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Lowe's (NYSE: LOW) Second Quarter 2021 Earnings Conference Call, August 18, 2021, 9:00 AM Eastern Time

Good morning, everyone, and welcome to the Lowe's Companies 2021 second quarter earnings conference call. My name is Darryl, and I will be your telephone operator today. [Operator Instructions] I will now forward the call to Kate Perlman, Vice President of Investor Relations.

Kate Pearlman - Vice President of Investor Relations

Thank you all and good morning. With me today are Chairman, President and CEO Marvin Ellison (Marvin Ellison); Bill Boltz, our executive vice president of marketing; Joe McFarland, our store executive vice president; and our executive Dave Denton, Vice President and Chief Financial Officer. I want to remind you that our press release this morning contains a notice of our forward-looking statements, which can be found on Lowe’s investor relations website. In this conference call, we will make forward-looking comments, including our expectations for the 2021 fiscal year.

Due to various risks, uncertainties and important factors, actual results may differ materially from those expressed or implied, including risk factors, MD&A and the results discussed in other parts of our Form 10-K annual report and other parts of our other SEC documents . In addition, we will discuss certain non-GAAP financial measures. The reconciliation of these items with US generally accepted accounting principles can be found in this morning's press release on our investor relations website.

With this, I will forward the call to Marvin.

Marvin Ellison-Chairman, President and Chief Executive Officer

Thank you, Kate, and good morning everyone. First of all, I want to take a moment to express my thoughts and prayers to those affected by the ongoing pandemic and many wildfires. At Lowe's, we are always committed to the health and safety of our employees and customers, while supporting the communities in which we operate. The resilience of our customers and our colleagues is something I admire every day.

Now, turning to our results. We are very satisfied with the performance in the second quarter. In the quarter, comparable sales for the entire company fell by 1.6%, and comparable sales for the United States fell by 2.2%. On a two-year basis, comparable sales for the entire company and the United States increased by 32%.

Our outstanding two-year performance benefited from the excellent execution of our overall home strategy, which allowed us to win Pro and DIY customers while meeting the positive growth needs of Pro, Lowes.com and our installation service business. As expected, in this quarter, we saw a decline in DIY demand compared to last year, as many households reverted to pre-COVID buying patterns and weekend trips after Memorial Day. But due to the agility of our overall family strategy, we were able to use professional needs to drive 21% growth this quarter and 49% growth within two years. This level of professional growth is impossible to achieve without our high attention to professional clients over the past 24 months.

This intense professional focus includes the US store relocation project that we implemented last year. This reset allows us to create a more intuitive store layout for professionals who are adjacent across products, so professionals can quickly and easily find all the products they need for work. As a reminder, our core professional clients are small and medium-sized business owners.

These customers often shop throughout the store, affecting many product categories. As we continue to receive more spending from them, we will continue to increase the productivity of our store's top and bottom lines. Later in the conference call, Bill will discuss how we will continue to expand our professional product offering, and then Joe will discuss our enhanced Pro online experience. During the quarter, our installation services also achieved double-digit growth.

We continue to expand the products available for installation and use our enhanced e-commerce platform and improved business model to provide a better customer experience. We expect our installation service business will continue to play an important role in our overall home strategy, as customers increasingly expect us to provide end-to-end turnkey solutions for their home project needs. At Lowes.com, sales increased by 7% on the basis of a 135% increase in the second quarter of 2020, which means that the sales penetration rate for the quarter was 9%, and the two-year comparison was 151%. Our enhanced omni-channel products continue to resonate with our customers, who increasingly want to be able to shop flexibly whenever and wherever they are.

We are also satisfied with the performance of the Canadian business. In the second quarter, despite a number of COVID-related operating restrictions, Canada’s salary growth was the same as that of the United States. We also continue to improve our product supply, which is another pillar of our overall home strategy, because we help meet customers' desire to upgrade their home and style.

