The Home Depot, Inc. (HD) Q2 2019 Earnings Report, Transcript and Summary

Greetings and welcome to The Home Depot Second Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Isabel Janci. Please go ahead.

Thank you, and good morning, everyone. Joining us on our call today are Craig Menear, Chairman, CEO and President; Ted Decker, Executive Vice President of Merchandising; and Carol Tomé, Chief Financial Officer and Executive Vice President, Corporate Services. Following our prepared remarks, the call will be open for questions. Questions will be limited to analysts and investors. And as a reminder, please limit yourself to one question with one follow-up. 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, the factors identified in the release and in our filings with the Securities and Exchange Commission. Today's presentations will also include certain non-GAAP measures. Reconciliation of these measures is provided on our website. Now, let me turn the call over to Craig.

Thank you, Isabel, and good morning, everyone. Sales for the second quarter were $30.8 billion, up 1.2% from last year. Comp sales were up 3% from last year with U.S. comps of positive 3.1%. Diluted earnings per share were $3.17 in the second quarter. We're pleased with these results. We overcame a tough May and continued lumber price deflation to deliver accelerating comp performance throughout the quarter. Looking at our results geographically, all of our U.S. divisions posted positive comps. 17 of 19 U.S. regions also posted positive comps with the exceptions being our Gulf and Florida regions which delivered high storm-related comps last year. Internationally, Mexico posted high single digit positive comp and Canada posted low single digit positive comp, both in local currency. We saw broad-based growth across the stores, both comp ticket and transactions grew. With the exception of lumber, all of our merchandising departments posted positive comps. We saw a healthy balance of growth among both Pro and DIY categories with Pro sales outpacing our DIY business in the U.S. As Ted will detail, we continue to invest in the portfolio of service offerings to deepen our level of engagement with the growth. We know that the more dimensional our relationship is with these customers, the more they spend. From a strategic perspective, I’m encouraged by the progress we are making to deliver the One Home Depot experience, a seamless, interconnected shopping experience for our customers. Our in-store investments are focused on ease of navigation and improved speed to checkout. We have implemented our way-finding sign and store refresh package in over 1,400 of our U.S. stores. And customer service scores in the category of neat and clean, have increased 140 basis points. Our frontend store investments now at over 400 stores are designed to get customers in and out of stores faster, and they are doing just that. Customer service scores in checkout time satisfaction have increased over 450 basis points versus last year. While our stores remain the hub of our business, we know that many of our in-store sales are influenced by online visits and approximately 50% of all online U.S. orders were picked up in our stores during the quarter. Our customers continue to blend the channels of engagement, and we are investing to remove the friction as they do so. We continue to roll out automated pickup lockers for online orders with over 1,100 stores completed and have seen a 250 basis-point increase in checkout scores for stores with lockers versus those without. Our investment in the digital price labels for our appliance department has enabled us to incorporate ratings and reviews from the digital world into the store shopping experience, enhancing the overall customer experience in the category. As we invest to address the unique demands of an interconnected customer experience in stores, we also continue to invest in our website and local applications to further enhance the digital customer experience. Our focus on improving search capabilities, site functionality, category presentation and product content has yielded higher traffic, better conversion and continued sales growth. Second quarter online sales grew 20% from the second quarter of 2018. We also continue to leverage our digital platforms to drive incremental growth from new categories as we lean into adjacencies like HD Home pool and workwear. The traction we're seeing from investments across our digital and physical assets are encouraging, not only from a customer experience standpoint, but they are also driving productivity growth of the business. Our frontend investments are optimizing labor and merchandising space productivity. Digital appliance labels enable associates to be more productive with their time. Instead of spending multiple hours manually changing price signs, our associates can reallocate their time to engage with customers in a high touch category. The virtuous cycle of productivity at The Home Depot has been a hallmark of our operational excellence over the years, and continues as we move forward. Our focus on enhancing the customer experience and productivity extends to the supply chain investments as well. During the quarter, we completed the retrofit of our Hagerstown facility into a partial direct fulfillment center, which expands our one-day delivery capabilities or stock parcel goods from approximately 30% to approximately 50% of the U.S. population. We also drove productivity and cost out through our patronization [ph] efforts in our upstream supply chain. We are on track with our plans to create the fastest, most efficient delivery network in home improvement and are pleased with the progress that we have made thus far. Turning to our outlook for the remainder of the year. The building blocks of our financial model remain in place. As Carol will detail, we are lowering our sales guidance through the year, mostly to reflect the impact of lumber price deflation, as well as some conservatism to account for the recently announced tariffs. We now expect fiscal 2019 comp sales growth of approximately 4% and reaffirm our expectation for diluted earnings per share of $10.03. I want to close by thanking our associates for their hard work, which resulted in the highest quarterly sales in our Company history. And with that, let me turn the call over Ted.

