RH Stock Just Popped. 3 Reasons the Growth Stock Can Keep Gaining From Here

Like most stocks with exposure to the housing market, RH (RH 17.26%), the home-furnishings retailer formerly known as Restoration Hardware, has struggled in recent years.

The stock is down more than 50% from its pandemic-era peak, and revenue and profits have fallen sharply over the past year. As CEO Gary Friedman said in his recent shareholder letter, the company faced “the most challenging housing market in three decades.”

RH’s fourth-quarter results confirmed those headwinds as revenue fell 4.4% to $738.3 million and adjusted earnings per share declined 75% to $0.72. Both those results missed estimates, yet the stock had a surprising reaction to the report. Shares jumped 17.3% on the report on Thursday as Friedman expressed optimism in the business’s recovery and guidance indicated that the company would return to growth as well.

Investors are suddenly feeling bullish on the stock. Let’s take a look at a few reasons why RH stock can keep climbing from here.

A living room.

Image source: RH.

1. The housing market will recover

Home furnishings sales are correlated with housing transactions, as buying a new home and moving often means buying new furniture.

The housing market is cyclical, and existing home sales fell to a 29-year low last year. However, there are already signs of a recovery. February existing home sales were up nearly 10% from January, and mortgage rates have eased from their peak.

RH acknowledged in its shareholder letter that it expects business conditions to remain challenging until interest rates fall, but interest rates are projected to come down later this year. The Federal Reserve is forecasting three rate cuts this year.

Over the longer term, the housing market is likely to normalize as the mortgage rate lock-in effect eases and new home construction fills the gap between housing supply and demand.

RH did say that it expects demand trends to accelerate this year in spite of challenging conditions in the housing market, a sign that it’s outgrown the market.

2. Its share count is down substantially

RH has a history of opportunistically buying back its stock, and it’s done so again over the last two years as the stock fell sharply.

Shares outstanding are down by more than 20% over the last year and 35% over the last two years, averaging 19.9 million in the fourth quarter.

As you can see from the chart below, the company’s shares outstanding are down by more than half over the last decade.

RH Chart

RH data by YCharts

It’s hard to see the effect of those buybacks on earnings per share when the business is struggling, but a 35% reduction in shares outstanding translates to an increase of 53% in earnings per share on the same amount of net income.

It won’t be easy for the company to get back to its peak in net income, which topped $750 million on a trailing 12-month basis in first-quarter 2022. But RH can match that level of earnings per share with 35% less net income, or approximately $500 million in net income, which is significantly more achievable in the near term.

3. The recent investment cycle is about to pay off

Over the last two years, RH has been developing a new product assortment it describes as “transformative,” doubling down on areas like outdoor, and opening new galleries in North America and Europe as it pushes into new international markets.

The company is also expanding the RH brand to luxury lifestyle categories like restaurants, guesthouses, jet and yacht rentals, and an upcoming media business focused on an architecture and design-based streaming service.

In line with its new collections, the company is stepping up its marketing efforts to help it gain market share. It’s doubling its sourcebook circulation this year, and it said the initial response to its outdoor sourcebook was “exceptional.”

It’s also increasing ad spend in home design publications to drive demand. As a result, it sees demand growth of 12% to 14% this year, which will translate into 8% to 10% revenue growth due to an order backlog.

In the coming years, revenue growth seems likely to accelerate as the housing market recovers and new gallery openings yield results.

Like the housing market, RH has also been a cyclical business, and it looks ready to start another growth cycle. As revenue growth and profits ramp up, the stock looks like a great bet to keep moving higher from here.

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