Lowe's: Building Value

08/01/2013 8:00 am EST

Focus: STOCKS

Genia Turanova

Editor, Leeb Income Performance

We think the recovery trends in housing are strong, and that the recent sharp increases in mortgage rates won't derail it. For exposure to this area, we are buying one of the leading home improvement retailers, suggests Genia Turanova of Leeb Income Performance.

While this is not the only company that stands to benefit from the ongoing rebound in both the prices and sales of new and existing homes, we chose Lowe's Companies (LOW), due to its still-attractive valuation.

The general case for home-improvement stores includes the rising number of home buyers and sellers who tend to engage in renovation and home improvement projects, in addition to purchasers of new homes, who also tend to add home décor, window treatments, and furnishings.

Lowe's in particular has been undergoing a turnaround, which means that its stock is still cheaper than that of its larger rival, Home Depot.

The shares now sell at about at 16 times expected next year earnings and 3.4 times book value, versus 18 times future earnings and 6.8 times book value for Home Depot.

But we also like Lowe's promise. With fiscal 2012 sales of $50.5 billion, it is the second-largest home improvement retailer in the world. The company operates more than 1,750 stores, including more than 30 in Canada, and a few in Mexico.

The company's stated goal, to create a more differentiated brand experience, is at the front and center of a transformation that started in 2011. Meanwhile, it has focused on improving its core business, which should lead to growing sales and improved profitability.

By 2015, the company wants to see one of its metrics return on invested capital, at about 17% via sales growth of 4.9% per year, improved profitability (as measured by EBIT reaching 9.7% of sales), annual earnings growth of 18% and more.

Since going public in 1961, Lowe's has paid a dividend every quarter. Most recently, the dividend was increased by 12.5%, to 18 cents per quarter. Current yield: 1.7%.

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