Thanks, Craig, and good morning, everyone. While we had a slow start to the second quarter, we were pleased to see demand accelerate throughout the quarter as we helped our customers tackle a variety of interior and exterior projects. Looking at our departments, comps in appliances tools, décor and storage, indoor garden, building materials, paint, outdoor garden, hardware and plumbing were above the Company average. All other departments with the exception of lumber were positive but below the Company average. Lumber reported a high-single-digit negative comp due to commodity price inflation. Second quarter comp average ticket increased 2% and comp transactions increased 1%. Lumber prices remained depressed during the second quarter, and as a result, lumber negatively impacted our average ticket growth by approximately 110 basis points. Last quarter, we talked about a 4x8 sheet of OSB selling for about $8, more than 50% below the price a year ago. During the second quarter, the price for that same sheet of OSB fell further to an average of about $7 60. During the second quarter, big ticket comp transactions for those over $1,000, which represent approximately 20% of U.S. sales, were up 3.7%, reflecting in part the impact of hurricane-related sales last year and lumber price deflation. Excluding hurricane-related markets only, big ticket transaction comps were nearly 5%. During the quarter, we saw strong performance in big ticket categories, like vinyl plank flooring, and patio. Last quarter, we talked to you about opportunities in our flooring businesses. While vinyl plank has been and continues to be one of the strongest performing product categories across the store, we identified a need to refine our assortment within our other flooring categories. For example, in special order carpet, we’ve recently taken several actions. We upgraded all of our showrooms and reset the category to reflect the latest styles and trends, while offering the simpler shopping experience, showcasing a good, better, best line structure. Given the associate engagement that’s extremely important for this category, we also enhanced our in-store training efforts to drive the better customer shopping experience. While early days, we’re pleased with the results. During the second quarter, we saw growth in both our Pro and DIY customers with Pro sales outpacing DIY sales in the U.S. We continue to focus on our suite of Pro initiatives, because we know that the more we engage with them, the more they spend with us. We’ve equipped our store associates with a number of tools and better understanding of their top Pro customers. Our My View system allows our Pro sales associates to access customer data information, so they can proactively work with our Pro customers and determine how we can better serve them. We continue to simplify the Pro shopping experience and expand engagement through services like tool rental, delivery and our new B2B online experience. While May was another wet month, we saw project demand in outdoor categories rebound as weather improved. Categories like concrete, exterior paint stains, live goods and mulch at comps above the Company average. In addition, we continue to see customers respond to our industry-leading brands and the innovation they are bringing to market. In our outdoor power equipment business, we’re seeing strong customer demand and continued trade up to cordless tools like blowers, trimmers, and even lawnmowers. Exclusive cordless product for brands like Ryobi, Milwaukee, Dewalt, EGO provide our customers with superior functionality and runtime to keep their yards looking great. Switching gears, as you heard from Craig, we are happy with the progress we are making with our investments to deliver best-in-class interconnected shopping experience. Looking at our likelihood to shop again metric, 87% of our customers give us the best-in-class score of 5. Our strategic investments include accelerated merchandise and resets focused on upgrading showrooms, improving visual merchandising and refining assortments to drive a better in-store shopping experience. For example, we are rolling out a new color solution center in our paint department, which simplifies the color selection process for our customers, while emphasizing our price, color, and satisfaction guarantee. And our new Project Color app, an updated online experience, allows our customers to seamlessly explore, be inspired, and shop color online whenever or wherever they want. Another example is in pipe and fittings, we are resetting all of our bays, reconfiguring them to better showcase the assortment and freeing up space at new product categories for our customers. Now, let’s turn our attentions to back half of the year. As the number one retailer of ladders, we’re pleased to announce an expansion of our partnership with Werner, the number one brand for Pros. Multi-position ladders are the fastest growing segment of ladder category, and we are now the exclusive big box retailer of Werner multi-position ladders. We are also happy to announce an exciting new partnership with Louisville Ladder and their exclusive big box retailer, starting in the fourth quarter. Combining Warner with our exclusive Louisville Ladder and Gorilla brands, we’re the leading destination for top Pro brands in the ladder category. Our merchants have worked hard to put together events and special buys for our customers in the third quarter. We are excited about our customers’ continued appetite for home improvement projects, and in just weeks, we will host our Annual Labor Day event, followed by our Halloween harvest event. With that, I’d like to turn the call over to Carol. Carol Tomé: Thank you, Ted, and good morning, everyone. As you’ll recall,, fiscal 2018 had a 53rd week, which shifted our fiscal 2019 calendar. Our comp sales