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Competition Stiff In The Home Center Business

A buoyant national economy and an expanding number of "do-it-yourselfers" are generating a wave of growth in the hardware/home improvement retail industry. As a result, major home improvement superstore chains are expanding at unprecedented rates, and continue to prosper at the expense of the smaller players in the industry.

At the top of the home improvement retailer heap, Home Depot and Lowe's are slugging it out in a multitude of markets. They often go at it toe-to-toe in adjacent locations, and both typically wind up winners in the process.

In the middle of the industry, flux is the name of the game, with a number of players either going under or getting together to stay alive. Meanwhile, the smaller, mom-and-pop hardware stores have a hard time being price-competitive with their big-box cousins. Their niche remains convenience; convenience for consumers who want to buy a box of nails without having to conduct a warehouse-wide search.

The market setting On a macroeconomic basis, times are good for the home improvement industry, whose annual sales are estimated at some $135.4 billion by New York-based American Express Travel Related Services. "The economy is strong, interest rates are relatively low, and housing affordability is at historically high levels," says Christopher Vroom, managing director of the Baltimore-based B.T. Alex. Brown & Sons investment banking/brokerage firm. Increasing levels of home ownership and what Vroom calls "the aging of the nation's housing stock" also contribute to the segment's growth.

This is a retail segment that stays fairly stable even when the economy takes a dip, although that has not always been the case. "In the past, the hardware/home improvement business was subject to fluctuations in the economy," according to Richmond, Va.-based Davenport & Co. L.L.C. retail analyst Ken Gassman. "But that was in the days when the professional builder [a highly recession-reactive customer segment] represented 60 percent of revenues."

Now, "professional builders represent less than 50 percent of revenues for home center chains," says Gassman, with the consumer and smaller, maintenance-oriented contractors comprising the balance. "The maintenance side of the business is not cyclical at all -- when light bulbs burn out, they get replaced," he notes.

"The consumer is a bit more sensitive to the economy but not nearly as much as the professional builder," resulting in an industry "that has become much less sensitive to economic cycles," Gassman says.

Successful hardware/home improvement retailers draw both types of customers, according to Vroom. "The major players have experienced improving business with the professional [builder] customers," he notes. "Meanwhile, the less recession-vulnerable portion of the business, the retail 'do-it-yourselfer,' also continues to generate good results."

The consumer The consumer side of the home improvement market is large, judging by research conducted by American Express. More than 31 percent of the 1,000-plus single-family and apartment-home dwellers questioned in an early-1997 American Express(R) Retail Index survey planned to do some form of home improvement during the year. The average budget for these home improvement projects, ranging from interior redecorating to renovation and remodeling, was $2,660, the report notes. Living rooms and bedrooms were found to be the top two project venues, followed by dining rooms, den/family rooms, kitchens and baths.

And, the report adds, "When it comes to home improvements, two-thirds of consumers plan to do the work themselves," a trend described as "driving the boom in this [the home improvement] industry."

"Cocooning," the lifestyle trend defined as "the practice of spending leisure time at home in preference to going out" and exemplified by a focus on enhancing home aesthetics and features, is at work here. "What we are seeing is that consumers want their homes to have more amenities -- amenities they are buying at home improvement centers," notes Gassman.

The supply side Economic and consumer trends all point to a growing market for hardware and home improvement products. But, "We don't believe that the fruits of this growth will be shared uniformly across the industry," says Vroom. Like other retail segments, the hardware/home improvement industry "continues to experience higher concentration levels, with well-executed chains such as Home Depot and Lowe's enjoying dramatic market-share gains at the expense of the less-focused operators," he notes.

Atlanta-based Home Depot and North Wilkesboro, N.C.-based Lowe's Cos. together control about 18 to 20 percent of the market, according to Vroom. "The rest of the market goes to chain operators that are losing share dramatically because they haven't executed their business plans effectively," he says. The mom-and-pop retailers and chains such as Ace Hardware and True Value "are pretty inconsequential in the overall scheme of things," adds Vroom.

"The home improvement market is growing, but the problem is, Home Depot and Lowe's are taking up all the growth," says Gassman. According to second quarter 1997 earnings reports, Home Depot's 559 stores (including 29 in Canada) enjoyed sales of $12.207 billion during the first six months of its fiscal 1997, reflective of a 26 percent increase over the same period of the previous year. Comparable store sales were up 8 percent.