In addition to the 20% growth in these categories last year, we also provide strong active competition in the kitchen and bathroom, flooring, appliances and decoration sectors. We experienced a 17% increase in air tickets worth more than $500, which was driven in large part by these categories, reflecting the continued confidence of consumers in investing in homes. This also strengthens consumers' confidence that Lowe's is the right destination for their home decoration needs. During the quarter, operating profit margin increased by approximately 80 basis points, resulting in diluted earnings per share of $4.25, an increase of 13% compared to the adjusted diluted earnings per share of the previous year.

In the face of unprecedented wood price fluctuations in the second quarter, our improved operating performance reflects the benefits of our new price management system and our strict focus on permanent productivity increases or PPI. Bill and Joe will discuss these two initiatives in more detail later in the conference call. I now want to take a moment to discuss a very important milestone in the company's transformation. When I joined Lowe's as CEO in July 2018, I discussed the importance of transforming and modernizing our supply chain.

The basis for this transformation is the company's shift from a store-based delivery model to a market-based delivery model for large products. I am happy to announce that this quarter, we have completed the conversion of the Florida area into a delivery model for market-based appliances and other large and bulky items such as grills, riding lawn mowers, and selected outdoor furniture. In this new delivery model, products flow from the bulk distribution center to the cross-docking terminal, directly to the customer's home, bypassing the store completely. This replaces the traditional store delivery model, in which we store electrical appliances in storage rooms and storage containers at the back of the store, and then use store-based trucks and employees to deliver these products to customers’ homes.

To say that this legacy process is inefficient would be an extremely understatement. The new market-based delivery model has driven higher appliance sales, higher profitability, lower inventory, higher on-time delivery rates and higher customer satisfaction. We are freeing up our storage room space, which will allow us to expand our same-day and next-day professional and DIY fulfillment capabilities in the near future. We plan to launch a market-based delivery model in more regions before the end of the year, and then complete the launch in the United States

In the next 18 months. With this new delivery model, we will continue to drive sales, inventory turnover and operating leverage through technology-driven, simplified and customer-centric processes. Before I end, I want to share my views on the home improvement market and Lowe's chance of winning in this market. The outlook for the home improvement industry is still very optimistic.

As mortgage interest rates are at historically low levels and housing prices continue to appreciate, residential investment is expected to remain high. We are also pleased that we continue to see higher household formation trends and long-term wallet share transfer to households. It is also worth noting that any recent pressure on housing transaction volume has nothing to do with a typical economic downturn. In fact, the demand for housing is in short supply, causing housing prices to continue to rise.

Because of this, consumers have more confidence in repairing and remodeling their houses. As a reminder, about two-thirds of Lowe's annual sales come from repairs and maintenance activities. In addition, our research shows that it takes several years for housing supply to meet expected demand. This is still a very positive indicator of family improvement.

In addition, the customer's view of their home is very direct. As long as their homes appreciate, they will regard the upgrading and improvement of their homes as investments rather than expenses. Looking to the future, although the business environment is still uncertain, we are confident that our overall local strategy provides us with the agility to operate profitably when customer liquidity is high and low. Finally, I would like to express my heartfelt thanks to our frontline staff.

When I visit stores across the country every week, I am constantly inspired by the hard work and commitment of our employees who support our community while providing excellent customer service. With this, I will now forward the call to Bill.

Bill Bolz-Executive Vice President, Marketing

Thanks, Marvin, good morning everyone. Comparable sales in the United States fell by 2.2% in the second quarter, but increased by 32% on a two-year basis. We promote solid and active competition in our building products and home furnishing divisions.

Although we ushered in an amazing spring in the first half of this year, the shift in consumer behavior after Memorial Day has led to a negative impact on our seasonal categories this quarter. However, the growth is based on two years of broad growth, and all product categories have grown by more than 15% during this time. In terms of construction products, driven by strong professional demand and high inflation, we have provided double-digit compensation for electrical and wood products. As Marvin mentioned, our marketing and finance team experienced unprecedented fluctuations in timber prices during the quarter.

