Good day, everyone, and welcome to today's Home Depot Third Quarter 20 12 Earnings Conference Call. Today's conference is being recorded. Please note that any prompts entered prior to this time may not have registered in our system. Beginning today's discussion is Ms. Diane Gayhoff, Vice President, Investor Relations.
Please go ahead, ma'am.
Thank you, Vicki, and good morning to everyone. Welcome to The Home Depot Third Quarter Earnings Conference Call. Joining us on our call today are Frank Blake, Chairman and CEO of The Home Depot Craig Meniere, Executive Vice President, Merchandising and Carole Tamay, 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.
If we are unable to get to your question during the call, please call our Investor Relations department at 770-384-2387. Now before I turn the call over to Frank, 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. Now let me turn the call over to Frank Blake.
Thank you, Diane, and good morning, everyone. Sales for the 3rd quarter were $18,100,000,000 up 4.6 percent from last year. Comp sales were positive 4.2 percent and our diluted earnings per share after adjusting for the closure of our stores in China were $0.74 Our stores in the United States had a positive comp of 4.3%. We faced a difficult year over year comparison in the quarter, particularly in our Northern division because of the overlap from Hurricane Irene last year. Despite As all 3 of our U.
S. Divisions had positive comps. The Southern division was our strongest division for the quarter. Of note, all of our major markets in Florida showed quarter over quarter comp improvement. And in the Western division, our major markets in California had growth rates above the company average.
Both of these are signs we believe of a continuing healing in the housing market. In all, 33 of our top 40 markets had positive comps and our markets with negative comps were primarily in the Northeast. On the international front, our Mexican business had another quarter of positive comps for the 36th quarter in a row for 9 years of quarter over quarter positive comps. In Canada, we had positive comps for the 4th consecutive quarter as Bill Lenny and his team continued to improve our business there. And during we announced the closure of our big box stores in China.
After several years of effort, we concluded that we could not make our big box retail model profitable there. As you will hear from Craig, in the U. S, we continue to see strength in the core of our store and the company had Solid growth in both transactions and ticket in the quarter, making this our 6th consecutive quarter with transaction and ticket growth. We also continue to see recovery in our Pro business. Our Pro sales grew during the quarter, though at a slower rate than our consumer business, due in part to comparisons to the strong sales in roofing from last year.
On a regional basis, it's encouraging to see our pro sales growth matching consumer growth in key areas like Northern California and Phoenix. During the quarter, we also rolled out several enhancements to our PRO website, including a bulk pricing program online that mirrors our in store bulk pricing program. And Marvin and his team continue to focus on improving the in store experience for our pros. We look at customer surveys for both our pro and consumer segments and our net promoter score for pros is now consistently over 70% as is our consumer score. Our installed services business had another quarter of positive growth with strength across the country and in all key programs.
This is another critical area where we have implemented improvements to our website, in this case with a functionality called My Install that's specifically designed to improve the transparency and communication in install projects and to simplify the customer experience. We will be adding capabilities my installed throughout 2013. In the quarter, we completed the purchase of U. S. Home Systems, a kitchen and bath refacing business.
This company's business was already effectively 100 percent Home Depot based, but the acquisition will allow us to create more the U. S. Home systems in home selling platform just as we've done with our roofing, siding and windows businesses. We continue to work on improving our supply chain and in the quarter we completed the mechanization of all of our rapid deployment centers, which will further improve the cost effectiveness of this platform. Disasters such as Hurricane Sandy create enormous demands on our supply chain and our team responded.
To date, we have shipped approximately 4,000 truckloads of product to assist the communities impacted by As Carol will discuss in more detail, we are updating our earnings per share and sales guidance for the year based on our outperformance in the Q3. We anticipate that over several quarters' time, Hurricane Sandy will have an impact to our sales comparable to that of Hurricane Irene, but the exact timing of that is uncertain. As a more general comment on our market, We believe the U. S. Is still working through the issues associated with the housing crisis.
Credit availability remains a major But we can start to see the housing market as an assist to our growth rather than an anchor. That is consistent with numbers which now show housing as a positive contributor to GDP. Private fixed residential investment as a percent of GDP has improved for 4th consecutive quarter to 2.5%, though it is still well below previous historical lows, not to mention its 60 year average. Based on this quarter's results, 95% of our stores would qualify for Success Sharing, our profit sharing program for our hourly associates. This is a reflection of the hard work and dedication of our associates.
And I'd like to give a special thanks to all of our associates who have worked to help the communities impacted by Hurricane Sandy and Hurricane Isaac. They have worked tirelessly under difficult circumstances, often in the face of disruption in their own lives caused by the storms. Helping in the time of need is a core part of the Home Depot culture and we are very proud of their And with that, let me turn the call over to Craig.
Thanks, Frank, and good morning, everyone. We are pleased with our performance in
the Q3 as
sales exceeded our expectations. The departments that outperformed the trickle, outdoor garden, indoor garden, hardware and flooring. Plumbing, tools and millwork performed positively, while comp Sales in building materials were negative due to a tough year over year comparison in roofing. In the last week of Q3, we experienced around $70,000,000 lift in sales including batteries, flashlights, generators and extension cords as customers in the North prepared for the threat of Hurricane Sandy. Looking ahead, it's difficult for us to forecast the magnitude of ongoing cleanup sales in the affected areas.
