Wait for RH to Split Before Taking a Position

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Joel Baglole

Mon, May 2, 2022, 4:54 AM 4 min read

Shares of the high-end furniture retailer based in Corte Madera, California have declined 53% over the past 12-months, including a 37% pullback so far in 2022. At $338 a share, the stock is literally half the price it was this time last year. It has been quite a come down for RH, as the company is commonly known.

During the pandemic, the retailer’s stock surged as people took to redecorating and upgrading their homes while sheltering in place. Between March and December 2020, RH stock gained 445%, making it a top performer. But it’s been all down hill for the stock over the past year as consumers emerge from Covid-19 hibernation.

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Restoration Hardware Holdings

$338.25

A Curious Selloff

The sharp selloff in RH stock is a bit curious given that the company’s fundamentals remain quite strong. The home furnishing company’s most recent quarterly results were decent enough. Earnings per share (EPS) increased an annualized 12% to $5.66, which was better than the $5.58 expected on the street.

Revenue increased 11% year-over-year to $903 million, though that missed analysts’ consensus forecast for $931.8 million. Additionally, the forward guidance provided by RH disappointed as the company called for revenue growth of 5% to 7% in 2022, compared to analysts’ consensus of 10%.

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To be fair, the weaker than expected forward guidance is due to several headwinds blowing against RH at the moment, including inflation that is running at a 40-year high in the U.S., which is putting a crimp in discretionary spending. Then of course, there are rising interest rates that are also putting pressure on consumers and global supply chain snafus that are disrupting the company’s ability to get materials and supplies on time.

Analysts and investors haven’t been in a charitable mood. RH stock fell 5% after its last quarterly print. Several analysts downgraded the stock, including Wells Fargo (NYSE:WFC), which maintained an “overweight” rating but lowered its price target to $500 from $750 previously.

Improving Valuation & Stock Split

If there’s a silver lining to be found, it is that the selloff has greatly improved the valuation of RH stock. The company’s shares now trade at 14.5 times forward earnings. The stock was trading at four times that valuation a year ago, and its current price-to-earnings (P/E) ratio puts it on par with the average among companies listed on the S&P 500 index.

At its current valuation, RH stock looks affordable, if not cheap. And the lower valuation comes as the company’s margins improve. RH finished last year with an operating margin of 25%, up 10 percentage points from pre-pandemic levels.

Despite the retrenchment in its share price, RH is taking steps to continue rewarding shareholders for sticking with it. As part of its fourth-quarter 2021 earnings, the company announced a 3-for-1 stock split that is to be executed in the coming weeks. Based on the current levels, the stock split should lower the share price to about $115.

While stock splits don’t change the fundamentals of a company, they do make shares more affordable for investors, especially smaller retail investors, and that can lead to buying that helps lift the price. Several other companies have announced stock splits this year, including Amazon (NASDAQ:AMZN) and Google parent company Alphabet (NASDAQ:GOOG, GOOGL).

Wait for RH Stock to Split

Restoration Hardware could still make for a solid long-term investment. But the company is going through a difficult time right now, and so is its stock. As such, investors should place the company on a watchlist and see what happens with the share price after the stock split is executed.

Should the share price come down further and the stock gets even cheaper, it might present a great entry point for long-term investors who can be patient and wait for a turnaround. But right now, given all the challenges the company faces, as well as ongoing market volatility, RH stock is not a buy.

On the date of publication, Joel Baglole held a long position in GOOGL. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.