Good day, welcome to The Home Depot Q3 2014 earnings call. Today's conference is being recorded. If you would like to ask a question during today's call, please press the star key followed by the digit 1 on your touch-tone phone. At this time, I'd like to turn the conference over to Ms. Diane Dayhoff, Vice President, Investor Relations. Please go ahead.
Thank you, Audra, good morning to everyone. Joining us today on our call are Craig Menear, CEO and President, Ted Decker, EVP of Merchandising, Carol Tomé, Chief Financial Officer and Executive Vice President, Corporate Services. Following our prepared remarks, the call will be open for analyst questions. Questions will be limited to analysts and investors, as a reminder, we would appreciate it if the participants would limit themselves to one question with one follow-up, please. If we are unable to get to your question during the call, please call our investor relations department at 770-384-2387. Before I turn the call over to Craig, let me remind you that today's press release and the presentations made by our executives include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.
These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections. These risks and uncertainties include, but are not limited to, those factors identified in the release and in our filings with the Securities and Exchange Commission. Today's presentations may also include certain non-GAAP measurements. Reconciliation of these measurements is provided on our website. Let me turn the call over to Craig.
Thank you, Diane, good morning, everyone. While I've spoken to many of you on past earnings calls, this is my first call as CEO, I'd like to start by thanking Frank for his leadership and guidance over the years. Our effort as a leadership team will be to continue to drive our strategic framework and to take on the opportunities that lie ahead for our business. Let's turn to the quarter. Sales for the third quarter were $20.5 billion, up 5.4% from last year. Comp sales were positive 5.2%, and our diluted earnings per share were $1.15. Our U.S. stores had a positive comp of 5.8%. In the third quarter, as we saw in the second quarter, we had broad-based growth across our geographies, with all three of our U.S. divisions posting mid-single-digit comps.
Every region positively comped in the quarter, as did 39 of our top 40 markets. We saw growth in ticket and transaction in the third quarter, and we were particularly pleased with the strong transaction growth, as each month in the quarter had positive comp transactions. As Ted will detail, all of our merchandising departments positively comped, and we continue to see strength in the core of our store. Our service businesses had comps above the company average, with strength in windows, countertops, and water heaters. Both our consumer and pro businesses grew during the quarter. The growth in our pro business continues to be anchored by our large spending pro, which grew at approximately two times the company average.
As we look at the trends across our business, broad-based geographical growth, strong comps and higher ticket install projects, growth with both our pro and consumer, and strength in the core of the store, we continue to see a recovering home improvement market in the U.S. On the international front, our Canadian business posted comps above the company average in local currency for the quarter, making it 12 quarters in a row of positive comps. Comps in local currency for our Mexican business were in line with our company average, yielding their 44th consecutive quarter of positive comps. Sales from our online channel grew almost 40% in the quarter, and this was particularly impressive as we anniversaried growth of over 50% in the same quarter last year.
We saw increased traffic to our sites, growth in online conversion, and an increase in the number of orders being picked up in the store in the quarter. We continue to invest in interconnected retail. Across our online properties, we improved navigation, enhanced search capabilities, and expanded chat functionality during the quarter. Our supply chain team opened our Perris, California, direct fulfillment center, the second of three planned direct fulfillment centers. These automated facilities will support our online growth with a balance of cost efficiency and speed in shipping online orders to meet our customers' needs. Interconnected retail also requires us to rethink space allocation within our stores. Almost 40% of our online orders are picked up in the store using our buy online, pickup in store, and buy online, ship to store capabilities.
This year, we are installing dedicated storage bays in 550 stores to improve the customer experience. The U.S. housing recovery continues to track in line with our expectations, with home price appreciation and housing turnover being the drivers of growth for our business. We have also seen improvement in GDP growth. As Carol will detail, we are reaffirming our sales guidance and our diluted earnings per share guidance for the year. Before I close, I'd like to briefly comment on the data breach. First, we apologize to anyone impacted by this. From the start, our guiding principle has been to put our customers first. Our customers won't be responsible for any fraudulent charges incurred through the breach, and we will continue to offer free credit monitoring and ID theft protection to any impacted customers. We will continue to invest in enhanced security measures to protect our customers' information.
Finally, I'd like to congratulate Mark Powers, a 28-year Home Depot veteran who was recently promoted to Executive Vice President of U.S. Stores. Mark has been instrumental in improving customer service, making him an ideal fit for the role. The power of The Home Depot begins with our company's strong culture and commitments to its values. I want to thank our associates for their hard work and dedication to our customers. Based on this quarter's results, over 99% of our stores would qualify for Success Sharing, our profit-sharing program for our hourly associates. With that, let me turn the call over to Ted.