In the beginning of the Q3, I told you that we'd be setting our holiday assortment in half the time previously required by leveraging our supply chain and merchandising execution teams and we did just that. The objective was to extend our fall cleanup selling season and allow time for an additional fall event, which exceeded internal expectations. These efforts along with great fall weather drove double digit positive comps in walk behind mowers, riding mowers, pressure washers, exterior stain and chemicals. Portable outdoor power, exterior paint, lawn accessories, soils and mulches, fertilizers, Grills and planters all performed above the company average comp. Patio Furniture and Live Goods had a positive performance in the quarter as well.
In the 3rd quarter, we began setting some of our appliance showrooms to include Electrolux, Whirlpool and Frigidaire brands. We will complete the rollout of our 120 store pilot during the Q4. These appliances are available online through homedefa.com and can be ordered in all of our stores. And we are pleased with the results we have seen so far. For the balance of the business, we continue to see momentum in maintenance and repair and simple decor.
On the maintenance and repair side, departments such as hardware and electrical as well as categories such as cleaning and plumbing repair continued to perform positively. Bath lighting, flooring and interior paint performed well within simple decor. As part of our interconnected retail strategy, we are inspiring and educating our customers through our style guide available on the web and for the iPad. The style guide is rated 4.5 stars out of 5 and is consistently a top 100 app in the App Store. And this week, we will launch the holiday version of the style guide.
Total transactions grew by 1 point increased 2.9% for the quarter. Our average ticket increase was impacted somewhat by commodity price inflation from lumber. The total impact to the ticket growth from commodity inflation in lumber was approximately 70 basis points. Transactions for tickets under $50 representing approximately 20 percent of our U. S.
Sales were flat for the Q3. Transactions for tickets over $900 also representing approximately 20% of our U. S. Sales were up 4.3% in the 3rd quarter. The drivers behind the increase in the big ticket purchases were strength in appliances, flooring and in stock kitchens.
Now let me turn our attention to the Q4. Innovation remains a key part of our leadership strategy. And one of the products we're excited about is our 2nd generation Ryobi lithium batteries with fade free power. Our lithium plus batteries offer better performance for existing tools, fuel gauges and extreme weather performance. We bring to market the looks customers want with the features they need.
In the Q4, we will be exclusively launching a new wood plank look porcelain tile from Marazzi. This new product will give customers the ease, maintenance and durability of a porcelain tile with the wood finish they desire. Additionally, we introduced the Moen Hayfield motion sensing faucet exclusive to the Home Depot. This faucet delivers hands free activation even when the handle is in the off position with 2 sensors that provide flexibility and convenience in mini kitchen tasks. We are also the exclusive home improvement launch partner for Kidde's worry free smoke alarms.
These alarms utilize lithium technology eliminating battery changes for 10 years, saving our customers on average $40 in battery replacement while enhancing safety. And finally, we have an outstanding offering of products in our gift centers for the holiday season and our best lineup yet in holiday core. The offerings in our gift centers will feature an extensive assortment of hardware and holiday items for gift giving For Black Friday, we have outstanding special buys with extreme values for our traditional DIYers and professional customers. And with that, I'd like to the call over to Carol.
Thank you, Craig, and hello, everyone. Before I begin my remarks, I want to remind you that in the Q3, we closed 7 Big Box stores in China and as a result of the store closings recorded an after tax charge of $165,000,000 or $0.11 per diluted share. The charge included the impairment of goodwill and other assets, lease terminations, severance and other charges associated with the store closings. In our press release, we provided a supplementary schedule that sets forth the impact of these charges. And for the purpose of today's call, I'm going to talk about our financial performance on an adjusted basis, adjusting out the financial impact of the China store closings.
So with that, Sales for the Q3 were $18,100,000,000 a 4.6% increase from last year. Comps or same store sales were positive 4.2% for the quarter with positive comps of 2.6% in August, 5.1% in September and 4.8% in October. Comps
for U.
S. Stores were positive 4.3% for the quarter, with positive comps of 3% in August, 5.2% in September and 4.6% in October. On an adjusted basis, our total company gross margin was 34.6 percent for the quarter, an increase of 22 basis points from last year. Our U. S.
Business drove 13 basis points of gross margin expansion in the quarter, while our international business, principally Canada, contributed 9 basis points of gross margin expansion. In the U. S, our gross margin expansion is explained by the following factors. First, our shrink reduction efforts are gaining traction and of margin expansion due to lower shrink. 2nd, we experienced 7 basis points of margin expansion due to lower costs in our supply chain And third, we experienced 4 basis points of gross margin contraction due to a change in the price and mix of products sold.