are reported on a like-for-like basis, but total sales growth is reported on a fiscal year basis. In the second quarter, total sales were $30.8 billion, a 1.2% increase from last year, reflecting a shift in our fiscal calendar as well as the impact of deferred sales. Our total Company comps were positive 3% for the quarter with positive comps of 0.2% in May, 4.1% in June and 4.6% in July. Comps in the U.S. were positive 3.1% for the quarter with positive comps of 0.6% in May, 4.1% in June and 4.7% in July. Versus last year, a stronger U.S. dollar and negatively impacted comp sales growth were approximately $29 million or 0.1%. As you just heard from Ted, during the second quarter, lumber prices remained depressed. Versus last year, this lumber price deflation negatively impacted our comp sales growth by approximately $340 million or over 100 basis points. In the second quarter, our gross margin was 33.8%, a decrease of 19 basis points from last year. The year-over-year change in our gross margin reflects the following factors: First, higher strength than last year resulted in approximately 9 basis points of gross margin contraction; second, changes in the mix of products sold drove approximately 8 basis points of gross margin contraction; and finally, we had 2 basis points of gross margin contraction in our supply chain, driven primarily by startup cost associated with our One Home Depot supply chain initiative. In the second quarter, operating expense as a percent of sales at 18% was essentially flat compared to last year. Our operating expense performance reflects the impact of our strategic investment plan and good expense control during the quarter. Specifically, expenses related to our strategic investment plan of $242 million increased by approximately $28 million from last year and resulted in approximately 8 basis points of operating expense deleverage. This deleverage was offset by productivity in BAU or business-as-usual expenses, which drove 7 basis points of operating expense leverage. Our operating margin for the second quarter was 15.9%, a decrease of 21 basis points from last year. Interest and other expense for the second quarter grew by $37 million to $283 million, due primarily to higher long-term debt levels than one year ago. In the second quarter, our effective tax rate was 24.6% compared to 24.7% in the second quarter of fiscal 2018. For the year, we now expect our effective tax rate to be approximately 25%. Our diluted earnings per share for the second quarter were $3.17, an increase of 3.9% from last year. So, moving on to some additional highlights. During the quarter, we opened two new stores, one in the U.S. and one in Mexico for an ending store count of 2,291. Selling square footage at the end of the year was 238 million square feet. Total sales per square foot for the second quarter were $510, up 1.1% from last year. At the end of the quarter, inventory turns were 5.1 times, down from 5.4 times last year, reflecting in part a load-in of inventory in support of our strategic initiatives. For the year, we now expect our inventory turns to slow slightly from what we reported in fiscal 2018. Moving on to capital allocation. In the second quarter, we repurchased $1.25 billion or approximately 6.2 million shares of outstanding stock. We plan to repurchase approximately $2.5 billion of outstanding shares in the second half of the year, bringing fiscal 2019 share repurchases to $5 billion, in line with our guidance. Further, during the quarter, we took advantage of an attractive interest rate environment and raised $1.4 billion of long-term debt, of which $1 billion was used to repay senior notes that came due in June. Computed on the average of beginning and ending long-term debt and equity for the trailing 12 months, return on invested capital was approximately 43.7%, 580 basis points higher than the second quarter of fiscal 2018. Now, turning to our outlook for the remainder of the year. While global economic pessimism has increased due to geopolitics, currently, the U.S. consumer remains healthy. Consumer confidence is near record high levels and wages are up over 3% from last year. Housing metrics are in line with the assumptions we used to build our 2019 financial plan. Nonetheless, what we didn't expect when we built our plan was the significant lumber price deflation we’ve experienced. We are now more than halfway through the year and lumber prices are below the levels we saw in the first quarter of fiscal 2019. Additionally, the U.S. consumer is facing the impact of tariff. While trade discussions are fluid, consumer demand could be impacted. Today, we are updating our fiscal 2019 sales and earnings per share growth guidance to reflect these changes. Remember that we guide off GAAP. So, fiscal 2019 guidance will launch from our reported results for fiscal 2018, which includes sales and earnings associated with the 53-week. For fiscal 2019, we now expect comp sales as calculated on a 52-week basis to increase by approximately 4%. That's down 100 basis points from the 5% growth rate we planned at the beginning of the year, reflecting for the most part, lower lumber prices, as well as some potential impact to the U.S. consumer from recently announced tariff. With this, we now expect sales to increase by approximately 2.3%, reflecting the compare to 53 weeks last year. We are also reaffirming our earnings per share growth guidance for fiscal 2019. For earnings per share, we expect fiscal 2019 diluted earnings per share to grow approximately 3.1% to $10.03. We are able to hold our earnings per share guidance to what we initially planned as lumber is a lower margin category, and because we are projecting a lower tax rate than our original plan. We thank you for your participation in today's call. And Christine, we are now ready for questions.

