Editor’s note: This column is part of InvestorPlace.com’s Best Stocks for 2021 contest. Luke Lango’s pick for the contest is Arhaus (NASDAQ:ARHS) stock.
Back at the start of InvestorPlace’s Best Stocks Contest for 2022, I came in hot with a bold prediction: The “RH for millennials” would soar as the housing market continues to surge. Well, folks, our original bull thesis on Arhaus (NASDAQ:ARHS) has been eviscerated.
Why? For starters, rising mortgage rates have caused the housing market to come to a screeching halt, which has weighed on furniture shopping.
And Arhaus’ shareholders have paid the price. The stock is down 65% year-to-date (or YTD).
At the same time, inflation of core goods like food and energy has drained consumers’ discretionary spending budgets, delivering yet another blow to furniture spending. As a premium furniture seller, Arhaus is unequivocally struggling to sustain robust growth against this ugly macro backdrop.
Even further, the company has been hurt by some self-inflicted wounds. Arhaus has been slower than expected to embrace e-commerce, which has become an increasingly important sales channel for furniture retailers during the pandemic.
Now, the drop in ARHS stock YTD is entirely warranted. But here’s the thing: Arhaus is still a great company with a solid long-term growth story. There have been some undeniable headwinds, to be sure, but these won’t be around forever. And a rebound in the second half of 2022 is looking more warranted by the day.
Our Bull Case for ARHS: Renewed
Despite its ongoing struggles, Arhaus does have some things going for it right now.
The company’s brick-and-mortar stores are located in affluent areas, which should help it weather the current retail slowdown better than most. Arhaus is also expanding its online presence, and it recently launched a new line of outdoor furniture that could be a hit with customers this summer.
And here’s the thing — for many brands, opening new brick-and-mortar stores has a cascading effect on e-commerce sales. That is, in areas where a brand has a physical retail presence, sales on its e-commerce channel tend to rise accordingly. This is no different for Arhaus. Indeed, it’s reported that around 80% of its e-commerce revenues come from within a 50-mile radius of a physical store.
As it stands, Arhaus has been relatively quiet on opening new stores, finishing the first quarter with just 78 total showrooms across 28 states. It’s understandable, however, that Arhaus hasn’t increased its brick-and-mortar footprint. It’s not the only retailer that’s been dealing with pandemic-related headwinds. But as the pandemic becomes more of a fixture of life, we expect Arhaus management to keep breaking new ground on showrooms, thus increasing the company’s online sales in key markets.
On the valuation front, ARHS stock is now trading at just 8 times 2022 estimated earnings. It’s expected to grow those earnings by 23% next quarter and more than 25% over the next two years. That means the stock is trading at just 5 times 2024 estimated earnings. For comparison, Restoration Hardware (NYSE:RH) — a larger competitor — is trading at 10 times 2024 estimated earnings, about double the valuation. And that’s actually on the low end.
Meanwhile, Walmart (NYSE:WMT) trades at 16 times 2024 estimated earnings. Both Walmart and RH are growing much more slowly than Arhaus. I’m talking about high single-digit earnings growth versus 20%-plus earnings growth. In short, ARHS stock is just too cheap for its own good.
And as the U.S. economy is now rapidly slowing and Treasury yields are falling, mortgage rates look maxed out. A drop in mortgage rates in the second half of 2022 should help to stabilize the housing market. And drops in commodity prices should also increase wallet share for discretionary spending (oil and wheat are both in bear markets).
At current levels, Arhaus stock is too cheap to ignore. The company’s turnaround efforts are starting to pay off, and the stock looks like a good value at just 8 times 2022 estimated earnings. Arhaus is a buy here.
Bottom Line on Arhaus Stock
The latter half of the year should be a lot better than the first half for ARHS stock.
I’m not being hyperbolic when I say that ARHS could recoup all its YTD losses in the second half of the year. Subsequently, over the next two years, shares of Arhaus could rise by 4 times. How did we get to that valuation? Well, if you apply a typical 20 times price-earnings (P/E) multiple on 2024 estimated earnings of $1 per share, we can impute a $20 price target by 2024. At its current perch, ARHS trades hands at just $4.80.
So, while Arhaus has had a rough start to the year, there’s still reason to believe that the company can stage a turnaround. While the situation may look dire on the ground, I’m not ready to give up on my original pick just yet.
On the date of publication, Luke Lango did not have (either directly or indirectly) any positions in the securities mentioned in this article.