On an adjusted basis, operating expenses as a percent of sales decreased by 93 basis points to 24 point percent. Our expense leverage reflects our strong sales performance and some favorable year over year comparisons. Year over year, we had $21,000,000 of natural disaster expense that didn't repeat this year. Additionally, Our credit card expense in the Q3 of fiscal 2012 was $37,000,000 lower than last year, due primarily to benefits arising from our private label credit card program. Interest and other expense for the Q3 was $150,000,000 a slight decrease from last year.
On an adjusted basis, our income tax provision rate was 36.4% in the 3rd quarter. Let me note that on a reported basis, our tax rate was 40.2% in the 3rd quarter because we didn't realize any tax benefit from the charges associated with the China store closings. On an adjusted basis, diluted earnings per share for the Q3 were $0.74 an increase of 23.3 percent from last year. On a reported basis, diluted earnings per share were $0.63 reflecting the $0.11 per diluted share impact of the charges associated with our China store closings. A few other items of note.
During the Q3, we opened 2 new stores in Mexico and closed 7 stores in China for an ending store count of 2,250. At the end of the Q3, selling square footage was $235,000,000 and total sales per square foot were $307 up 4.6% from last year. At the end of the quarter, inventory was roughly $11,000,000,000 up $243,000,000 from a year ago and inventory turns were 4.6x, up from 4.3x last year. We ended the quarter with $41,700,000,000 in assets, including 2.6 $1,000,000,000 in cash. Moving to our share repurchase program.
In the Q3, we received 5,600,000 shares related to the true up of an accelerated share repurchase or ASR program we initiated in the 2nd quarter. Additionally, in the Q3, we repurchased $700,000,000 or $10,200,000 of our outstanding shares. This included 900,000 shares repurchased in the open market and 9,300,000 shares repurchased through an ASR program. For the shares repurchased under the ASR program, this is an initial calculation. The final number of shares repurchased will be determined upon completion of the ASR program in the Q4.
Further, we plan to repurchase $700,000,000 outstanding shares in the 4th quarter, bringing our total share repurchases to $4,000,000,000 for the year. Computed on the average of beginning and ending long term debt and equity for the trailing 4 quarters, return on invested capital was 16.1%, 100 basis points higher than the Q3 of fiscal 2011. As we head into the Q4, we are faced with unknowns surrounding the magnitude of the damage caused by Hurricane Sandy that is home improvement related and the speed which impacted areas will recover. In addition, we are heading into the winter months where weather could hamper the rebuilding efforts. Our hearts go out to those who are impacted by this horrific storm, and we will do our best to be there when our customers need us.
But forecasting the impact of damage related sales prospectively would simply be a guess. So our guidance for the year is going to reflect our performance the 1st 9 months of fiscal 2012, coupled with our plan for the Q4. And given our Q3 performance, we are lifting our guidance. We now expect fiscal 2012 sales will increase by approximately 5.2% on a 53 week basis. From an earnings per share perspective, remember that we guide off of GAAP.
So our guidance includes the $0.11 per diluted share impact related to the China store closings in the 3rd quarter. We're projecting fiscal 20 12 diluted earnings per share to increase approximately 18% to $2.92 on a 53 week basis. So we thank you for your participation in today's call. And Vicki, we are now ready for questions.
Thank you. We'll take our first question from Colin McManahan with Bernstein.
Good morning. Thank you. First question is just on Sandy, and understand the difficulty in projecting anything at this point given the amount of damage and the speed with which recovery is done. But Craig, it sounded like Firstly, you said that you thought the overall benefit or overall impact would be similar to Irene. And I guess, wondering why it wouldn't be larger given a larger magnitude of damage.
And Carol, did you just imply that your guidance for Q4 does not include any impact from Sandy? And how do you reconcile those 2?
Right. Well, let's just start with the impact from Irene. Last year, we had $230,000,000 of sales from Irene in the 3rd quarter, dollars 130,000,000 of sales from Irene in the 4th quarter for a total of $360,000,000 of And of course, it's a rough estimate, but this is our best guess of the sales coming from the hurricane. So we would envision going forward, we would have at least $360,000,000 coming of Sandy. The property damage, as we understand it, related to Irene was about $16,000,000,000 The property damage for Sandy is about $20,000,000,000 So it would suggest possibly higher sales, but it's impossible for us to know right now.
As we look at our guidance for the Q4, you are correct. We are including no benefit from Sandy in our guidance because, again, determining what it will be prospectively is very difficult. I will say, however, that our sales for November are quite good. But interestingly enough, the strength is coming out of the west and the south and not so much out of the north because as you all know, our customers are still Very much in turmoil. You may have personally experienced some of this yourself.
So this is going to be a different type of recovery than what we've seen in the past. Would you agree, Craig?
Yes, I think it is. I think the other comment I'd make Colin is it's a different storm than Irene. This was much more impacted in terms of Water flow Irene with stronger wind impact. So there's a little different needs that exist in this storm versus Irene.
Okay. That's helpful. Then my follow-up is on expenses. If I look at the expenses last year and back out the Irene impact of $21,000,000 And then I back out the $37,000,000 of credit benefit this year. It looks like kind of trying to normalize that SG and A or operating expenses were up about 2.2% year over year.