Thanks, Craig. Good morning, everyone. We were pleased with our performance in the third quarter. Strength in the core of the store, growth of our pro customers, excellent execution of seasonal events, the continued implementation of our merchandising tools all contributed to these results. All merchandising departments posted positive comps. Millwork, tools, kitchen, indoor garden, lumber, lighting, bath, and plumbing were above the company average. Flooring, hardware, building materials, decor, electrical, paint, and outdoor garden were positive but below the company average. The core of the store continued to perform, and we saw comps above the company average in maintenance and repair products like water heaters, light bulbs, power tool accessories, hand tools, cleaning, pipe and fittings, and wiring devices. There was also strength in simple decor, with comps above the company average in plumbing fixtures, decorative lighting, vanities, and hard surface flooring.
Pro heavy categories continued to grow. We saw comps above the company average in insulation, concrete, pressure treated wood, dimensional lumber, HVAC, and gypsum. Our millwork categories also had another quarter of great performance, led by comps above the company average in interior doors, exterior doors, and windows. Our Labor Day, fall cleanup, and harvest events provided great values and were well-received by our customers, resulting in solid comps in outdoor power, storage, decorative holiday, and grills. Using our merchandising planning tools, we were able to add innovation and localization within our fastener and builder's hardware categories. In fasteners, we recently completed a reset, resulting in a more effective mix of our private label brand, Everbilt, with national brands. With this reset, we also introduced a larger assortment of innovative specialty fasteners.
In cabinet hardware, we adjusted the assortment throughout the U.S. to better serve our customers on a local level. As a result, these categories comped above the company average in the third quarter. Total comp transactions grew by 3.1%, while comp ticket increased 2.1% for the quarter. Our average ticket increase was positively impacted to reflect approximately 10 basis points due to commodity price inflation from products such as lumber. Transactions for tickets under $50, representing approximately 20% of our U.S. sales, were up 1.9% for the third quarter. Transactions for tickets over $900, also representing approximately 20% of our U.S. sales, were up 5.9% in the third quarter. The drivers behind the increase in big-ticket purchases were water heaters, flooring, and countertops. Now let me turn our attention to the fourth quarter.
Our strategy of partnering with suppliers to bring innovation and value to the market has never been stronger. This quarter, we continued to deliver on the promise with the addition of 21 new Kohler SKUs to our bath and kitchen faucet lineup. These faucets will bring the latest in innovation and style and are exclusive to The Home Depot. For our pro customers, we will be featuring an exclusive series of carbide-tipped reciprocating blades from Diablo. These blades are designed for extreme metal cutting, including high-strength alloys, cast iron, and stainless steel. This breakthrough technology provides up to 20 times the cutting life of standard blades, saving our pros time and money. With the holidays nearing, we're once again offering an outstanding assortment of products in our gift centers. We will feature great deals on hand and power tools, including amazing values from Milwaukee, Makita, and DeWalt.
In holiday decor, we continue to bring innovation and the latest offerings to our customers. We have become a leading destination for the category, both in store and through our extended assortment online. We're excited about our lineup of pre-lit trees and have added many new styles, including one that can change between 56 different light functions and color options using a remote control. Finally, I'd like to mention the outstanding special buys that we have planned for Black Friday and Cyber Week. We'll have extreme values for the traditional DIYer and professional customers, including some amazing offers on appliances. With all of these exciting products, events, and great in-store execution, we look forward to driving excitement this holiday season. With that, I'd like to turn the call over to Carol.
Thank you, Ted, and hello, everyone. In the third quarter, sales were $20.5 billion, a 5.4% increase from last year. Our total company comps or same-store sales were positive 5.2% for the quarter, with positive comps of 5.3% in August, 4.8% in September, and 5.4% in October. Versus last year, a stronger U.S. dollar negatively impacted total company comps by approximately $109 million, or 60 basis points.
Comps for U.S. stores were positive 5.8% for the quarter, with positive comps of 5.8% in August, 5.2% in September, and 6.2% in October. Our total company gross margin was 35% for the quarter, an increase of 10 basis points from last year. Our gross margin expansion is explained by the following. In the U.S., we experienced five basis points of gross margin expansion due to three factors. First, enhanced productivity and lower fuel costs in our supply chain drove seven basis points of expansion. Second, lower deferred financing costs drove four basis points of gross margin expansion. Third, we had higher shrink than one year ago, which drove six basis points of gross margin contraction. Our international businesses also contributed five basis points of gross margin expansion in the quarter, due primarily to higher levels of co-op and rebate than one year ago.
For fiscal 2014, we would expect to report gross margin expansion of approximately five basis points, in line with what we reported for the first nine months of the year. In the third quarter, as a percent of sales, total operating expenses decreased by 56 basis points to 22.6%. Our third quarter expenses included $28 million of net expenses incurred as part of our data breach. We carry a $100 million insurance policy for breach-related expenses. The gross amount of breach-related expenses incurred in the quarter was approximately $43 million. For the fourth quarter, we are projecting our known gross breach-related costs to be approximately $27 million, and after insurance, a fourth quarter net breach expense of approximately $6 million. For fiscal 2014, given our projected known net breach-related expenses of $34 million, we now expect fiscal 2014 operating expenses to grow at approximately 27% of our sales growth rate.