Our enhanced pricing system allows us to effectively reduce the impact on our product profit margins. Dave will provide more detailed information on the near-term impact of falling timber prices on our profit margins and sales, but I believe our talented team has the right pricing tools and processes to continue to deal with rising levels of inflation and price fluctuations I am also satisfied with our performance in home decoration, because DIY customers continue to rely on Lowe's to meet their home renovation needs. By leveraging our overall home strategy, we have achieved active competition in the areas of home appliances, kitchen and bathroom, flooring and decoration based on the growth of more than 20% in these categories last year.

Taking advantage of our number one position in the electrical appliance sector, we have provided a strong competitive advantage in this category this quarter, especially in washing machines and dryers, as well as refrigerators and freezers. Countertops, kitchen cabinets and dressers are the biggest contributors to our kitchen and bathroom products, because our customers continue to appreciate the new trends and coordinated styles provided by our own allen + roth brand. Vinyl flooring is the best-performing category of flooring, driven by Pergo's new innovative WetProtect product.

It is the leading brand in this category unique to Lowe's, and this product provides our customers with peace-of-mind waterproof protection for floors and subfloors. With the launch of our new SpringFest event, we also ushered in a strong spring in the first half of this year. We are very pleased that our customers use powerful products to help them make the most of outdoor living spaces. During the quarter, our battery-powered outdoor power equipment increased by more than 30%. Our DIY and professional customers are attracted by the convenience and quality of EGO, Kobalt, CRAFTSMAN and Skill brands and their zero-emission rechargeable devices.

The addition of the EGO and Skill brands will only consolidate our first position in the field of outdoor power equipment. They really complement our other leading brands such as John Deere, Honda, Husqvarna, Aaron's and CRAFTSMAN. We continue to add new brands and products to our product line, especially for our professional customers. This quarter, with the launch of Flex power tools, we provided an in-store demonstration station for the new Flex cordless power tools.

This brand is Lowe's exclusive brand, bringing innovation to the power tool category, bringing more power and faster charging times than competitors. We also introduced the Mansfield brand in our bathroom department, including built-in bathtubs, showers and toilets. Mansfield is another exclusive brand in the family center field. It is a strong professional brand whose products are made in the United States. I am happy to announce that with the introduction of SPAX fasteners, we will bring more American-made products to Lowe's this fall.

SPAX is the market leader in multi-material structural screws. Their industry-leading innovations provide some of the most advanced fasteners on the market. Now, adding SPAX to the fastener program completes the professional classification in this category that our professional customers need. The addition of Flex power tools, Mansfield plumbing products and SPAX fasteners continues to strengthen our professional brand library, which already includes strong professional brands such as Simpson Strong-Tie, DEWALT, Bosch, Spyder, GRK, FasenMaster, ITW, Lufkin , Marshalltown, S-Wing, Eaton, SharkBite and LESCO.

As Marvin discussed before, we achieved a strong sales growth of 7% and a two-year growth of 151% on Lowes.com. This quarter, we launched a virtual kitchen design to enhance our omni-channel customer experience, which enables customers to create the kitchen of their dreams, allowing them to seamlessly communicate between Lowes.com and the experts of our virtual central design team Carry out their projects. As part of our overall home strategy, we will launch a virtual search in our store, and now customers can hover their smartphone over the product and explore endless similar products on Lowes.com. This is just one example of how we continue to integrate the online and in-store shopping experience.

Looking ahead, we are excited about the upcoming autumn and winter holidays, because as the weather gets cooler, our customers will turn their attention to their homes and outdoor living spaces. We are confident that our overall home furnishing strategy will enable us to continue to improve our product range and enable us to capture market share among our DIY and professional customers. We will continue to use our new price management system to effectively manage our product profits through strict supplier cost management methods and data-driven combined pricing methods to further enhance and improve our daily competitive price strategy. Before closing, I would like to thank our supplier partners and merchants for their commitment to serving customers.

Thanks, I will now forward the call to Joe.

Joe McFarland-Executive Vice President of Store

Thanks, Bill, good morning everyone. In the second quarter, we continued to improve the execution of our stores through our employees focusing on serving customers and maintaining a safe store environment. In early August, in response to the surge in Delta variants, we restored the mask requirements for all employees, regardless of their vaccination status. I am grateful that our employees have once again stood up to the dynamic challenges brought about by this epidemic.

