You Haven’t Missed the Rally in RH Stock Yet


RH (NYSE:RH) is in the middle of one of the greatest Wall Street turnarounds in recent history.

Source: Lou Stejskal via Flickr


Two years ago, RH stock was in free-fall from $100 to $40. The growth narrative looked broken. Growth was decelerating at an alarming rate. The 20% comparable sales growth story was turning into a mid-single digit comparable sales growth story. The luxury furniture retailer was simply having a tough time driving traffic through its doors.

The company spent all of 2016 in investment mode to reinvigorate the growth narrative. RH transformed its business from a promotional to a membership model. They redesigned their supply chain network and decided to aggressively clear inventory in an attempt to rationalize the product offering. They launched brand new business initiatives like RH Modern and RH Teen. Even the Source Book got a face-lift.


All of these changes weighed on operational results, specifically margins, which caused earnings to collapse.

But that near-term pain has paid off. Big time. RH has spent all of 2017 reaping the rewards of 2016’s investments. Comp growth is strongly positive. Margins are exploding higher. Return rates, exchange rates, and cancellation rates are all down. Earnings are soaring.

All in all, RH stock has rebounded from a $25 low earlier this year back to the $100 level it was trading at in late 2015.

Now that RH stock is back to where it was, is this rebound story over? Has the rally already happened? Most of it, yes. But not all of it. While RH stock likely won’t quadruple again over the next 12 months, I do see another 20% upside in this name.


Here’s why.

The 2018 Guide Paves The Way For RH Stock To Head Towards $120

RH stock’s most recent leg higher is due to strong guidance. This strong guidance also paves the way for RH stock to keep heading higher.

The company recently announced preliminary third-quarter numbers, and they were much better than expected. Revenues are expected to rise 8% in the quarter now, versus expectations for a 5-7% rise prior.

That isn’t a huge revision upward, but the big surprise came on the bottom-line. Earnings are expected to be $1.03 per share, which is 50% higher than the prior guide of 70 cents.


RH also boosted its full-year earnings guide. Earnings in fiscal 2017 are now expected to be $84.5 million, 15% higher than the prior guidance.

Clearly, the profit margin expansion narrative remains as strong as ever.

In addition to boosting fiscal 2017 guidance, RH also unveiled a strong 2018 guide. Revenues are expected to rise 6.5% in fiscal 2018, implying that revenue growth won’t slow anytime soon. Net income is expected to be $135 million, which is 60% higher than fiscal 2017.

The robust earnings growth will be driven by continued healthy margin expansion. Adjusted operating margins are expected to grow to 9-10%, versus 6-7% this year and under 5% last year.


This is all very promising. Essentially, the 2018 guide implies that RH is a mid-single digit revenue growth story over the next several years. That moderate revenue growth should lead to huge earnings growth due to margin expansion and buybacks (RH has a huge share repurchase program in the pipeline).

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Pending share buybacks, the $135 million in net income in fiscal 2018 should translate to roughly $5 or more in earnings per share ($5 is actually a very conservative estimate). That earnings base should be able to grow around 10-15% per year, given mid-single digit revenue growth, some margin expansion, and big buybacks.

The S&P 500 is currently trading at 19.6x current year earnings for 10.4% earnings growth over the next several years. That is a 90% premium to growth.

Apply that 90% premium to RH stock. You get a “fair” price-to-earnings multiple of about 24. A 24x multiple on $5 or more earnings per share in 2018 implies a 1-year forward price target of at least $120.

Bottom Line on RH Stock

The turnaround isn’t done yet. Top-line growth remains healthy. Margins are still expanding. Earnings are still exploding higher.

Once that earnings growth moderates (likely after 2018), then the turnaround will be mostly over. Until then, RH stock should remain a big winner. I easily see another 20% upside over the next 12 months.

As of this writing, Luke Lango was long RH.

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