Interest and other expense for the third quarter was $113 million, down $75 million from last year. The year-over-year decline is due to the following. First, interest and investment income increased by $102 million, reflecting a $100 million gain on sale of HD Supply common stock. During the quarter, we sold another block of HD Supply common stock. This brings the total pre-tax gain on sale of HD Supply common stock this year to $212 million. We now own approximately 8.2 million shares or 4% of HD Supply's outstanding shares. Second, interest expense increased by $27 million from last year due to an increase in long-term debt outstanding and some interest payments on state tax settlements. Our income tax provision rate was 37% in the third quarter, and we expect our income tax rate to be approximately 37% for the year.
Diluted earnings per share for the third quarter were $1.15, an increase of 21.1% from last year. During the third quarter, we opened two new stores in Mexico for an ending store count of 2,266. At the end of the third quarter, selling square footage was 236 million. Total sales per square foot were $348, up 5.8% from last year. Now turning to the balance sheet. At the end of the quarter, inventory was $12 billion and inventory turns were 4.7 times, flat to last year. We ended the quarter with $41.5 billion in assets, including $2.2 billion in cash and cash equivalents. Moving to our share repurchase program. In the third quarter, we received 4.5 million shares related to the true-up of an accelerated share repurchase or ASR program we initiated in the second quarter.
Additionally, in the third quarter, we repurchased $2.24 billion or 24.2 million of our outstanding shares, all on the open market. For the remainder of the year, we intend to repurchase approximately $1.26 billion of outstanding stock for total fiscal 2014 share repurchases of approximately $7 billion. Computed on the average of beginning and ending long-term debt and equity for the trailing four quarters, return on invested capital was 22.2%, 250 basis points higher than the third quarter of fiscal 2013. Moving to our guidance. For the first nine months of fiscal 2014, our sales growth was in line with the plan we laid out at the beginning of the year. As we look to the fourth quarter, nothing has come to our attention that changes our point of view.
Today, we are reaffirming our sales growth guidance for the year of approximately 4.8% and comp sales growth of approximately 4.6%. This guidance suggests total company comps of approximately 5% in the fourth quarter, consistent with our plan. As you heard from Ted, we are ready for a strong Black Friday and holiday selling season. For earnings per share, remember that we guide off of GAAP. We are reaffirming fiscal 2014 diluted earnings per share guidance of $4.54, an increase of approximately 21%. This earnings per share guidance includes the $5.74 billion of share repurchases completed in the first three quarters of 2014 and our intent to repurchase approximately $1.26 billion in additional shares in the fourth quarter. Thank you for your participation in today's call. Audra, we are now ready for questions.
Thank you. If you would like to ask a question, please press star one on your telephone keypad. If you're using a speakerphone, please make sure mute function is turned off to allow your signal to reach our equipment. As a reminder, please limit yourself to one question and one follow-up. Again, that is star one for questions. We'll go first to Aram Rubinson with Wolfe Research.
Hey, thanks. Appreciate the opportunity to ask a question. Welcome aboard, Craig. We're glad to have you.
Thank you.
Was hoping you could outline some of your priorities, at least to start. I don't want to put you on the spot, just kind of some broad-brush philosophies and whether you think there'll be subtle changes that we'd expect, whether it's SG&A, whether it's capital allocation. How should we think about your outlook on things like that?
I'd start with the comment that our strategic framework is really built from the customer back in terms of what they expect from The Home Depot. It's clearly been a strength that we have pivoted off of. It will evolve as the interconnected retail portion of our business evolves. I wouldn't look for a dramatic departure from any of the strategies that we've had in place. We think that framework works.
Okay, thank you. Well said. If I could just follow up to ask maybe Carol or anybody about the performance of the categories that you're kind of shrinking in store to accommodate sales online, I think maybe, or to accommodate sales, let's say. Cabinets have shrunk to accommodate appliances, carpet shrunk to accommodate hardwood. Can you talk about the performance of the categories that have actually been shrunk to accommodate other categories, whether you're seeing growth there or whether you're seeing a contraction there in line with the footage?
Overall, this is Ted. Overall, we're seeing growth. Certainly, some of those categories are shifting sales to online, overall, we're happy with the performance of the portfolio.
Okay, thanks. Best of luck, guys.
Thank you.
We'll take our next question from Chris Horvers at JPMorgan.
Thanks. Good morning, everybody.
Good morning.
Good morning.
Couple questions. Can you talk about whether you've seen or you saw any impact from the credit breach? What did you hear from stores? What was the Pros saying in September, October? September trends did decelerate and then re-accelerate pretty nicely in October. Was curious if you thought any of that was the breach and what you're hearing in the field around it.
Chris, really, it's very difficult for us to be able to determine if there was any impact. We were very pleased with the fact that we had positive transaction growth in each month during the quarter. I think that represents strength for our customers' confidence in The Home Depot, and we appreciate that.