Christine, before we open the call up for questions, I’d like to turn the call back over to Craig.

Thank you, Isabel. As I mentioned on our last earnings call, Carol Tomé will be retiring as our CFO at the end of this month, after 24 years with the Company. She has served as our Chief Financial Officer for the past 18 years. And in fact, today’s call is the 73rd consecutive quarter she has reported our financial results to the market. I’d like to thank Carol for her deep commitment to our associates, the investment community and our shareholders. Carol has set the standard for excellence and transparency during these calls, reflecting not only her in-depth knowledge of our business, our operating environment, the economic environment, but also her dedication to our values. So, Carol, let me say thank you for your leadership and for your partnership, and your 24-year career at Home Depot. You’ll definitely be missed. Christine? Carol Tomé: Thank you, Craig. And we’ll try to get to your questions without me crying? Thank you.

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Thank you. Our first question comes from the line of Michael Lasser with UBS. Please proceed with your question.

Good morning. Thanks a lot for taking my question. That’s a hard lead in to ask a question off of.

Sorry about that one.

All good. Carol, congratulations and best of luck. And you too Richard, good luck in following in those very large footsteps.

They certainly are.

So, my first question is, we have assumed that about three quarters of the reduction in your full-year comp guidance is due to the lumber price changes and the remainder, so about a quarter of a comp point is due to the macro. There’s obviously been a lot of concern on the macro recently, given the yield curve, inverting a large education institution that’s calling for a significant slowdown in remodeling activity and then, as you pointed out, the tariff uncertainty. So, do you think a quarter point reduction in your comp guidance sufficiently considers all of those uncertainties?

So, Michael, let me make a couple of comments, and I’ll turn it over to Carol. So, first of all, when you look at the overall macro factors that we think are critical to how we line up our business, those have largely remained unchanged. And so, we feel good about the fact that the consumer has wages up about 3% year-over-year, consumer confidence is still high. So, the general trend that we see in the macro base and how we did our plans really hasn’t changed much. And we feel pretty good about that. And then, when you think about going forward in the business, when we looked at commodity, hurricane and May and then compared that to where we were at the end of the quarter, we feel good about the guidance that we have. Carol Tomé: I’ll give you little bit more color there, Michael. So, the implied back half comp in the guidance that we just gave you is around 5%. If you look at our reported comp in the second quarter in the U.S., it was a 3.1% comp. If you add back the impact of hurricane-related sales, that’s 50 basis points of hurt. If you add back the weather-driven demand, softness that we saw in May, that was 40 basis points of hurt. And then, you heard us talk about commodity being 100 basis points. So, when you add that back, actually the normalized comp in the second quarter was 5%. Then, you heard us talk about the comp cadence and we exited July quite strong on an adjusted basis, the comp in the U.S was 4.7%. And then, I look at our -- how we are performing relative to plan, and we are on our plan. So, you add up all the data points and it suggests that comp guidance is very achievable. And the other way to look at it is just stack the comps. You stack the comps for the first half of this year against last year, stack the second half what we reported and what we are guiding to, the stack is about the same in most of the half. So, every way we look at it, we feel very good about the guidance that we’ve given.

Michael, I guess the last comment that I’d have on it, if the consumer softened in any way, I’ll bet on this team all day long to go after the business.

No doubt. And Carol, you mentioned you are on your plan, do you mean you are on your plan where you stand quarter-to-date, such that you really haven't seen any impact from the tariffs flowing through to the consumer as of yet? Carol Tomé: That’s exactly what I mean. The beauty of our business is that we see sales on our phone; we can know exactly how we're doing by the minute. So, that’s very different than that leading indicator of remodeling activity report that you just mentioned, which is based on a biannual survey of housing data coming out of that [ph]. We have real data at our fingertips. So, we feel good about the performance.

You might want to remove that app by the end of the month. And then, my last question is on as you look at your guidance for the back half of the year, how should we model gross margin and SG&A, particularly between the third and the fourth quarter, recognizing that it’s not so straight forward, given that you’ll be lapping the extra week in the fourth quarter of last year? Carol Tomé: So, it’s a relatively loopy [ph]. So, I -- talked to expenses, and as we told you, we expect our expenses on a 52-week to 52-week basis, excluding the write-down that we took for some trade names that we’re no longer using. We told you that our expense growth factor would be 90% for the year. For the first half, it was around 73%. So, it will be a little bit higher in the back half, and quarter-over-quarter expect Q4 is higher than Q3. On the gross margin side, as we indicted, our gross margin -- it won’t be as low as we had anticipated at the beginning of the year because of the penetration shift in lumber. So, we will be slightly higher than our original guide, our original guide was to be flat or that was at 34% for the year as you move forward. So, it won't be down as much. So, the second half margin will be down as much as the first half.

That’s helpful. Thanks again and best of luck. Carol Tomé: Thank you.

Our next question comes from the line of Simeon Gutman with Morgan Stanley. Please proceed with your question.

Thank you. Good morning, everyone. And well done, Carol. Congratulations. My first question is on the second half. I know you don’t provide quarterly guidance, but can you can you share some cadence around the second half comp guidance, and its dependencies? And I'm thinking about macro dependencies and strategic initiatives. And if you can share with us part of it on the strategic initiatives, which ones are expected to contribute to the most for the second half comps? Carol Tomé: Couple of things to think about when we think about the second half comp. First, as you know, we’re lapping $800 million of hurricane-related sales of which $500 million occurred in the first half, $300 million in the back half. So, the hurricane sales overlap is easier. Secondly, on lumber price deflation, let's just use the number of $800 million to make it simple, about $500 million of that occurred in the first half, so $300 million will occur in the back half. So, it is easier too. Then, we have the impact…

Yes. And so, on the initiatives, when you think about the Pro, first is the B2B website that we have launched. And we are seeing Pros that have been migrated onto a website, react very positively from a sales standpoint. We are on track for the 1 million Pros in 2019. As a matter of fact, at the tail end of this quarter, we added a significant number of Pros to the website. As Ted detailed, My View capability that we've given to our associates in store to better understand how we can engage with a Pro customer is delivering the results as well. And then, we've made significant investments in our rental business, which we know is an important aspect with the Pro. 25% of the Pros rent from us today; we know that 90% of Pro is rent tools. So, we have an opportunity as we invest in this business to continue to grow. And then, in the digital investments, our HD Home program, as we expand categories to fulfill rooms in the home, as well as the investments we're making in search capabilities, category updates are all leading to improved sales and conversion in the business. And then, the number of investments that we've made in the store as well, whether that's our overhead management, which is driving productivity in the store, or interconnected lockers, which is enhancing the pickup experience for our customers or our merchandising resets are paying off in a nice way. I don’t know, do you want to give a little more color on the resets?

