2 Reasons to Buy Home Depot Stock, and 1 Reason to Sell

One cannot discuss the fastest-growing retailers of the late 20th and early 21st centuries without mentioning Home Depot (HD 1.84%).  After its founding in 1978 and subsequent IPO in 1981, the home improvement retailer earned its investors massive gains as it expanded to all 50 states, Canada, and Mexico.

But amid slowing store growth over the past few years, it has evolved into a value stock. Such a transition might lead some investors to question whether it will remain a profitable investment, and a look at the reasons to buy or sell Home Depot stock could help answer that question.

Reason to buy: A steady business at a reasonable price

Home Depot isn’t going anywhere. Amid a sluggish economy, homeowners are less likely to spend large amounts on improvements and remodeling projects, but Home Depot is a recession-resistant business in many respects. Homes suffer wear and tear. Given the enduring value of real estate, homeowners will spend in any economy to preserve their homes’ structural integrity and to keep their systems and appliances in working order.

Moreover, Home Depot actually benefits in one respect from economic slowdowns. With a slowing real estate market, few buyers have an appetite for bidding wars for houses they’ve never seen. That leaves homeowners more likely to spend on improvements, and they often turn to Home Depot for needed supplies.

Still, investors tend not to see those benefits. Consequently, Home Depot stock is down by about 20% over the past year. And amid a slight recovery, its P/E ratio of 19 is near historical lows, even cheaper than archrival Lowe’s. Today, Lowe’s sells for about 20 times earnings but has typically traded at a lower valuation.

Reason to buy: Dividends

Still, the area where Home Depot typically shines is dividends. Its current annual dividend of $7.60 per share yields about 2.4%, well above the S&P 500 average of 1.8%.

Investors should also note the payout increases and the size of those dividend hikes. The payout rose 15% from 2021 levels and has more than doubled since 2017. And in the first nine months of the year, its $7.8 billion in free cash flow covered the $5.9 billion in dividend cost, indicating it can afford its payout.

Home Depot is under no obligation to increase its dividend. Nonetheless, since it resumed payout increases after the financial crisis, it has increased its dividend every February, and given that history, the raises will probably continue.

Moreover, historical growth made it an unstoppable dividend stock by any measure. Its first dividend payment, issued in 1987, was a split-adjusted $0.000439 per share. Over 35 years, the payout has grown by an astounding 4,328 times over.

Reason to sell: An unclear growth path

For all of the success of its dividend, Home Depot’s most significant concern involves how it will achieve long-term growth.

In the U.S. and Canada, its markets are saturated. As of the end of fiscal Q3, which ended Oct. 30, Home Depot operated 2,319 stores. That means the company has added only 67 stores since 2011.

Number of Home Depot Stores, by country, 2011-2021.

Data source: Home Depot. Image source: Statista.

What makes that concerning is the lack of prospects for significant expansion. In past decades, efforts to expand into places like China and South America all ended in failure, making it unclear where or how the company could add stores.

Home Depot still managed to generate nearly $122 billion in revenue in the first nine months of 2022. That amounted to 5% growth year over year. But with sales growth set to slow next year, that lack of a clear path forward brings significant uncertainty.

Making sense of Home Depot

Home Depot is likely to remain a winner for conservative investors. A massive footprint and the continuing need to maintain and upgrade homes should keep its revenue steady. And its high payout and dividend growth history should also help attract stockholders looking for income.

Indeed, the question of how it will drive growth in the future is concerning, and it will probably not expand fast enough for growth investors. Still, Home Depot should keep one’s wealth safe, and given its low P/E ratio, now is probably an opportune time to add shares.

Will Healy has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Home Depot. The Motley Fool recommends Lowe’s Companies. The Motley Fool has a disclosure policy.