Don't mean this to sound defensive, but if you look at a three-year stack, September was our hardest comparison.
Understood. Right. Okay. No real like, I guess your stores aren't communicating anything up to you that's conclusive in either direction.
No.
Okay. As a follow-up, Carol, curious if you could talk about your thoughts on November. Of course, I know you said nothing has come to your attention, but you've heard a lot of retailers speak to a pickup or at least as good as sort of the trend from 3Q. Was curious how you would describe your view of November.
Happy to talk about our perspective on November and the fourth quarter. As you know, it's always tricky to forecast where sales will go in the fourth quarter because we're heading into winter. I don't know about where you are, Chris, but it's mighty cold here in Atlanta. That being said, we're two weeks into November, and I must say that I'm impressed with the sales that we reported to date. If there's a bias in our forecast, I would say the bias is to the upside.
Thanks very much. We like the word impressed. Good luck in the fourth quarter. Thanks, guys.
Thank you.
We'll go next to Brian Nagel at Oppenheimer.
Hi, good morning.
Good morning.
First off, Craig, congratulations on your new position.
Thank you.
Just a quick question on expense growth. I guess maybe this is more for Carol, and I know there's a lot of moving pieces here with the breach-related expenses. If I look at expense growth in the third quarter, was there some other upward pressure in there versus the prior quarters? If that be the case, how should we be thinking about that as we go into the fourth quarter and then even into next year?
Sure. Brian, as we said at the end of the second quarter, we've had great expense performance this year. At the end of the second quarter, we said that we expected our expenses to grow at 23% of our sales growth. We also said that there would be quarter-over-quarter differences in that expense growth factor because of year-over-year comparisons. We always anticipated that expenses in the third quarter would be higher than our guidance for the year, and that turned out to be true. If I look at our expense performance pre-breach, we were right in line, actually a little bit better than we thought. Of course, the breach has distorted this a bit. Now as we look at our expense growth factor guidance for the year, we're taking it up from what was 23% to now 27%.
It's just the year-over-year comparisons that make some of the quarters look different. For the year, we're very pleased with where we are.
Got it. As we think about the breach, were there other expenses related to the breach and how The Home Depot had dealt with the breach that were not captured in those one-time call-outs?
Well, I will tell you, there's a handful of people who are working around the clock, their costs have not been captured.
Their payroll.
Their payroll is their payroll. I would think if we actually put an hourly rate on that, maybe we should have captured a little bit more cost. Really, we tried to be as comprehensive as we could. It includes legal fees, it includes the cost of credit monitoring, it includes the cost of IT. We tried to be as inclusive as we could.
All right. Well, thank you, and nice quarter.
Thank you.
Thank you.
We'll go next to Gary Balter at Credit Suisse.
Thank you. Welcome, Craig, to your new position.
Thank you.
Just a question on the fulfillment centers. You mentioned, I think, Craig, you mentioned, or maybe Ted mentioned, that you opened the second fulfillment center at this point. Could you walk us through what you're seeing from the stores around the two fulfillment centers you have to date in terms of this, are you seeing a shift to more pro? Are you doing job lot quantity deliveries to job sites, et cetera? What's the impact of those fulfillment centers?
I'd start, Gary, with the fulfillment centers being set up, in large part, are focused on being able to have speed of parcel delivery to our customers. When we complete the full rollout of all three centers in 2015, we'll actually be able to hit about 90% of the U.S. population in 48 hours or less with parcel shipment. That's the main focus of those centers overall. We're still in the early days of both of the centers that are open, but pleased with what we're seeing in terms of the order fulfillment, and operations of those buildings.
Does that take some pressure off of the stores? Like, right now, how is that being sent to the customer?
Well, obviously, parcel shipment goes direct to the consumer from those facilities. Our customers, we also ship bulk product, as well. Our customers are choosing to engage with our stores. Almost 40% of our orders through homedepot.com in the quarter actually culminated in one of our orange box stores.
Okay. A follow-up on the pro. Could you update us on, if you track this data or if you share this data, but, last year, you talked about the average pros doing $6,000, and a big effort was to try to increase that number to become more relevant to the pro as a first call rather than a second or third call.
The pro customer, we have seen growth in the average in the pro over the past roughly 12 months. That average has moved up to approximately $6,600, from the previous total, it is an area that we continue to focus on.
Thank you very much.
We will go next to Simeon Gutman at Morgan Stanley.
Thanks. Thanks for taking my question. Two higher level ones. First, online growth, it's been solid for a pretty good amount of time, and it does not seem to be cannibalizing store traffic or sales, which is pretty rare in retail these days. Do you have a sense of what your market share of just the online home improvement industry is? Any update whether it's margin neutral, the online business, or better, and how you look at it?