Yes. On the resets, we've been working on our appliance resets and our tools sales for some time. Those two businesses continue to post incredibly strong results, and we don't see that changing in the back half. More recently, we've been working through our pipe isle reset, which is going extremely well through about half the chain this year and that adds holding power and room for some new assortment programs. And then, soft flooring, I mentioned in our prepared remarks, for a while there you thought, hey, is soft flooring losing all ground to hard surface flooring, what we’ve seen in solid core vinyl and tile. But resetting all of our soft carpet showrooms, those are done. We simplified our brand structure. We simplified our line structure and pricing structures. That has continued to accelerate through the quarter and exited the quarter at much higher than the Company comp. So, we're happy with what we’ve seen in soft flooring. And then, lastly, our largest reset to come, which we've just launched in the last several weeks, and will finish the entire chain by the end of this year, is our new color solution center in our paint department where we’d be highlighting our Behr and PPG products, and really pleased with that. The timing couldn’t be better. We read a number of recent consumer surveys and consumer testing agencies, release the new winners for this year and Behr captured the top three paint products in the entire industry at the best value, and PPG posted the two top stain products at the best value. So, we’re very excited about all those resets. Carol Tomé: And Craig, just to add a couple of points from just driving the customer experience as well. Number one, you mentioned rental. We’re continuing to see growth accelerate from half to half. So, the investments we’re making there are really driving exponential value. And so, we’re going to continue to lean in there. To the points about driving the event in the second half, when we think about our comp cadence, we kind of talked about overhead management and/or ability to find the product and get on-shelf availability to a very, very high level is driving incremental performance. And for us, as we think about the investments, not only to getting the product on the shelf, is how do we get the customers to the store. So, we have done 450 frontend transformations. We have heard the numbers that we have seen, just the customer experience grow across the board. We’re going to have over 800 by the end of the year. And so, we’re able to deliver this performance by not only transforming our business, but making sure that our focus is simple and direct and drive into where the customer expects us to be. So, we’ll continue to drive through that in the second half of the year and leverage the event to drive exponential depreciated performance.

Thank you. That was very comprehensive. Can I -- I am going to ask my follow-up. A year ago, when rates were rising, we went through this hypothetical scenario, if we saw recession, I think we talked about the scenario in which Home Depot would comp flat and margins could go to 12, if you made all the investments as part of your plan. I think, we’re now one year forward, you’re making progress on margins, can you provide us another update, would your margin end up better than that 12, given that you’re closer now to some of your goals? Carol Tomé: Well, Simeon, we haven’t updated that recession model. Productivity is a virtuous cycle at The Home Depot. But for modeling, purposes, I reviewed the same numbers that we shared with you before. And just on the sort of the state of the economy and when a recession might happen, we certainly can’t predict that. But, we know a few things. We are in the longest economic recovery in our nation’s history. And yet the amount of growth during this recovery is still under the average of every other recovery industry. So, this is one reason why it’s been an elongated cycle. Further, share of housing as a percent of GDP has dropped, it’s about 19% of GDP. Back in 2006, it was about 22% GDP. So, whenever that downturn comes and it will, it is a cyclical economy. But, whenever that downturn comes, it’s not going to be like it was before. So, we’re very well positioned to manage through all that.

Thank you, again, and best of luck.

Our next question comes from the line of Scot Ciccarelli with RBC. Please proceed with your question.

Good morning, guys. I had another follow-up on the investments that you’re making, despite the pretty comprehensive answer you already provided. Can you help us better understand the cadence of the comp growth improvement that you are expecting, both in the back half of this year and that flows into next year, specifically target to these investments.

What we said in earlier statements that we believe that we will achieve about a 1% impact in the back half of the year from the investments that we are making. When you took GDP, the housing benefit, and then added in the investments, that’s how we got to our growth overall. And the only thing that changed from that for all practical purposes is the deflation of lumber.

Just to clarify I think it was 1.4 for the year, all of which is kind of loaded into the back half or did I misunderstand that? Carol Tomé: You are right. It’s loaded into the back half. And the way that we’ve modeled it based on events as well as the completion of resets that you’ve heard from Ted is that that the fourth quarter comp will be higher than third quarter, definitely.

Got it. And we should presume because of the changes in the customer interaction, a lot of these improvements should flow into next year, or is there a point where you start to anniversary it and it levels off?