I am happy to announce that 100% of our stores have received the Winning Together profit sharing bonus for the sixth consecutive quarter, which has brought us $91 million in expected expenditures for our frontline hourly workers. As our efforts once again exceeded expectations, this meant an increase of US$20 million from the target payment level. We are also pleased that our PPI plan continues to gain traction and once again improve operational efficiency this quarter, because we use store payroll through operational process improvements and technical improvements to reduce the time our employees spend on task activities so that they can focus In serving customers. In this quarter, despite labor shortages in some parts of the country, we still maintained strong staffing levels.

We continue to strengthen our labor dispatch system that we launched in 2019, which allows us to adjust our payroll schedule based on customer traffic patterns. It also enables us to respond quickly and efficiently to changing market conditions, thereby ensuring that we continue to provide quality customer service while driving operating leverage. This year, we have installed our self-developed self-checkout solution in more than 550 stores without any customer self-checkout function. This Lowe's self-checkout machine is designed for home improvement shoppers. It has a simplified user interface, multiple ways to scan products, and the ability to use Lowe's military and credit card discounts.

This new solution is already driving higher customer adoption and increased wage leverage. With the full introduction of digital signage in wood and electrical appliances, we can not only save labor, but also increase product profit margins, because we can now adjust prices faster to protect share and profit margins during price fluctuations. As mentioned earlier, our online penetration rate for the quarter was 9%. About 60% of online orders are picked up in store, and our dedicated in-store fulfillment team is an integral part of Lowe's omni-channel customer experience.

We will continue to use technology to improve the efficiency of the customer experience, whether customers place orders through the front desk or through the roadside or through their favorite option (our new pickup locker). Now, let's turn to the performance of professional clients. As mentioned earlier, the professional version continues to surpass DIY with 21% of the quarterly professional version and 49% of the two-year professional version. We continue to expand our digital connections with professional clients.

We have just completed the migration of Lowe's for pros to the cloud. This important step in the development of our Professional Edition business provides the Professional Edition with enhanced features, faster updates, improved site stability, and more personalized offers. A new feature is fast reordering, which enables our professional customers to quickly reorder items they frequently buy through Lowe's. We focus on making the online and in-store professional shopping experience as simple and intuitive as possible.

We are also looking for innovative ways to expand our membership exclusive rights, thereby developing our professional loyalty program. Every day, we work hard to prove that Lowe's is the new home for professionals. Looking ahead, I am excited about the second half of the year as we use our overall home strategy to consolidate the momentum of professional and installation services while meeting the needs of DIY customers as they continue to deal with indoor and outdoor projects to improve their homes. Before closing, I would like to thank our frontline employees, other executives and senior officials, businessmen and field leaders once again.

I go out to visit the store every week to ensure that we continue to interact with and support our frontline employees in this challenging business environment. I am extremely proud of this team and their continued hard work and dedication. With this, I will give it to Dave.

Dave Denton-Executive Vice President

Thank you, Joe and I will begin to comment on the company's strong capital allocation plan this morning. In the second quarter, driven by continued strong operational execution and consumer demand, we generated $2 billion in free cash flow. We returned $3.6 billion to shareholders through a combination of dividends and stock repurchases. During the quarter, we paid a dividend of US$430 million at a price of US$0.60 per share and announced that we would increase the dividend of the dividend paid on August 4 by 33% to US$0.80 per share.

In addition, we repurchased 16.4 million shares for US$3.1 billion, and we also have a share repurchase authorization of US$13.6 billion. Capital expenditures for the quarter totaled US$385 million as we invested in the business to support our strategic growth plan. At the end of the quarter, we had cash and cash equivalents of $4.8 billion on our balance sheet, which is still very healthy. At the end of the quarter, the adjusted debt-to-EBITDAR ratio was 2.08 times, well below our long-term established target of 2.75 times.