Is that a kind of a normal growth rate you're thinking about now as you work through some of the benefits? And While we're on expenses, depreciation was up year on year for the first time since 3Q 'eight. Is that now have we reached the bottom in declining depreciation with more systems spending going
Well, let me answer the last part of that question first. Yes, because the investment in IT and we write our IT investments off over a shorter timeframe, typically no longer than 6 years, we anticipate that you will start to see year over year increases in depreciation. And that's an okay thing because the IT investments that we're making are giving us a positive ROI. From a normalized SG and A perspective, as we've told you back in June, we would expect long term that our expenses would grow around 48%, 40% of our sales growth. This year, it's going to be a little bit different than that.
On a 52 week basis, if you back out the impact of China, our expense growth will be basically flat. But on a normalized basis going forward, we would expect more in the 38%, 40% area.
Okay. Thank you very much.
Next we'll hear from Peter Benedict with Robert W. Baird.
Yes. Hey guys, thanks. Just diving into the categories a little bit more. Craig, maybe can you talk to us about the trends you're seeing in the window business? How's that been going in the last few quarters?
And what's your outlook there?
So we actually had positive comps overall in our millwork business. And our window business has come back from previous years, which were hit pretty hard during the downturn. So we've actually seen positive growth. Hopefully that answers your question.
Yes. No, that's helpful. And then maybe just between your larger PROs and your smaller PROs, you guys have spoken in recent calls about the larger Pro doing better. Any indication that smaller Pro is starting to see some of that as well?
The larger product is still doing better, Peter.
Okay, great. Thanks, guys.
Next, we'll hear from Dan Binder with Jefferies.
Hi, good morning. My question was regarding your comments about credit expense being lower year over year. I was wondering if you could elaborate a little bit more on that. And then secondly, on the inflation front, what you're expecting with building material inflation in the coming quarter in the Q4, I should say?
Sure. Well, as it relates to our credit expense, as I think you will recall, we've capped our cost of credit at 1.3%, But we do share in the profitability of the portfolio. And the portfolio this year is more profitable than it has been for a couple of reasons. 1, higher sales, that's a good thing. But also the net losses in the portfolio are down.
In fact, we're projecting that the loss rate will be below 6% by year end. Contrast that to 2010 where the loss rate was 14%. So as the portfolio becomes more profitable, we share in that profitability. On the inflation side?
Yes. As it relates to inflation, obviously, lumber prices are remaining at this stage of the game higher than previous year. We've seen some drop in copper as it relates to year over year in the past few weeks. So our anticipation at this point is that we'd probably see similar type of movement and lumber. Don't see anything really taking that down short term.
So about another 70 basis point benefit you think to Q4 More comps from that sort of thing?
No. The penetrations change quarter to quarter. So
Okay. Thanks.
Next we'll hear from Michael Lasser with UBS.
Good morning. Thanks a lot
for taking my
question. Coming back to the topic of Hurricane Sandy, can you just give us the number of stores that you think will be impacted by this event versus Irene to give us some indication of the order of magnitude?
So Michael, I would say there'll be a fewer stores that the breadth of Irene, I mean, it impacted more stores than any storm in our history is certainly what when we've taken when we Looked at that. So it declined some with Sandy. But as Carol and Craig were discussing, the nature of the damage also was more severe. So there'll be fewer stores impacted, but the impacts might be more significant with those localities. And will
it be a significant amount will the delta between the number of stores be significant?
I mean, I'd say it depends what you say is significant. But if you say a third fewer stores just kind of ballpark, but take that only directionally. Yes, so significantly fewer number of stores. It's less, but again, the magnitude of the damage faced in those areas is higher.
Let me just say, we are going some fun planning these store sales trying to determine which stores get the impact from the hurricanes, but we'll do our best in that regard.
Okay. That's very helpful. And then a question on the strength you're seeing in the southern markets and the western markets. Is the consumer behaving Any differently with respect to the good the selection of good, better and best products. So as the cycle manifests, might you have to we're a little differently to meet customers' changing taste?
And could that impact your margin?
Thanks a lot. So, Michael, really not seeing that much geographically that's different. So, it's not as though the California consumer is coming back, but is More on the opening price point or mid price point that really we're not seeing that much of a difference
So you're really just seeing more folks participate in the market. Yes.
Correct. Okay.
Thank you very much.
Next we'll hear from Budd Bugatch with Raymond James.
Good morning, everyone. This is actually TJ Mokonbo filling in for Budd. Congratulations on the quarter. Thanks for taking my questions. Frank, in your commentary and in the release comments related to housing, I mean, I think you noted we're still in the work through phase, but it certainly sounds like you're incrementally a little bit more positive.
Can you talk about Maybe what you're seeing in the progression of the recovery and how that affects your some of your long term targets maybe that you talked about at The Analyst Day in June.
Yes. First I'd say the comments are very much in line with what we said in June that we see housing having to go through a workout period. And we'd say we're in that workout period now. That's a Positive though because we're working through issues and now housing is a little bit of an assist rather than a negative. If It was interesting just when we look at the number of times used the word consecutive.
