We highlighted earlier this week that we were going 'risk off' for this RH quarter (something we rarely do) – in that based on the range of outcomes, this stock could be +/- $50 on this print. It was a coin flip. We don't like coin flips. We advised that if you own RH (which we think you should over a TAIL duration – as this stock is likely headed over $1,000 once the housing and investment cycle turns), you should sell SOME before this print. We were right from a fundamental standpoint, in that the company absolutely tanked the quarter ($0.72 vs $1.67), took down guidance for the year to about $10 per share at the mid-point (with the Street at $11.56), and pushed the opening of RH Paris to CY25, and Sydney to late '26. All big negatives. No announcement of any price cuts, which we noted were definitely possible, if not probable, for this quarter or next. We are still firmly in the camp that this is on the table if there's not a meaningful inflection in volume as the company suggested we'll see as the year progresses. The good news is that we can get to a 20% operating margin over a TAIL duration (vs 13% for the year that just ended) due to outsized volume growth on a sharper price/value equation. We just don't think it will be a good look on the day it is recognized by the market, so we're not in a rush to buy the stock on green after this print.
On the stock's rally after these abysmal numbers... It kinda feels like what we'll call a 'Floor & Decor (FND – Short) kind of reaction', in that as numbers come down, the stock is going up – to a price almost spot-on with where RH repo'd 17% of the float last year. It's basically mirroring Friedman's tone on the (2-hour) call, which was for a material acceleration in revenue as the year progresses. This is an extremely notable change from his tone on the 3Q call, which was a certifiable train wreck from a business tone perspective. The market is putting a full-cycle multiple (30x) on trough earnings. That's very un-retail-like, as we usually see trough multiples on trough earnings. But like FND, this is the kind of name most people want to own over a multi-year time period and are looking through the bottom. We completely agree with that, for RH at least.
What we like here is that this company is investing during a downcycle. It never fails...the market overly punishes companies that invest in their businesses – especially when the category is out of favor. It also almost always underestimates the torque in the model as investments roll off, the cycle turns, and the company gains share at an outsized rate. That's what we think is in the cards for RH.
With the multiple where it is today, you need to get paid on upwards earnings revisions. And we think you will. We're well above the Street in Revenue and Earnings across durations, and build to over $40 in TAIL EPS power as outlined below. We think at a minimum, that gets a 25x multiple, and we wouldn't argue with 30x. That's a 3-bagger from the current price.
When we issued caution around this quarter, we said that we'd be just as comfortable adding to positions with the stock at $375 as with the stock at $300. That's still the case. The reality is that Friedman just set the bar such that the trough in earnings is a 1Q event, and that we build sequentially from there. That's what a $325 stock believes. Fundamentally, we believe it too. We're modeling it. We just think the volume acceleration still might need help by giving back some of the 40% price increase RH took during the pandemic.
Bottom line is that RH is still a Best Idea Long. We think the sell side will be upgrading this stock at $500. We've been saying that all along, and are sticking to it. If you've got duration, we'd be buyers here. But we wouldn't be surprised to see the name trade lower on price actions. If we're wrong, then great. We'll buy more/reload closer to $400, which is when we're likely to get signal confirmation (referring to Hedgeye Macro's Signal Strength) in being Long. There's a LOT more upside from there if our fundamental call is right, which we obviously think is the case. For our latest RH Black Book where we outline the growth and margin trajectory CLICK HERE.
