How Home Depot Is Investing $1.5 Billion in Its Future

Source: Home Depot.

Home-improvement giant Home Depot has wowed investors with its long-term performance, as the company has managed to navigate ups and downs in demand from homeowners and contractors to produce solid and reliable growth. Yet Home Depot realizes that it can't afford to coast on its past success, and in order to sustain its leadership in the industry, the retailer has spent more than $1 billion annually on capital expenditures in each of the past four fiscal years. In the current fiscal year, Home Depot expects to add another $1.5 billion in capital spending. Let's take a closer look at what Home Depot plans to do with the money and how it should help it sustain its competitive advantage against rival Lowe's and smaller players in the home-improvement space.

Home Depot's commitment to reinvesting in its business
From listening to Home Depot's management team discussing its overall strategy, capital spending clearly takes top priority. As CFO Carol Tome said in Home Depot's conference call for the most recent quarter, "The first use of cash is to invest it back in the business and this year, we have a capital plan of $1.5 billion and we are committed to that plan."

Source: Home Depot.

Where Home Depot directs its capital expenditures obviously changes from year to year. But recently, the company has aimed more at connecting technology to its retail business. As customers have gotten more online-savvy, they've started ordering more through Home Depot's website and then going to the store to pick up those items. Home Depot has responded by seeking to give its customers an interconnected retail experience, facilitating not only customers who want to do everything outside a Home Depot store but also those who carry their mobile devices through the store seeking more detailed information on particular items. By ensuring that Home Depot's IT infrastructure is optimized, the company can ensure it makes the most from those customers while also giving them the experience they want to encourage repeat business in the future.

Bringing the quality of its technology up is especially important for Home Depot in light of the data breach the company suffered in the past month. Home Depot quickly assured customers that the malware that caused the breach had been removed and that it had completed a major project to improve payment security in the future. Nevertheless, with Home Depot admitting that about 56 million credit and debit cards were exposed in the cyber-attack, the company will have to spend whatever it takes to ensure that shoppers are comfortable doing business there. Otherwise, Lowe's will have a window of opportunity to poach customers away from Home Depot.

Home Depot's capital spending leaves room for shareholder-friendly moves

Source: Home Depot.

The concern that many investors have about capital expenditures is that they can reduce free cash flow to such an extent that it takes away a company's ability to take shareholder-friendly actions like stock buybacks and dividend increases. Yet even at the current pace of Home Depot's capital spending, the home-improvement giant hasn't held back on major moves with its remaining assets. In the first half of 2014 alone, Home Depot spent $3.5 billion on stock repurchases, and the company plans to match that amount in the second half of the year. Meanwhile, dividends have risen sharply in recent years, with a 20% boost earlier this year following an almost 35% payout increase in early 2013.

Yet despite the enormous sums that Home Depot is spending on its stock, capital expenditures will remain a key element of its competitive success. Lowe's has promised to fight harder against its archenemy, with strong recent performance throughout its product categories and geographical regions. Lowe's ProServices program will aim directly at capturing some of the business customers that have helped Home Depot's long-term success, and recent gains in ProServices have eclipsed Lowe's overall average growth. Home Depot will have to respond by investing to make its own business even more attractive to customers.

Home Depot has historically responded well to changing conditions, and having ample cash at its disposal to improve its operations has made that job a lot easier. By continuing to spend smartly, Home Depot can work at further enhancing its customer experience and fostering further growth well into the future.

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