They’ll definitely flow into next year. We will get to that guidance later in the year.

Our next question comes from the line of Christopher Horvers with JP Morgan. Please proceed with your question.

Thanks. Good morning, everybody. And I’d certainly echo Craig’s comments and whish you, Carol, a very best of fortune in the next phase of your life. In terms of my questions, just a follow-up on the macro, on the housing front, rates have moved around a lot, moved down quite a bit. I’m about to reset perhaps personally, but pricing has moderated and existing home sales are not picking up. So, is that what you are expecting? And then, what are you seeing out there in terms of -- in the market, say, some of the coastal markets where we’re -- that’s really driving the deceleration in pricing and pricing coming down versus other parts of the country? And then, related to that on a consumer front, are you seeing anything different in the consumer around the type of projects that they're taking on or perhaps the trade-up versus the value orientation? Carol Tomé: On the macro model, yes, things are moving around a little bit, but it’s just on the margin. So, there is no material change to the inputs that create the output and drive our sales plan. To your question about the coastal markets, I’ll just give you some data. Let’s take San Francisco down the coast; the cost was higher than the Company average. Let's take San Diego little further south; comp was at the Company average. Let's take New Jersey, which is a high south state, the comps were higher than the company average. And then, let’s just land in Dallas. Dallas has seen a 54% increase in home prices since 2006 and it comped above the Company average. You can see things are performing the way that we thought they would.

Understood. And then, a couple of detailed model questions. First, any comment on your expectation for the U.S. comp for the year versus the 4% total guide? And can you help us a little bit more about on the SG&A in 4Q? You give us 52-week to 52-week comparison, perhaps how much incremental SG&A dollars there were in 4Q ‘18 related to that 53rd week? Carol Tomé: I don’t feel good about answering those questions because we don’t like to give you too much quarterly information....

So, the one comment I’d make as it relates to kind of the year, we're expecting positive comps in Canada for the year, if that helps. Carol Tomé: The question is what happens to the U.S. dollar, and we plan it currency neutral. So, you can model what you think is going to happen to the dollar and do that calculation. So, on the expense side on a reported basis, because of the extra week that expenses growth guidance on a GAAP basis looked really bloated. [Ph] And that's the only way to explain it It’s going to look really bloated. We're going to ignore that extra week. I think the best thing to do is just work within the annual guidance that we’ve given you, look at it on a daily 52-week to 52-week basis, and you can back into what the fourth quarter looks like.

Our next question comes from the line of Charles Grom with Gordon Haskett. Please proceed with your question.

So, the front half of the year has not been kind on the weather front, we all know that at this point. I'm just curious, in the past, when you've seen this type of pattern, you typically see the release of that demand, or do some of the projects just get postponed or cancelled altogether?

It's by category. So there's some categories that have the ability to extend and we're seeing that in the business right now. And so, you capture that. There are some where you don't recover all of that business. You might get part of it, but not all of it. So, it really varies by category. So, if you think about, depending on when the weather takes place, you may or may not get pre-emergent business back, for example, and this year, we didn't get that back.

And then, just on the change in the comp guide. When you look ahead to your -- the long-term sales targets of $114.7 billion to I believe around $120 billion. I'm just wondering, if that changes that outlook at all, or maybe perhaps bring it to the lower end of the algo equation?

Yes. It definitely goes to the lower end. But, it doesn't change the range of guidance.

Okay. And then, just one follow-up on the gross margins, Carol. All of last year, transportation was a pretty big headwind. You didn't call it out this quarter. I don't believe you called it out last quarter. I was just curious, if it's actually helping you guys at this point? Carol Tomé: Well, it certainly has moderated from what we saw last year. What we are very excited about is the productivity that we’re seeing in our upstream supply chain. Our supply chain team has done a great job of mechanizing our upstream facilities. We actually -- well, I called out 2 basis points of pressure in the gross margin comps -- supply chain upstream. Upstream, we leveraged, we leveraged 6 basis points. So, tremendous, we leverage productivity in supply chain.

Our next question comes from the line of Zach Fadem with Wells Fargo. Please proceed with your question.

Craig, you specifically called out some conservatism in your guide from the potential impact of tariffs. Curious if you could quantify the assumptions here in a little more detail. Maybe talk us through how you think about the balance in the back half of raising prices and the potential downtick in volumes as a result.

Yes. I mean, the uncertainty is what the total impact on the customers economically overall. When we look at it specifically as it relates to Home Depot, if you think about China tariffs list one through four, four being at 10%, that's about a $2 billion or 2% of sales cost impact. And so, the way you have to think about tariffs is there's really two sides that you work on this. There's the actual cost side and there is a number of initiatives underway there, and then, there is the potential of the impact to the customers that relates to the project. And, I can -- I’ll let Ted talk about the cost side. And we have a number of initiatives underway as it relates to how we flow things through to the customer. We use our portfolio approach. We think about this business as a project business, which it is. And there’s clearly ups and downs and elasticity, but we have pretty good tools for merchants to use on that. And we’ve actually been able to cover the top line. Ted, if you want to talk about the cost side?

