Home Depot: a Little History
Well let me try and get back to discussing Home Depot and the lessons therein for corporate performance. While my primary purpose and focus here is on enterprise performance I keep letting economic and market events seduce my attention away - largely because it's hard to sail the boat well if you don't know where the wind and the currents will take you. That said I'm liable to succumb in the future somewhat often to build up my collection of tools and observations.
In the prior HD post we talked about Nardelli's short-term focus doing tremendous damage to the soft-assets of customer value and employee morale; and that enormous asset depreciation being reflected in a long-term decline of PE Ratios and the associated drop in enterprise value. With a couple of toolkit posts on PE trends and valuations in the market we can turn around and dig a little deeper now into HD's history. Unfortunately the Nardelli experiment in excessive cost control for apparent short-term earnings not only spent soft-assets but squandered a major market opportunity. Now that housing is slowing dramatically the new management must not only re-build the company that was but face severe down-pressures in demand. It won't be easy but perhaps a look back may help.
Full disclosure - I'm not now nor ever have been an HD employee. But people on my teams have worked for them, they've been customers and friends and family are expert home re-builders and shop their extensively. I've even been known to do that myself a little and have watched the deteriorations in customer service with dismay.
Taking a look at HD's stock performance from Jan05 to now we can see the early days followed by the rapid rise of the late 90s. Some of which was due to the general market boom but much of which was due to the real and true growth of the company. And of earnings based on fundamental, organic growth. HD had a great value proposition - you went in with a problem, they had plenty of skilled, knowledgable staff to guide you in solving it and they had high-quality, fairly-priced products where that staff would help you pick something just right. At the end of the day it was a true business win-win story driven by service and value.
As HD grew they put more and more stores in more and more locations to the point where some cities and areas were getting saturated. Something that's not well known is that a key to their service capabilities was the store manager's direct-to-supplier ordering which was delivered directly to the store and, because the stored ordered it and it was shipped directly, the manager had complete visibility to what was on hand, what was ordered and what was inbound. The store could then manage in near real-time as day-to-day customer demands fluctuated. Unfortunately as more stores crowded into more areas the congestion rose, the upstream distribution system came under increased pressure, shipping was consolidated more and more into lower-cost, traditional modes and the store lost a large service responsiveness capability.
Put more simply the system rapidly outgrew its' operational capabilities to support growth and maintain the service levels required by the overall value proposition. To address it required serious investments in information systems, transportation and distribution and operational management. More importantly it required treating operations and execution as fundamental strategic capabilities; AND...very important... thinking outside the box to be as innovative on operations as the original strategic concept was on that level. Now that wasn't the only thing going on but it was a major one, and one that was missed and doesn't currently appear to be on the table for re-evaluation.
If we were to summarize it seems to me that three things were likely to be going on:
- Previous success served as a model for competitor's and led to increase competition from folks like Lowe's (who not only modeled the HD value proposition but put a more innovative operational infrastructure in place).
- Greater presence and penetration of most markets led to the 'tiring' of the value proposition. Which means that news sources of value innovation were, and still are, required.
- Growth swamped the operational capabilities of the execution infrastructure to continue to support growth while maintaining and increasing the service which was fundamental to the strategy.
Now that's an outside-in look without having been part of the internal strategic discussions, of course. And therefore based on the best available information combined with some industry and operations knowledge. But it is, at the very least, plausible and perhaps likely. Certainly the deterioration in HD's growth and financial performance led to the replacement of the founders. Who were, by all repute, innovators and merchantes but not operators.
So the question then becomes what next ? The new CEO has certainly taken a bunch of excellent short-term steps from moving to restore morale, improve service, reach out to hostile investors and also to the founders. But the original challenge from seven years ago remains. Only this time it's coupled to major depreciations in critical soft-assets and rapidly declining market demand. Fixing these various problems is going to be challenging and not an over-night or cost-free effort.
For any stakeholder in HD (employee, supplier, investor or a major investor, e.g. private equity funds) new management alone won't solve these issues. It'll take a concerted effort that combines short-term improvements with significant investments in staffing, system and operational capabilities and - ultimately - the innovative creation of new sources of value. Home Depot is a great company with a lot of talent and can address these challenges.
Whether or not it's a sensible investment will depend on when and how well. In any case it will be interesting to watch.
Prior Posts: Cheap at the Price