Consumers Keep Spending, But for How Long?: Naftali Holtz & Richard McPhail at CNBC FA Summit

Retail sales slumping, an unexpected drop. First time we've seen that this year. So Richard, how's the consumer doing right now?

Well, you know Sarah, we really serve the homeowner. The customer of The Home Depot is the homeowner, whether it's a DIY customer or the professional customer. What we've seen is that demand for home improvement is driven by home price appreciation. Over the last two years we've seen 30% home price appreciation, which equates to a 40% increase in home equity value – the US housing stock increased by almost $7 trillion. That's a lot of dry powder. In Q1 we expected the consumer to show some sensitivity, but we saw a more resilient customer. Part of that is the long-term importance of the home and the fact that people are spending more time at home, wearing them out.

We are, but I don't have to tell you, Richard, that the housing market is in the Federal Reserve's sights. They're going to raise interest rates today by 50 or 75 basis points, and one of the goals is to hurt demand, especially for housing. Mortgage rates have already shot up. So what's going to happen to those higher home prices and therefore your consumer?

Right, well Sarah, I think it's important to step back and think about who our addressable market is. We serve all 130 million occupied housing units in the US plus 40 million in Mexico and Canada. In any given year, only about 4-5% of those homes change hands. That means over 95% of our customers are staying in place. Almost 40% of homeowners own their homes outright, and of those with mortgages, 93% hold fixed-rate mortgages. So for 95% of our customer base, mortgage rates aren't that relevant. They're saying, 'I'm going to stay put, I've got a lot of dry powder, I'm going to remodel my home.' That's where our customers are headed.

Naftali, what about you? How do you respond to how the consumer is doing right now? Because your industry has also been very affected by COVID, and now we're seeing huge demand for travel.

What's happening with pricing? Because a lot of you guys in the travel sector have very strong pricing power right now. It costs so much more to get on an airplane or stay in a hotel. What about cruises?

So are you continuing to raise prices now with this strong demand, Naftali?

What about you, Richard? What's happening on prices in Home Depot?

Well, we did see more inflation pressure than we anticipated. We were anticipating about 5% inflation in our input costs, and it turned out to be twice that. We always maintain we're the advocate for value for our customers. But the customer has proven resilient and home improvement demand is strong, so we're seeing solid demand from that customer.

So there's a disconnect from both of you – what I'm hearing and what we're seeing in the market. Naftali, your stock is down 50% this year, and people are worried about recession. How do you square that?

I mean it is, Richard, a kind of weird phenomenon with you guys. We hear it from a number of consumer CEOs all day on CNBC – the consumer's still in great shape, yet everyone's so focused and worried about a recession. Maybe it's going to be next year, maybe 10 months. It's a strange place to be. How do you tackle the recession question?

It is a strange place to be; it does feel like there's a bit of a disconnect. Again, we're focused on that homeowner. We survey our customers and they tell us their intent to do projects of all sizes has never been higher. We've been measuring this for 20 years, never indexed this high. Professional customers tell us their backlogs have never been healthier. I think part of this is a byproduct of the fact that the home has never been more important. There's a nesting phenomenon. We've proven to ourselves that it's better to be great executors than great predictors of the future. At the same time, we see a healthy customer.

Yeah, I mean they're nesting at home but they're also going out and booking cruises. So Naftali, as a CFO, how do you prepare for – I didn't mean to use a pun – tougher times for the consumer while things are going great right now, yet these predictions, including the fact that Fed policy is changing literally today, could have a material impact on the consumer going forward?

But Richard, what I'm getting at is – is it time to be more prudent? Are you still hiring as much as you were a year ago? Are you cutting expenses? Are you looking at being more prudent to prepare for a more difficult environment?

Well I tell you, Sarah, the COVID environment taught us to manage this business on an extremely short cycle. We watch inventory levels, cost positions, and staffing in a microscope. We have two perspectives: short-term, high degree of vigilance – we lean into customer demand when it's there. But long-term, we're bullish on all the underpinnings of home improvement demand, so we continue to invest in our business to deliver the best customer experience. That's how we'll manage the business.

So you're not pulling back? Nobody's worried like Jamie Dimon about the coming hurricane? Naftali, what else has the consumer told you post-COVID? Because clearly your industry went through one of the biggest disruptions. How is the consumer and the cruiser different in terms of expectations and what you have to do to provide that?

What about you, Richard? I would imagine there have been some shifts in terms of what people are buying or how they're thinking about their homes post-pandemic. Have you made any big strategic changes in the business to address what the consumer wants now?

We really haven't, Sarah. I think the most encouraging demand signals are what we call demand for projects. We saw strength in the middle of the last decade driven by a few categories, but over the last two years we've seen equal lift in demand across all of our categories. We've grown by $40 billion in two years. That's just the sign of a healthy homeowner and healthy home improvement demand in general.