As we've gone through just this earnings call, we've had a number of quarters of consecutive performance that starts to give you some confidence that the market is healing. There are still lots of issues out there. There are lot of credit issues in particular that we're concerned about and obviously broader policy issues. But If you look at our performance this year and take a 2 year quarter over quarter, our business continues to progress.
We might add a little more color perhaps on the housing, Frank, if that would be helpful. We've got a high level and I'll call imperfect models, but we have looked at drivers of housing that could impact our business, focusing principally on turnover. If you look at how housing turnover is performing this year on an annualized basis, about 4,500,000 units, we know from a study back in 2,008 that the average spend is about $3,500 If you then calculate our market share against that and look at our anticipated comps versus GDP growth, we would estimate that housing turnover is impacting our comps by about 50 basis points this year. So as Frank pointed out, we're on the path recovery.
Okay. Thank you. That's very helpful, Frank and Carol. I appreciate that. And then moving along to the outlook is or what the planning is from a resource allocation and capital allocation perspective on what the potential impacts of Let's say what a fiscal cliff might look like specifically maybe your dividend versus repurchase decisions or something like that?
Yes. No, I think we'll wait until we let the policymakers resolve those issues before giving you hypothetical responses
Fair enough. Thanks for taking my questions. Best of luck on the rest
of the year.
Thanks.
Next we'll hear from Laura Champine with Canaccord.
Good morning, guys. Along those lines, what Carol is your estimate for the impact of the changes in healthcare regulation in 2013?
Laura, we're still working It's highly complicated for all of Corporate America, but with a company like the Home Depot with over 300,000 So we've got to study this very carefully and we're waiting for the rules to get formalized. So once we know, we will tell you.
Okay. And then on the appliance store pilot, how are you judging success from a quantitative basis? And if you are successful in whatever the metrics are you're looking to achieve, how large Could that rollout be across your chain? So as we do with every pilot and every reset In our stores, we obviously go through a financial assessment of what we're looking to achieve and we lay out targets for that. It's very early at this stage in the pilot.
We haven't completed our 120 store rollout yet. We still have that to finish in the Q4. And we do like the early results that we see. Based on How the rollout continues and how the sales perform, we would then determine what the next steps might be and how many stores that would actually to roll to.
But are you looking for incremental sales per square foot? Or what are the metrics that you're looking to see improve?
Yes. Certainly that would be one of the metrics that we look at is exactly that. How do we actually continue to drive incremental Sales, yes.
The really interesting thing about our approach here is that it's not just a store story, It's also a dotcom story. So we really like the penetration that the new brands are selling on our website. Craig, you might want to talk about that?
Yes. All of our brands are obviously available on homedepot.com merch to shop around the clock when they choose to shop. And likewise, we leverage homedepot.com and our delivery system to make those brands available on all stores today.
Thank you. Next we'll hear from Eric Lessard with Cleveland Research.
Good morning. Wondering if you could talk a little bit You highlighted the big ticket progress in the quarter. I wonder if you could talk a little bit about what you're doing promotionally Within big ticket and across the business? And then also if you could link that a little bit to how you think the gross margin progression works from here?
Well, I'll address the Big ticket aspects. When you look at our growth in big ticket, it's a combination of a lot of things, Hard work by our associates in the stores. We've worked hard on the assortments over the past few years. Kitchens, for example, will continue to be a positive growth story as they have been for the past couple of years now. We feel like we're taking share in those areas.
We've improved our flooring business overall. As a matter of fact, Eric, what I would say is that, if you looked at our decor businesses in total, they actually outgrew the company average. So I think customers are beginning to be willing to step in And due to the core projects like flooring, like kitchens, we've had a nice quarter in appliances as well.
So I
think that it's a combination of a number of things including an assortment, our effort by our associates in our stores to drive this business.
On the gross margin front, we would expect the 4th quarter gross margin to be flattish relative to last year, principally because of what we're anniversarying. You'll recall in the Q4 of 2,001, we had 53 basis of margin expansion coming off of our supply chain. We're not expecting that in the Q4 of this year.
And then if I could just follow-up. Craig, in terms of the promotions in Decor you talked about gaining share. Would you say the year over Promotions across those categories are similar to a year ago, more promotional, less promotional. How would you characterize that? Pretty comparable to where we were a year ago.
Great. Very good. Thank you.
Next we'll hear from Gary Vaucher with Credit Suisse.
Thank you. First, the comment doesn't count as a question. Could you get more generators in Your store in Vauxhall, New Jersey.
We're working hard on more generators.
Okay. Could you Frank, you sounded more positive overall on signals of a housing recovery. And you walked us through the numbers and we heard like Consumer spending is just as strong as the commercial spending. What are the signals? Could you go a little deeper into what you're seeing that builds that confidence up?
Yes, sure. I mean, Part of it is, Gary, if you think back to 2011, where we had some strong quarters, 2nd, 3rd, 4th quarters very strong. Each one of those quarters had its unique weather story.