Yes. I’d say on the cost side, I couldn’t be happier with our partnership with finance team, the accounting team, our assortment planning team. We have data of country, of origin in potential tariff impact literally down to skew. So, we know exactly what are on various lists, when the tariff impacts will hit. We even know that through our retail accounting into when the impacts hit in our P&L. So, thank you very much to the great partnership with the finance team. As Craig said, on a macro perspective, through phase 4, and phase 4 only being a 10%, it’s a potential impact of about 2% of our U.S. sales. Now, with a number of activities that we’re working with the merchants between negotiations with our supplier base taking into account things like currency, trends for pricing in the United States, value engineering, we’re embarking upon with our suppliers, with customer-backed research if you have marginal dollar to put into the product, where you put it, the best customer value. And then, we’re starting to see significant supply chain. I would say, on the margin, I'm not aware of a single supplier who is not moving some form of manufacturing outside of China. So, we have suppliers moving production to Taiwan, to Vietnam, to Thailand, Indonesia and even back into the United States. So, when you net all of that out, we see this 2ish-percent impact being much, much less, call it something like 1%. And then, as Craig said, it’s up to the merchant team to work with our overall portfolio approach to the business and project approach to the business to see how best if at all, there we pass on any of those net impacts to our customers.

Got it. And then, on the paint category, it seems to have gotten a little more promotional so far this year. Could we talk through some of the dynamics here? What do you think has driven the elevated activity, more so overall demand or weather environment? And maybe also talk through your process when deciding how you respond when you typically see changes out there in the pricing environment?

So, first I’d answer with exterior stains. So, Behr is the -- the weather improved and we did the reset quickly last year and much more comprehensively this year, again with the number one and number two graded exterior stain with PPG product. We saw great performance in our exterior stain business. On interior paint, interior paint has gotten more promotional in the marketplace. We have folks out there advertising in print and on media as much as 40% off. At Home Depot, we have, as was just released with the third party agencies, we have the absolute best paint in marketplace. Behr paint holds the top three slots in its ratings in two different surveys. And we are not going to fall into a high-low promotional trap when we have the best product at the best everyday value. And as you know in the finance community, just speaking of promotional cadence, I can remember there was a lot of talk about breaking the buck in the money market world. And we had a 3 times a year promotional cadence in paint of $10 off a gallon and $40 off 5 gallons in the major holidays of the year. Some of our competitors chose to break the buck, and we're not going to do that.

Your next question comes from the line of Karen Short with Barclays. Please proceed with your question.

Just a question on tariffs in general. So, I think, last quarter you commented that on price, raising prices as it relates to tariff impacted pricing, you initially had negative units on appliances and then demand picked up a bit. Maybe a little color on what you are seeing in terms of the consumer reaction to higher price points? And then, I just had a clarification question on the gross margin.

As we -- as I mentioned, we have number of models that we are working right now. And it varies by category. There is elasticity variance by category, and that changes over time as well. And the work that we’ve done, we’ve been able to actually cover the total top line sales in the models that we have out there. And when you think about laundry because we have referenced that from the past, as time has gone by, laundry was actually our highest unit comping category in appliances last quarter.

Interesting, okay. That’s helpful. And then, on the gross margin front, I mean, obviously, lumber would have been a benefit to gross margin this quarter. Could you quantify that and then help walk us through how lumber may impact gross margin in the second half? Carol Tomé: I’m happy to. With the lower penetration of lumber in the second quarter, it gave us 15 basis points of margin expansion. But, that was absorbed by growth in lower margin categories, like appliances as well as portable power. We love our portable power sales, but we don’t make a lot of money on it. So...

It started recovery, in general. Carol Tomé: Thank you. Absolutely, Ted. Thank you for that. So, as we look to the back half of the year, we would expect lumber to stay down as we’ve talked about, not much as you saw in the first half, but down, which will give us some benefit for the back half as well for the year.

Our next question comes from Steve Forbes with Guggenheim. Please proceed with your question.

I wanted to revisit the tool rental business and really what you expect the B2B website experience to augment this initiative? As I sort of think about it, maybe you could just expand on how you view the interplay between those two initiatives and the potential impact of Pro engagement trends. You mentioned sort of positive, but can you provide some additional color?

So, I’d say, first comment I make, I'll turn it over to Ann, is right now, our issues aren’t around necessarily connecting the B2B website to that from a digital experience. That will come at a later date. This is all about the investments that we're making right now in the physical locations.

Yes. And just to support, Craig, on that. Number one, the first thing we're doing investing capital in the business. To your point, there's -- when we invest in fleet, we’re able to drive more engagement with the Pro, because we have product available. So that's the first thing we're doing is making sure that we have the right assortment for Pro. The number two thing we're doing there as well to drive the experience. We've had just tremendous success with the label model we introduced in the stores last year and it was able to drive higher level of engagement by having our associates there at the right time to engage our customer. And so, we're going to continue to lean into that. And within the two rental areas, we're also making sure that we're addressing our label model to ensure as well that we are having a high level of engagement as well there. And then, last but not least, as we think about how do we ensure that we expand our offering, and we're able to push into areas at this point to delivery service and so forth, we're exploring hub locations for tool rental as well. So, we're going to continue to push there. We're seeing tremendous growth. We’re seeing higher levels of engagement. And we believe as we continue to expand, it will certainly be a complement for Pros and drive loyalty within the Home Depot.

