Market Pullback Has Created Buying Opportunity At Two Key Retailers

• O'Reilly Automotive Inc ORLY shares have lost 6 percent since December 28, while shares of Home Depot Inc HD are down 8 percent.
• Deutsche Bank’s Mike Baker upgraded the ratings for both companies from Hold to Buy.
• O'Reilly Automotive and Home Depot are strong fundamental performers, and the recent pullbacks have created buying opportunities, Baker stated.

O’Reilly Automotive

The price target has been maintained at $300. O’Reilly’s shares are down 15 percent since their peak of $278 on October 29. Analyst Mike Baker believes that the pressure on shares was partly on account of near-term concerns related to warmer weather this winter.

“While we do share some of those concerns, we continue to see a strong long term story which fits all the criteria we look for. These include comp drivers from share gains, margin growth opportunity, a rational competitive environment and strong cash flow characteristics,” Baker wrote.

The comp estimates for 2016 and 2017 have been raised slightly from 5.0 percent to 6.0 percent and from 4.5 percent to 5.0 percent, to reflect expectations of continued market share gains in both the DIY and DIFM segments.

The EPS estimates for 2016 and 2017 have been raised from $10.66 to $10.77 and from $12.17 to $12.35, respectively.

The recent pullback “warrants a Buy rating” and the premium reflected by the price target is justified given the company’s “industry leading comps, consistent ability to beat numbers and market share gain opportunities,” the analyst added.

Home Depot

The price target has been maintained at $135. Home Depot is “a high-quality name in a high-quality space,” Baker said. Favorable housing cycles lead to solid end-user demand, enabling the company to achieve industry-leading comps in the mid-single-digit range.

Moreover, the competitive environment in this space is “rational,” which should enable Home Depot to generate stable gross margins and mid-single-digit growth in gross profit.

“HD typically grows expenses at a fraction of its sales gains, enabling leverage and 8.5% operating profit growth annually,” the analyst commented. This, together with continued strong FCF and an underleveraged balance sheet, should enable the company to repurchase enough shares to generate 13 percent growth in annual EPS.

The comp estimates for 2016 and 2017 have been raised from 4.0 percent to 4.5 percent and from 3.5 percent to 4.0 percent, respectively. The EPS estimates for 2016 and 2017 have been raised from $6.14 to $6.16 and from $6.86 to $6.96, respectively.

“Our price target stays at $135, based on 19x our 2017 estimate. This is a premium to our growth rate forecast due to HD’s industry leadership. With the stock having pulled back with the market selloff, this now warrants a Buy rating,” the Deutsche Bank report stated.