So it
was difficult to kind of pull the strands out of what's more weather related, what's the housing recovery looked like. It felt like that was sort of the start of housing starting to heal, but a little cautious about it. We've had this Q3 is an interesting quarter because it was a very tough compare for us given the sales related to Irene as Carol detailed. So the positive comp in this quarter, which again not really Sandy related. Craig called out $70,000,000 at the very end of the quarter.
So the positive results in the quarter combined with, as I said, every quarter this year on a 2 year stack basis doing better. And again, going to Craig's comments, strengthen the core of the business, you go, we're starting to see I mean, this isn't we're not lighting rockets over this and we don't want to get out over our but we're starting to see the recovery of the housing market. And then I mean there are lots of data points that we look at this On obviously, geographically, the harder hit areas that were really the epicenter of the housing crisis appear to be on the mend and it's been consecutive. It's been consistent. That's why we think it's healing.
Thank you.
Next we'll hear from Scot Ciccarelli with RBC Capital Markets.
Hey, guys. Just curious, Given where we are in the housing cycle and what appears to be a market still concentrated, if I'm listening to you right, Frank, in the basic repair and remodel portions of home improvement market. Are you surprised at all that transactions under $50 aren't a bit stronger than flat?
So Craig, you want to add just
Yes. No. So I'll talk to that a little bit. So when we look at Transactions under $50 there's an awful lot of those transactions that fall into a few categories. Very pleased with how we did in outside garden as you can imagine.
That's a big transaction driver in that business. Then when you look at kind of what has happened in some of the categories, the average unit retail growth, So for example, LED versus incandescent bulbs has had an impact on that business. When you look at the Expansion of what's happened in the retail side of the business in paint. You see transactions that maybe have fallen from what we're under $20,000,000 to now over $20,000,000 And then there's some actions that we've taken as well in terms of how we're driving Some off shelf special buys, packs, value packs that have led to part of that shift in transactions under $20 Got it. Understood.
And then you had also Craig mentioned something about 4th quarter aggressive holiday deals, etcetera. Is that something you saw in the 3rd quarter? Is that just an expectation that pricing will become more aggressive in the 4th quarter? Or is Just the normal holiday aggression and promotions? Thanks.
Yes. As it relates to the Q4, I mean, we're excited about plans we've put in place to aggressively go after the market. We have our merchants have worked hard to really create some outstanding values for our customers. We've got awesome values in our center, we got a great holiday decor lineup. We do have outstanding values that we'll bring to the market around Black Friday, which is obviously a very aggressive time in retail.
So we're excited about the offerings that we have forthcoming in in the Q4.
And don't forget, in the month of December last year, we had a positive comp in the United States of 7.1%. So we better have good holiday. Comp that.
Understood. All right. Thanks, guys.
Next, we'll hear from Mike Baker with Deutsche Bank.
Hi, thanks. So first, I wanted to follow-up on the healthcare question, understanding that it's very complicated and you're not sure what's going to happen. But maybe Just help you could remind us how your healthcare works now, who is covered in terms of your part time and full time employees. And you stopped telling us your percent of part time employees in your 10 ks, but has that changed very much since the last time you reported that which I think was 55% under 59% in the 2010 10 ks?
Yes. First off on the on what we provide and now This is speaking U. S. Obviously. We provide health insurance to our full time associates.
For our part time associates, there is a company In effect, we make available to them what might be called a mini med program. In terms of the ratio of full time and part time, I'm not sure when was the last I don't think there's been a major difference the last time we disclosed. No.
Okay. So but your in store employees, full time employees who aren't necessarily store managers, they are currently what percent of those are currently covered?
Well, so we make it available to all of our associates. And Mike, one of the questions for us is and and understanding it and understanding the cost implications is for those associates who do not now take advantage of the health care that we provide, why don't they take advantage of it? Are they covered by their spouse? Are they not taking the health care because for whatever reason they don't choose to spend their money in that direction? And then as you shift into the health care legislation, what will the impact of the health care legislation be on those associates.
All of those in addition to the regulatory issues that referenced that still need to be resolved. There's sort of a base understanding that we need to develop on what behavioral changes, this will create within our full time associate ranks and that has a significant impact on how we estimate the cost. So as Carol said, as soon as we feel comfortable and confident of What the impacts will be, we'll be sharing that with everyone.
Fair enough. One more real quick one. The guidance the full year guidance That excludes the $0.11 impact from China. Does it include the $0.03 benefit roughly that you had in the Q1?
It does.
Okay. Thank you.
You're welcome.
Next we'll hear from Matthew Fassler with Goldman Sachs.
Thanks a lot and good morning. My first question, you've addressed sort of the magnitude of the impact you expect from San Diego on the top line. Can you talk about its impact Up and down the P and L, for example, you spoke about some storm related expenses from last year that you cycled and were not repeated in Q3. Might we see those in Q4? How you think about storm related sales perhaps impacting the gross margin rate as they drive sales over the remainder of over the next several quarters as well?
