EUR 850.00 For Business Accounts Only

Morningstar | RH Shares Swing on Improving Equity and Housing Market Conditions, Helping Bolster Sales

RH has gained share in the fragmented $121 billion domestic furniture and home furnishing market in recent years, curating differentiated offerings from specialized artisans globally. The firm has broadened its brand awareness by expanding into underserved categories including modern and teen, where few peers have scale, attempting to capture incremental market share from boutique competitors (with the beach and ski launch broadening the firm's category reach). However, improvement in brand equity could rise or fall depending on the cadence of store and category expansions, but we think the retail business alone (around 70 core stores) still has insufficient scale to garner a cost advantage. Moreover, the categories RH operates in can become price-competitive under weaker economic conditions, supporting our no-moat thesis. RH uses its e-commerce business (44% of 2018 sales) to build the brand awareness and leverage costs, with the ability to market incremental SKUs. In recent years, RH has made operational and supply chain amendments to materially improve its operating expense metrics, closing excess distribution center square footage after right sizing the inventory base. We believe RH's primary focus will remain on optimizing its real estate profile over the next decade, with a multi-pronged gallery strategy set to suit particular market demands. RH's reorganization kicked off in 2017, with efforts to untie significant amounts of capital by moving to a sale-leaseback model on new properties, utilizing reverse logistics to liquidate units in market and constraining the distribution center footprint, helped by inventory that declined 30% in 2017, which held flat in 2018. These improvements put RH on the path to achieve more than 13% operating margins at the end of our forecast.RH remains tied to housing and equity market conditions, and weakness in willingness to spend could lead to wide swings in profits (however, recent declines in interest rates should support spending over the near term). RH could have adjusted returns on invested capital of around 20% by 2023, compared with our 10% weighted average cost of capital, but note that this metric can be volatile.