We really don't have a good way to try to get at a full market share for the online space. That's one we really don't have a good handle on. We look at the business in total in a portfolio approach, as it relates to it being commerce, again, customer 40% or so picking up in store. We really look at it as a portfolio approach in terms of overall profitability of the business, and that's really how we look at it.
Maybe another way to look at it is just the census data, because we do run it as one business. If you look at our market share from the census data, we increased market share by 23 basis points, now at 27.07%.
Okay, my follow-up is regarding merchandising and some of the scientific assorting. Craig, we used to hear from you when you were the head merchant about some of the enhancements that were being made, and then the ones still to come. I guess when I hear localized assorting and some of the things that are happening, I would've thought some of those were tackled already. I guess, granted that that merchandising will probably still evolve, can you just give us, or Ted now, I guess, a high level of what the merchandising initiatives on the table, what are some of the most intriguing opportunities from here?
Sure. I would say that we've made good progress on developing the tools. The tools can always be enhanced, but foundationally they're developed, and they've been rolled out to the merchant community. As you know, we review about a third of the business each year. While we've had these tools in place for a couple of years now, we still haven't reviewed the entire store utilizing, leveraging the new tools. I would say that certainly the second time, and the third time that a business is reviewed with a tool, we're going to get better and better. When you think about localization, we start with our clustering tool, where we're using our online sales data as well as our store sales data to identify localized demand. We assort the store using our new assortment planning tools to that local demand.
A newer set of tools that we haven't talked that much about and where I do see promise in the future is in space. Once you have your demand and your assortment, how do you best get the appropriate micro space facings for rate of sale? We have tools for that that we're starting to use. In macro space, when we think about businesses that are shifting online or more so than others, areas that we're trying to grow, to bring excitement into the store. We'll be looking at a macro perspective in the store, utilizing tools of how best to find space for those categories.
Would you say it's early days with this, or is it middle? I don't want to put a baseball analogy to it, but just try to contextualize it.
I would say early. I would say mid on the development of tools, early on our usage of them.
Great. Thank you.
We'll take our next question from Seth Basham at Wedbush Securities.
Good morning.
Good morning.
Can you give us an update on your buy online, deliver from store initiatives? Where are you piloting it? How are the pilots going? When do you expect to roll it out?
Mark Holifield's here. I'll let Mark address.
Hey, Seth. Mark Holifield here. Yeah, buy online, deliver from store, we're in pilot at this point in two stores. The pilot is going well. It's a very small pilot at this point. Most important thing is that we get the customer service experience absolutely right. Once we are confident in that, we'll begin the rollout.
Okay, the rollout is planned for later this year, or is it a 2015 event?
I'd look for that in 2015.
Great. As a follow-up, on the services business, you guys are seeing very strong growth in installed services. Can you give us a sense as to what's driving that? Is it something in the back end, or is it just strong demand across the categories?
I think we've seen, obviously, as home value appreciation has happened, customers are certainly more willing to invest in their homes. I think you also see services growing as a result of you have an aging population. I know for myself, where I used to love to do things, I actually have The Home Depot services do things now that I would have done previously. I think it's a combination of that macro trend and the improvement in the home values. We have worked hard internally to enhance the customer experience and make sure that we are monitoring how we actually provide the experience to the customer. Marc, I don't know if you have any additional comments, but
This is Marc Powers. I just took over services, I can't claim all the progress, but have been closely involved historically with this in driving the customer experience. We do follow-up surveys with our customers to make sure we are improving the customer experience consistently, and we see we're making strong progress in that. We also interact strongly, as you might imagine, with our service providers and give them feedback on their performance and hold them accountable to the standard of customer experience that we expect out of our brand.
Got it. Thank you very much.
Thank you.
Our next question comes from Peter Benedict at Robert W. Baird.
Hey, guys. Thanks for taking the question. First one for Mark Holifield. Mark, it sounds like transportation was a little bit favorable. At least Carol had called that out. Just wanted you to maybe take a minute here, talk about some of the puts and takes in transportation right now. You've got the port issue, got some driver shortage issues. You've also got fuel, obviously, it's helping. Maybe just give us a sense of where you stand and how you see transportation as you look out over the balance of the year.
Thanks, Peter. It's absolutely a very challenging environment with lots of disruption out there. We were very pleased to see supply chain contribution to gross margin given that. The disruptions at the ports and general transportation delays have been pretty difficult the last few weeks. Thanks to a lot of hard work, our team has been able to land our Black Friday freight. We don't see any disruption to our supply chain for Black Friday. We are concerned over the long haul here, the West Coast ports, the rail situation, the driver shortage all look to create uncertainty in terms of transportation rates going forward. That's definitely a concern. Pretty hard to predict, though, given the fluidity of the situation that's out there.
I will say, Peter, we have put all of that into our guidance, this uncertainty. We factored some of that in. The other thing that I would say is of the seven basis points of margin expansion that we received in supply chain, only two was fuel related. Mark and his team are driving great productivity within the four walls of our distribution centers. Last thing I would say is on inventory. We were pleased with our inventory performance turning flat year-over-year, given the disruption in the supply chain. Actually, we've added one day of lead time. That actually, if you back out that additional day, our inventory turns would have been up year-over-year. We're pleased, given this challenging environment.