Of course. Because Sandy was so coastal in its nature and we don't have stores built along the coast, we were very fortunate and we had little to no damage in our stores. So do not expect any storm related expense in the Q4. We do have a Homer fund, which is that are sold?
Yes. Short term, we're still selling things that have lower gross margins. So we're still selling generators That type of product, lumber to get basic repair done right now. And it really depends on how the sales progress from here as to what the old mix of sale will be, which will determine where the margin
And again, rather than trying to guide to that prospectively, we'd rather explain to you what we experienced.
Got it. And then the second question I have relates To buyback. So you've had one of the most successful and effective capital allocation programs in retail, Virtually every share you've ever bought back given the stock today is in the money. So that's worked out extremely well. You've shared with us in the past your intrinsic value calculation that you used to think about the buyback.
What is your thought process in the buyback? And you said $700,000,000 for the Q4 in the short run and the long With the stock having done so very nicely and the kind of approach you would expect to see any change in that from where we've been in the past year or 2?
Well, first, Matt, thank you for your acknowledgment of our program. We have bought back about $37,000,000,000 worth of our shares at an average price of about $37 So the program has worked. And we do have a point of view on the value of our stock, and we're not there. We also look at it, what's the point We should retire debt versus buyback shares. So we've got a mathematical calculation that supports our activity, and we still very committed to our share repurchase program where we are based on that point of view and the fact that sitting on cash on the balance sheet is not very value creating for our shareholders.
And just to that point, you'll note that at the end of the quarter, we had $2,600,000,000 of cash. So you may say R2 a little heavy. About $1,000,000,000 of that cash is outside the United States. We could get our hands on it. We could repatriate it, but then we pay a nice tax on that, so we elect not to.
So when I think about the cash that we have available for use, it's about $1,600,000,000 and we need about $1,000,000,000 ish to operate. So that's what's giving support to the $700,000,000 that we will buy in the 4th quarter. And one last comment on As you know, we introduced new financial targets back in June, our twelvetwenty four target, that's a 12% operating margin and a 24% return on invested capital by 2015. Inherent in that 24% return on invested capital is that we will use excess cash to buy back shares.
Got it. Thanks.
Next we'll hear from Dennis McGill with Zelman and Associates.
Hi, good morning. Just a couple of quick ones. Carol, just to make sure the numbers you
Put out there for
Irene and Sandy, net net for the quarter storm demand would be a net negative, correct, year over year?
Yes, sir.
Okay. And then as you think about the housing recovery and some of the things you've talked about from bottom up. Can you maybe put a little bit more color behind either at a market level or a state level sort of which would be at the top of that list either the 33 markets across the states where you're seeing the strongest year over year growth today?
So if you just look at the Q3, Dennis, We saw strength as I referenced in Florida. We saw strength In California that was above the company average, which as I said was to us a sign of healing in the market. And elsewhere, we were more as Carol has commented before or on these calls, the range of difference among our top 40 markets is actually compressed over time. We were sort of past the period where we'd have major markets that were significantly double digit comping in comparison double digit negative comping in comparison to other markets.
So if you look at Florida and California as an example, would the growth rates for those states put them in the top 5 across your network?
So I was looking at it from the market perspective. And if you looked at The top performing markets in Florida would be at the top for the company.
In California, the growth rates are between 50 and 100 and 80 basis points better than the company average, just to give you a point of perspective.
Next, we'll hear from David Gover with Morgan Stanley.
Good morning. Thanks for taking the question. Just wanted To dig back a little bit into kind of what we're seeing in terms of the recovery. And Frank, I know you talked a little bit about how you'd expect the pro to lead in a recovery and some of the characteristics you expect to see there. Just curious why you think that's Maybe more of a coincident indicator at this point.
And we're starting to see ticket pickup, but that pro was still more or less in line with the overall company average. What do you think is different than you would have expected and maybe than what you've seen in prior recoveries?
So first off, David, I don't know that we can speak to prior recoveries because we really didn't have the data to analyze the differences. And I'd say The basis for our expectation, if you remember, we go back to 2,008, 2009 and particularly post Lehman, Both were going down, but our pro business was going down quite a bit more. So we had a theory, which to date, it looks so far so good that as the market recovered, the pro would start to pick up and would be part a key part of that recovery for us. Where I'd say we are now, where the numbers say we are now and as we call that in June, sort the workout phase, the pro is recovering and but it's not yet at a point where it's surpassing the recovery of the consumer. And again, as we referenced, the larger pro is coming back a little faster.
And just to put that into perspective, the larger Pro makes up 13% of our Pro sales. So the majority of our Pro sales are the smaller
Got you. That's helpful. And just a little bit more on the geographic mix. I mean, I think what we've seen over the last couple of years is a greater level of growth in urban and maybe close suburban areas. Are you seeing any signs that the geographic mix within markets is changing?
I mean, obviously, you addressed the Florida and California issues. But given that we started to see signs that household formation is picking up, are
you seeing the mix within markets change And shifting more to our more urbanly focused stores? No.
No. I'm sorry. I mean, the other way around, maybe more towards urban and exurban areas than where it's been in the last couple of years?