Thank you. And then, just a quick follow-up, maybe just a modeling question here. You called out the strategic investment, dollar impact for the quarter and year-to-date. But, are you still on track to expense, I think it was $550 million for D&A for the year. Maybe just give us an update on where you are and what the full-year outlook incorporates? Carol Tomé: Yes. We are on our plan with regard to both the expense and capital in support of our strategic investments.

Our next question comes from the line of Seth Sigman with Credit Suisse. Please proceed with your question.

I wanted to follow up on deflation. You discussed the lumber impact. I'm just curious about net deflation, if there were any positive commodity price movements. And I guess just how are you thinking about that as part of the new full-year comp guidance? Carol Tomé: So, lumber deflation, I said was 110 basis points. And then, we had another 10 basis points of inflation, if you will, from the other commodities categories that we call out from time to time.

And then, ex the deflation, your average ticket actually accelerated in the quarter versus last quarter. So, I guess outside of commodities, how do we think about the average price increase that you're seeing across the store, I guess, on a same SKU basis? And then, tying it in with the gross margin to the extent that you are seeing higher retail prices, is that a benefit to the gross margin initially until the higher costs actually start to flow through cogs, like how we do think about that? Thanks.

So, on the price side, and I'll let Ted give details. The innovation that comes into the assortments, certainly has a positive impact overall on our business as it relates to the ticket.

Yes. And I would say from taking aside lumber and tariffs, from a pure commodity standpoint, we had quite a bit of pressure on back half of last year, first part of this year that subsided. So, commodity prices generally versus a year ago, if you think of steel, resin, base metals et cetera are actually down. So, that pressure on the outfit has subsided. To Craig’s point, most of our pricing increases are mix-driven in the sense that customers are trading up to more innovative, higher price goods, we break out the components of our average unit retail increase, which has increased. By far the largest driver of that in Q2 as well as the past several quarters is from new product introductions which are higher price points because of innovation, think of cordless lawnmowers versus push gas mowers. On tariffs, we have a number of tests going on across the country, nothing of any sort of magnitude to say in the quarter, we’re taking price broadly at this point because of tariffs. But we are testing a number of things in our mixes and portfolio approach across the country.

And to your question, impact to margin. As we sell more innovative product and the customer steps themselves lot off that line structure it drives a higher gross margins dollar. It may not change rate, but it drives the higher gross margin dollar, which is what the most important thing is. Carol Tomé: And we’re probably not giving you the information that maybe you wanted, but I think it’s been an interest statistics to look at the acceleration in our big ticket. This has been underlying sign of health in the business. This is unadjusted. Big ticket grew 1.5% in May, 4.1% in June and 5.3% in July.

Okay. Thank you for the color. I appreciate it.

And Christine, we have time for one more question.

Thank you. Our final question will come from the line of Greg Melich with Evercore. Please proceed with your question.

I made it in. So, Carol, thank you. It really, really helped through all the years. And you enjoy all the break you get, we’ll continue to annoy you as best we can. I had a follow-up on tariffs and inflation and then also digital. If -- that description you gave before of list 1 to 4, does that assume a 10% tariff on everything, a 25% or is it 25% on lists 1 to 3 and then the potential 10 on list 4?

Yes. That’s exactly right. It’s the 25 of 1 through 3 and then 10 on 4.

Perfect. And so, to tie into that, is that a reason why inventories might have been up 5% year-over-year, a contributing factor?

No, our inventory is all about the investments that we’re making in the accelerated resets for the large part. So, it has nothing to do with that.

Got it. And then, last on digital. I know up 20% continues to grow nicely. Is that around 9% of sales? And it did decelerate. So, I'm wondering, did Amazon’s move to next day, did you see any impact on that? And do you think that was the factor in the deceleration or is there something else going on?

No. We actually were very pleased with our growth; it’s 8.9% penetration in the quarter, up from 7.5% a year ago. And we’ve actually accelerated our capabilities in same day delivery. Mark, I don’t know if you want to share the details on that?

Yes. As was noted earlier, we have expanded our next day parcel coverage. We’re over 50% of the population now in next day parcel coverage. We’ve expanded our car delivery also to greater than 50% out of our stores. So, we’re pleased with the time we’re taking out of our lead time to customer. We continue to take lead time out with every move we make in the supply chain, and each time we do, it improves conversion. Carol Tomé: Just on the point on deceleration, it’s a fiscal calendar shift thing. So, that’s not a comp number; that’s a growth number.

Ms. Janci, we have reached the end of the question-and-answer session. I would now like to turn the floor back over to you for closing comments.

Thank you, Christine, and thank you everyone for joining us today. We look forward to speaking with you on our third quarter earnings call in November.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation and have a wonderful day.