Good. That's great color. Thank you. Carol, I guess just the follow-up would be for you. Help us understand how you're thinking about the dividend payout ratio longer term. Are there any developments out there that would compel you to maybe raise that a bit at some point, or do you think 50% is where you'd like to stay?
We love paying out 50% of our earnings in a dividend, which means at the end of the year, we'll look back at what we earned and cut it in half, and that'll be the new dividend. Looks like we'll have a nice increase coming at us in February. As we think about this longer term, Craig and I will be talking about what that optimal payout should be. You can imagine in an environment of a company that's a maturing company, strong cash flow, giving excess cash back to the shareholders in the most efficient way is something that we should try to do. A higher dividend payout may be on the agenda, but we'll be talking about that with Craig.
We'll talk about that, and we'll talk about it with our board.
Yeah
Make those calls.
Okay, terrific. Thanks so much, guys. I appreciate it.
Thank you. Our next question comes from Kate McShane at Citi.
Thank you for taking my question. Good morning.
Morning.
My question was on the pro sales that you mentioned that were very robust by comping two times the company average during the quarter. Can you remind us how much the large pro grew during Q2, and if what you saw in Q3 was a sequential acceleration? How do you think about your market share for this large pro customer?
Kate, I think our comments were that the large spend pro, which makes up about 13% of our pros, grew two times the company average. Our pro customer in total grew about the company average. If you look at the large spend pro, that double-digit growth would have been the same in Q2.
That's right.
Okay. Thank you. My second question was just on interconnected retail, it's great to hear all of the new initiatives for that. I just wondered from a cost standpoint, will we be seeing accelerated costs for this initiative going forward?
Well, we run our business as a portfolio, as we've talked to you all along. Yes, there are costs. We're standing up new distribution facilities. We have costs associated with that, but we drive productivity and other facilities to cover those costs. It's all in the portfolio that we run to drive towards that 13% operating margin target that we set forth last year to reach that by the end of 2015.
Okay. Thank you.
Yeah. Mm-hmm.
We'll go next to Dan Binder at Jefferies.
Hi. Good morning.
Morning.
My question was related to the expenses in Q3. You mentioned that 99% of the stores qualified for success share planning.
I was curious if bonus accruals were in line or higher than expected in Q3, given the results thus far.
Right. Dan, we accrue bonuses based on a number of financial metrics. For the stores and success sharing, it's based on sales. As we reaffirmed this morning, our sales growth guidance is the same now as it was at the beginning of the year, which means the accrual isn't any higher than it would've been. Actually, less than last year, because last year, we were blowing away our sales plan. Bonus expense actually was a bit of our help in the third quarter.
My second question was related to credit. You've cited that as an issue for some of the pros in the past. Have you seen any improvement on that front?
As we look at our private label credit card, we see that within our pro segment, 71% of all pros who are asking for a new account are being approved. The average line that's being approved is about $6,900. We feel pretty good about the availability of credit for our pros. Now, not all pros ask for a private label card. We understand that providing credit to this important customer is really important, and we're looking at other ways in which we might get credit to them besides just our private label card. Is there some other sort of financing vehicle that we should be providing? We're exploring that.
Okay. Thank you.
Our next question comes from Michael Lasser at UBS.
Hi. Good morning. Thanks a lot for taking my question. As you've seen really strong results in categories such as appliances and flooring, which are areas that you've focused intently on in the last couple of years, what have you learned that you can now extend to other areas that maybe you haven't previously shared about your ability to take market share in new and up-and-coming ways?
Well, one of the key things, it may be obvious as much as we talk about interconnected retail, you would never have thought appliances would be as strong as it is as an online category. Even flooring. One of the key products that we're moving into our new DF facilities is hard surface flooring. The customer is quite happy to order complete flooring jobs in direct delivery to the home. I think that's a key learning, that the interconnected, the online experience can both be educational and inspirational, but also be used for commerce on big-ticket items like flooring and appliances.
I think the other comment I'd have is, really important for us to be working closely with our manufacturers to continue to drive the innovation in the product that delivers value to our customers. I think there are opportunities around the store to continue to focus on that. We will. We've put pretty strong emphasis in a few key categories that we put a stake in the ground. LED technology, lithium technology. We've seen great results in those businesses as a result of that focus with our key suppliers, and I think that's something we have to continue to do.
Okay. That's helpful. My follow-up question is, we see the results of some of your competitors who are struggling, whether it's those that are specialized within the flooring category or those that are trafficking in some of the categories that you also traffic in, yet are predominantly attached to malls. It's probably easy to assume that some of your strong performance of mid-single-digit comps, along with gross margin expansion, is due to the results of those competitors. What are you expecting moving forward? Do you expect that there'll be any change in the competitive environment? Your strong performance is sure to attract some attention and may influence some competitive response. Are you preparing for that?
