. I'm going to give it five thoughtful nods because I just love RVs, and that's the first thing I'm going to do when I retire is buy an RV and drive around the country. So just say RV and you're going to get lots of nods from me. As an indicator, I like it because it's, you know, you certainly have to have a good deal of money to buy one. They can cost anywhere from $10,000 to $200,000. I think what's interesting now is that sales are going up even though the price of gas is going up because these things get like 6 to 10 miles per gallon. And usually

what you see is when gas goes up, people start buying smaller cars. So as Mark said, I I think the pandemic kind of threw this one off, but I'm still going to stick with it because, man, it's an RV. Bro, when are we going on a road trip? You need the setting sun, Americana. I'm in. Your holy underwear, I can't wait. I'm out, man.

The idea of living like a turtle with you guys, I don't know. That doesn't sound like freedom to me. But all right. So now it is time to talk about our last leading indicator. So our listeners, Mark, they maybe don't know all about you. We used to work together at The Fool. You're now at Business Insider. And also, you're about to get married in a few days. Nothing I'm counting. So exciting. And so I thought, you know what? Let's close with the leading indicator of love.

And so for that, I'm going to look to Bro. Bro, what do you feel is a good leading indicator for the success of a marriage? Help Mark out here. Well, so this is for the success of a marriage, not necessary love. As we know, they're not always connected there. But here's what I'm going to tell you. And it comes down to credit scores. And this comes from a 2015 study from the Federal Reserve called credit scores and committed relationships. And what they found was, the higher the couple's credit scores, the more likely the relationship

the last. And a significant difference in a couple's individual scores is predictive of potential trouble ahead. And it turns out it's not really just about the money. the report concludes that, quote, credit scores reveal an individual's relationship skill and level of commitment. So, Mark, we wish you and your fiancé, all the best, including FICO scores above 800. Wow, bro. Thank you for that. I think you just wrote my wedding vows, actually. Romantic you. Thank you. I was struggling with them. And now I know FICO scores are going to make up the core concept of my romantic love at my wedding.

Thank you. Thank you, Robert. I predict success. I mean, ultimately, aren't we all looking for a leading indicator of love and marital success? Because even if we can't predict the bull and bear markets, the inflation and recessions and depressions and robot uprisings, at least we'll go through them together with someone who loves nutritious sludge as much as we do. Mark, thanks again for joining us.

Great to see you guys. Thanks for having you. As always, people on the program may have interest in the stocks they talk about and the Montlique Fool may have formal recommendations. for or against or against, but don't buy ourselves to be solely on what you hear. I'm Chris Hill. Thanks for listening. We'll see you tomorrow.