I'll be honest, David, no. We haven't seen that.
Okay.
Next we'll hear from Chris Horvers with JPMorgan.
Thanks and good morning. So I wanted to follow-up on the capital allocation question. I think that your view has recently been you didn't need the cash and rates aren't going up anytime soon. So there was no rush to add debt to fund the buyback. However, the other side of this is the stock price.
So while it's below where you think it's worth, the market maybe is ahead of where you thought it would take it and now you have an incremental positive view on housing. November is off to what sounds like to a strong start. You have this potential bridge from Sandy over the next two balance sheet and buy the stock below where you think it's worth?
Well, all good questions. Here's our point of view on incremental debt. If you look at our adjusted debt to EBITDA ratio, we're standing at 1.7x against a maximum target of 2x, which would suggest by the end of the year about $3,000,000,000 And we'd like to get through that because as we talked about in the past, raising debt in an environment of high beta doesn't make a lot of And there's no higher beta, in my opinion, than the fiscal cliff. Now we'll know soon where that ends up. We've got a 1,000,000,000 and $250,000,000 coming due in December of next year.
We're going to refinance that. It gives an opportunity to add some incremental debt once we get through the fiscal cliff, If we still desire. And when we make that decision, we'll let you know.
Fair enough. And then just as a follow-up on the shrink side, which is perhaps the only other question that hasn't been asked yet. It sounds like you said you're early on in a process and really the Q1 that you've talked about it. So what are you doing there that you haven't done before? And can Do you expect this gross margin tailwind to sustain itself?
Thank you.
Chris, this is Marvin Ellison. Shrink really for us has in the past been a really good news story. This early part of this year, we had on the performance and it's really a refocus, a refocus on operational process, refocus on merchandising, packaging standards, I just want to refocus on execution. We have a new leader in the role. We have a really strong commitment and involvement from all of our associates.
And we're pleased with the performance in the second half of the year and we're optimistic that the performance will continue for the balance of the year and we'll take that 2013.
And you may recall, when we set forth our twelve-twenty four targets, 12% operating margin, we showed a walk on the gross margin line and
there was an element of the walk that we
called operational excellence. That's of the walk that we called operational excellence, that's code for better strength performance. So to Marvin's point, between now and we continue to expect better performance there.
And I think Chris it's probably worth noting that we've gone through quite a few process changes over the past 3 years. And with process changes really creates uncertainty and a different view of transparency on how you impact shrink. So we have to make adjustments in the stores to really alter our processes to meet the needs and the understanding of our new process. So we feel real good about where we're headed. And again, we hope to keep the performance going into next year.
Thank you.
Vicki, we have time for one more question.
Okay. With that being said, we will take Alan Ryskin with Barclays.
Okay. Thank you very much. Just one last question Carol on Sandy. I mean realizing that obviously it is difficult to forecast revenues coming from the storm. If you believe that in the quarter during the storm and following the storm, the benefits from Sandy will be equal to that of Irene that would imply about $290,000,000 realized in Q4, which would equate to about 180 basis point benefit on the comp line.
Is that something that would be reasonable for us to expect?
You need
to build the models the way
you build your We've given the guidance that we've given based on our plan because we just don't know how to forecast prospectively.
So Alan, one thing just to keep in mind that why I were a little cautious on this and the comparisons to Irene may not be direct is you get very different weather circumstances. So last year following Irene, if you'll remember, 4th quarter was one of the warmest winners ever in the Northern division. And that helped in the Irene recovery. Don't know, obviously, sitting here today what's the weather going to be like in New Jersey and New York as we head into the end of November December and that will have an impact on the recovery efforts. So that's I mean, We've spent a lot of time thinking, gee, what's the right way to approach this issue for the Q4 and frankly the Q1 of next year.
And that's why as Carol said, what we think is Better is to tell you, look, here's roughly what we think Irene did. We think this is give or take comparable to the impact of Irene, but the timing of it for us is just very uncertain.
And I'll just pile on. We went back and studied every hurricane and the average time to recovery is T plus 6 months, With the exception of Katrina, this storm in many ways is like Katrina. New Orleans is still rebuilding. So you can I hope you can understand why we are cautious in our outlook regarding the storm related sales?
Sure. No. Okay. No, I appreciate that, Carol. One last question if I may.
Carrie you said that in the Q4 you're expecting gross margins to be flat despite the anniversarying of more than 50 basis point benefit less from the supply chain rolling off. In terms of the incremental gain to the gross margin, do you see that and obviously you've spoken about shrink at length. Do you see any changes in the mix Benefiting your gross margins in Q4?
Well, as Craig pointed out, we are a seasonal business. And if you look at lumber, we would expect a lower penetration of lumber in the 4th quarter, which would help our gross margin as an example.
Okay. Thank you very much.
Yes. Thank you, Bill.
Well, thank you, everyone, for joining us today, and we look forward to joining to have you join us when we report our full year quarterly and Q4 earnings at the end of February.
And that does conclude today's teleconference. Thank you all for joining.