I think historically, candidly, in the retail business, the competitive environment changes on an ongoing basis. That's actually what's really fun about the retail business. We fully anticipate ongoing that across multiple different segments that we compete against, that the market will react and move, and likewise, so will we. We remain focused on continuing to take share.
Okay. Thank you very much and best of luck to everyone in the new position.
Thank you.
We'll go next to Scot Ciccarelli at RBC Capital Markets.
Hi, guys.
Sure.
Earlier in the call, you talked about some of the success that you've had with your pro customer, and Carol, I know you just mentioned credit extension in another question, but what other key initiatives are you guys implementing to drive share gains with the pro customer, number 1? Number 2, are you doing anything that's materially different today than you were maybe a year or two ago to drive those share gains?
I'll let Mark.
Hey, this is Marc Powers. We're focused strongly inside the store on building those relationships with our pros and making sure that we are taking some of the friction, if you will, out of their transactions in dealing with us with The Home Depot. You might have already heard about our program with Pro Xtra. Last quarter, I think we called out that we had 1.7 million members of pros who signed up for Pro Xtra, to receive special buys of the week. Also, different services that we're providing to them, such as being able to return product in our stores without any receipts, which takes a lot of friction out of their day in and day out transactions with us. Now we're up to 2.5 million, actually, pros who are participating in Pro Xtra.
We're very pleased inside the store with our focus with that pro customer segment. Also outside the store, we're seeing some strong traction in building relationships with our outside sales force as well.
How big is that sales force at this point, Marc?
Right now, I believe we're approximately 150 associates in our exterior sales force.
Those salespeople who are really attached to our high-spend pros, pretty doggone important. The average spend for our high-spend pros, on average, is close to $30,000 a year.
Excellent. All right. Thanks, guys.
Thank you.
We'll go next to Dennis McGill at Zelman & Associates.
Hi, good morning, and thank you. First question just has to do with Canada. It looks like you've posted pretty strong numbers there now for the last four or six quarters. Just curious whether you think that momentum is sustainable and how much of that would you attribute to market as opposed to market share?
I think, first of all, Bill and his team in Canada have done an outstanding job of driving the business in Canada. We look to see that continue, that kind of performance. We think there's a lot of opportunity to continue to bring great value to our Canadian customers and drive for share gains in the market.
Craig, do you feel like right now it's share gain? Any sense on how much of it's share versus market?
That's pretty tough to tell. I would say I don't know that the Canadian market ever got quite as difficult as the U.S. market, but certainly they had their bumps along the way as well. It's pretty tough to tell the difference on those.
We feel so good about Canada, though, that we're opening a store in Canada this year. We haven't opened a store in Canada for a number of years.
Carol, can you just review appliances performance in the quarter, however you want to phrase it relative to comps or just absolute?
Sure. Appliances grew at the company average for the quarter. For the year, appliances have contributed 20 basis points of our comp growth.
Okay. Thank you.
Yep.
Our next question comes from Matthew Fassler, Goldman Sachs.
Thanks a lot and good morning.
Good morning.
Excuse me. My question is really focused on inventory. Carol, inventory was up a bit more than in the past. You talked about adding, I guess, a day to backstock or having some planned increase. Can you just contextualize that for us? Talk to us about how long you'd expect that to persist.
Well, as Mark described, the challenges within the supply chain disruption are real. They're real for all retailers. This additional day contributed probably $120 million-$140 million of inventory. We also had some air movement inventory that we are carrying over. It's a small amount, less than $100 million. Because of the cool summer, we didn't sell through all of our air movement. We're carrying that over and we'll sell it next year. There are no markdown risks. As a result of these two factors, we aren't going to get as much productivity out of inventory this year as we had planned. We feel great about our inventory position, and as we look towards 2015, we're planning for inventory improvement. Mark, do you want to give any more color to that?
I think you said it pretty well, Carol. I think the most important thing about our inventory is that customer service begins with us being in stock, and we are always going to pursue that first, and make sure that our inventory productivity comes right after that.
Thank you so much, guys.
We'll go next to Mike Baker at Jefferies.
Hi. Thanks. I wanted to ask two questions. One, on the appliances, you just said in line with company average. Where are you on adding the jumbo resets and those types of things? Do you have more of those stores than you did a year ago, and where is that going? My second unrelated question, if I could, is really just thinking about next year. I understand from a macro standpoint that you guys think a lot of the top line is driven by home price appreciation rather than existing home sales. I agree with that. Existing home sales have been down 11 months in a row. How long can you continue to comp at 4.5 plus with declining existing home sales? Thanks.
I'll answer the last question. Ted, maybe you answer the first question.
Yeah.