Meanwhile, Lowe's 412 stores reported sales totaling $5.2 billion for the first six months of its fiscal 1997, up 19 percent over last year's corresponding period and reflective of a comparable store sales increase of 5 percent.

"Over the years, there has been fairly significant consolidation" among the other major players in the hardware/home improvement business, notes Gassman. For example, Laurel, Md.-based Hechinger Co., a family-owned home center chain with about 117 stores in the Mid-Atlantic region, "got in trouble with the big-box competition in the early 1990s," he reports. This chain was recently purchased by syndicator Leonard Green, who also bought San Antonio-based Builders Square, the former Kmart subsidiary with some 164 stores. Hechinger Co. and Builders Square will be combined to form a new home center chain, says Gassman. "Basically what's happening," he adds, "is that two smaller struggling chains are being combined to form one large struggling chain."

In other industry news, Payless Cashways Inc. is in voluntary Chapter 11 reorganization, according to reports issued by the company. The Kansas City, Kan.-based home center retailer has just under 200 stores located largely in the Midwest. South Plainfield, N.J.-based Rickel Home Centers Inc. announced in early October that it will close its 49-store retail operation by the end of the year. Meanwhile, Irvine, Calif.-based HomeBase recently opened new home improvement centers in Henderson, Nev., and Everett, Wash., bringing its total number of stores to 85, all located in the western United States.

And, in the independent hardware dealer realm, Chicago-based Cotter & Co. has announced that its True Value, ServiStar and Coast to Coast chains have merged under the corporate umbrella of "Tru-Serv." Individual store names will not change under the new Tru-Serv configuration, says Cotter & Co. The group now becomes the largest independent hardware chain in the nation, according to the company, with more than 10,500 stores and more than $4.5 billion in annual retail sales.

Competitive strategies The competition for market share between the two heavyweights in the industry, Home Depot and Lowe's, is intense, with both chains in the midst of aggressive national expansion campaigns. But, increasing the store count is not the only area where these two players compete.

"Like all big-box retailers, Home Depot and Lowe's rely pretty much on price as their leading promotional/competitive differential," Gassman says. "And both of them claim to have a large assortment of products, enabling them to be one-stop shopping venues."

Store configuration is where the two chains diverge, he says. "Home Depot purposely wants you to feel like you are in a warehouse once you walk into their store," he continues. "Hence, [there are] the large number of palettes littering the floor, the tight aisles, and the not-so-high lighting levels."

Lowe's, on the other hand, "recognizes that 70 percent of home decor decisions, and 50 percent of home center purchases, are made by women," Gassman continues. In response, "Lowe's has taken the opposite tack from Home Depot," he says. "They want their stores to be pristine, sparkling, brightly lit, with wide, uncluttered aisles; in short, more attractive to women."

In those numerous instances where Home Depot and Lowe's locate stores adjacent to one another, the results are often positive for both. "They feed off of each other," notes Gassman. "When a Lowe's and a Home Depot locate directly across the street from each other, they both do really well, while everyone else in the market suffers dramatically," he explains.

Outlook On a national basis, Gassman foresees a moderate-growth economy with no recession on tap for 1998. Given this scenario, he looks for growth in the hardware/home improvement retail segment to be "not much greater than the economy as a whole, but not much less."

Within the segment, "Home Depot and Lowe's will grow dramatically faster that the rest, perhaps at a 20 to 25 percent annual rate," says Gassman. Meanwhile, pressures on other players in the industry, including Payless Cashways and the new Hechinger/Builders Square combination, will continue.

The real growth opportunities for home improvement retailers lie in smaller markets, says Gassman. The mom-and-pops do well in these venues, he notes; but among the bigger players, "only Lowe's seems to have figured out how to do business in smaller markets."

Gassman adds that the major home improvement center retailers increasingly want to locate on "parasite" locations relative to major malls. "This gives the home improvement center easier access to the impulse shopper," he explains. "In the past, catering to the impulse shopper has not been a big deal in this industry," says Gassman. "But, it's going to become bigger," he predicts, "as the players run out of other ways to generate same-store sales gains."

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