If we think about our 2014 growth, it starts with GDP. The forecast for this year is 2.2%. We add to that about 200 basis points of growth coming out of home price appreciation and housing turnover. That gets us to 4.4. There's about another four-tenths of growth coming from areas like appliances. That gets us to the 4.6% comp that we guided for the year. As we look to 2015, we would look at GDP. GDP, economists tend to want to be at 3%. That's what it's looking like right now in the 3% area. We would continue to believe we'll get help from housing because it's not turnover while down is still up as a percent of units. 4% of units are turning. We'll get help from turnover. We'll get help from home price appreciation.
Not as robust as it was last year. It will continue to recover because it has not fully recovered. Lastly, we are very encouraged by the recent news that's coming out of the FHFA as well as a number of regulators who are really trying to address mortgage financing reform. While this is yet to turn into additional liquidity in the mortgage underwriting market, the news has been very good. We believe that could be a real bolster to our industry. If you look at homes that were sold or financed through cash, that dropped to 24% in September, which means more people need loans. They need mortgages. Mortgage financing reform, really important for our industry. Very encouraged with the recent news. Now, Ted, on jumbo.
Yes. On appliances, yes, we comped in line with the company average, third-party reporting would suggest we took some decent share in the quarter, we're pleased with that performance. We have over 1,000 showrooms now that we've expanded the footprint. We started this over two years ago. About a quarter of those 1,000 are the bigger showroom that we call jumbo, that's where we essentially doubled the space of the appliance showroom. In the balance, 750 odd are a big foot where we only go up about 30%. We've done about 1,000. We'll continue to look at the performance, we won't certainly do every last store with an expanded showroom, we probably have a few more that we can take a look at.
Okay. Thanks for the call. Very helpful. Appreciate it.
We'll go next to Greg Melich at Evercore ISI.
Hi. Thanks. I had a couple follow-ups. If you look at the inventory, Carol, that additional day, does that change the $800 million working capital benefit that you were expecting for this year? I wanted to follow up on the pro side.
Yes. We're not expecting $800 million of working capital benefit. I'd knock that off by $couple hundred million.
Okay, great. On the pro side, you mentioned some of the things you're doing in credit. Could you just remind us how many of your pros have signed up for your traditional private label card and how the pilot's going with the extended credit program?
That's a very great question, for competitive reasons, I'm not going to share that number with you.
All right. Can I do it a different way or try?
You can try.
If you look at your large pros and look at the ones that are spending that $6,600 right now, what share of wallet do you think you have with your typical pro?
That's a pretty difficult number. We talk about it a lot, but it's a really difficult number to quantify. We know there's upside opportunity. Let's put it that way.
I tried, Greg. Thanks. Good luck. Good luck, everyone.
We've shared this data in the past. If we had a 5% increase in the average ticket for pros or three more transactions, that's a $1.2 billion opportunity. Maybe that helps size it.
It does. Just on the pilot, if it does work, when would you expect to roll that further on the credit offering?
We'll talk to you about that when we're ready to talk to you about it.
All right. Thanks. Have a great holiday.
Thank you.
Thanks a lot. You, too.
We'll move next to Eric Bosshard at Cleveland Research Company.
Good morning.
Good morning.
Two things. First of all, in terms of the categories below plan, or excuse me, not below plan, but below average, any theme that you draw from those or any insights as you look at the ones that are below average that you would conclude from that?
I'll give you one data point perhaps, if I could, then Ted can give you more color. If you look at the selling departments that Ted talked about, nine of 16 were with 100 basis points of the average comp. It was very narrowly bound.
Yeah, I wouldn't say there's a particular theme. Probably the category that is suffering from the mild weather is roofing. That would be category we're happy with the business, but there have been no storms. There hasn't been a lot of inclement weather, the demand in that is lower. In live goods, again, the drought in the West Coast and the very mild summer in the North, you didn't get a lot of burnout of lawns and reseeding, et cetera. Those really are the only themes.
Secondly, you commented, or someone made a comment about appliances and promotions during the month of November around Black Friday or Cyber Week. From a promotional standpoint, where are you in that category or across the store? I can see what your gross margin expectations are, but anything different or material going on in terms of your promotional intensity?
No, the promotions are very similar to last year. We ran what we're calling a pre-Black Friday appliance event for largely the month of November, and we're like for like to last year.
Perfect. Thank you.
Audra, we have time for one more question.
We will take that question from Laura Champine at Canaccord.
Good morning. Carol, when you last spoke to the guidance level at $4.54 for the year, were you already contemplating a $0.05 benefit from selling HD Supply shares? If not, why not raise the guidance by $0.05 other than maybe some wiggle room?
Yes, Laura, that was contemplated in the guidance that we've given. Lowe's' issued a lot of press releases recently, but we've had the $4.54 in for a while, and that included the gain on sale of HD Supply.
Got it. Thank you.
You're welcome.
Well, thank you, everyone, for joining us today, and we look forward to talking with you at the end of the fourth quarter in February.
That does conclude today's conference. Again, thank you for your participation.