With this, now I want to turn to the income statement. In the second quarter, we generated diluted earnings per share of US$4.25, an increase of 13% compared to last year's adjusted diluted earnings per share. During the quarter, we promoted an increase in operating leverage because we executed numerous productivity plans throughout the company. From this point on, my comments will include approximations and comparisons with certain applicable non-GAAP measures.

Sales in the second quarter were $27.6 billion, and comparable sales fell 1.6%. As commodity inflation exceeded 400 basis points, mainly wood, as well as increased sales of electrical appliances and appliances, comparable average ticket prices rose by 11.3%. This was offset by a 12.9% decrease in the number of compensation transactions, due to the decline in sales of small items such as cleaning products, paints, coverings, and living objects to DIY customers. In the second quarter, we experienced a period of limited consumer mobility, so many of our customers are dealing with small projects around their homes.

Also in the second quarter of this year, due to the extremely high price of wood this quarter, DIY customers reduced their purchases of wood and related accessories. Remember, compensation transactions increased by 22.6% last year, which resulted in a 6.8% increase in the number of compensation transactions in two years. As Marvin pointed out, our investment in the overall home strategy has enabled us to achieve transformation in this quarter and achieved excellent performance in many of our key growth areas, with professional growth of 21%, online growth of 7%, and installation services. 10% growth and strong enthusiasm covers the DIY decoration category. US

Compound sales for the quarter fell by 2.2%, but increased by 32% in two years. Our US monthly compensation was negative 6.4% in May, negative 1.8% in June, and positive 2.6% in July. After Memorial Day, consumer mobility has increased significantly, and consumers have the opportunity to travel and spend in other discretionary categories.

We have seen a decline in DIY customer traffic in our store on weekends, while traffic on weekdays is still strong. On a two-year basis from 2019 to 21, sales in the United States increased by 32%. In June, it increased by 32%, and in July, it increased by 31%. The gross profit margin was 33.8%.

As expected, gross profit margin decreased by 30 basis points compared with last year, but increased by 165 basis points compared with the second quarter of 2019. The product margin ratio increased by 40 basis points. Despite unprecedented fluctuations in timber prices, our team effectively managed product costs and pricing during the quarter. Our team continues to minimize the increase in supplier costs due to rising commodity prices and rising industry transportation costs.

In addition, higher credit income brought 30 basis points of revenue to the gross profit margin for the quarter. These benefits are offset by the 20 basis points of pressure caused by the shrinkage and the destruction of well-being caused by extreme weather conditions in the west, the 25 basis points of mixed pressure related to wood, and the 20 basis points of poorer product mix in other categories. As we absorbed some higher distribution costs and continued to expand our omni-channel capabilities, supply chain costs also put pressure on profit margins by 35 basis points. Our supply chain team will continue to use our scale and carrier relationships to minimize the impact of these distribution costs on the retail industry.

Now, I want to take a moment to discuss the near-term impact of the sharp decline in timber prices that began in early July. Since then, we have been selling many of our wood products at a compressed profit margin because we previously purchased these products at a higher cost. However, we expect that by the end of August, we will conduct a large number of sales through these higher-cost inventory levels. Despite these short-term pressures, we still expect the gross profit margin for the whole year to rise slightly from last year.

SG&A accounts for 17% of sales. Compared with LY, the leverage ratio is 135 basis points, which is mainly due to the reduction in costs associated with COVID. We incurred US$25 million in COVID-related expenses this quarter, compared with US$430 million in COVID-related expenses last year. The US$405 million reduction in these costs resulted in 145 basis points of SG&A leverage. These benefits were offset by 20 basis points of pressure brought about by the increase in overall health care costs for employees.

Operating profit was US$4.2 billion, an increase of 6% over LY. The 15.3% operating margin of sales for the quarter increased by 80 basis points from the same period last year. This improvement was due to the increase in SG&A's leverage, which was partially offset by lower gross profit margins. The effective tax rate was 24.4%, the same as the previous year.

At the end of the quarter, inventory was $17.3 billion, down $1.1 billion from the first quarter, in line with seasonal trends. This reflects an increase of $3.5 billion from the second quarter of 2020, when our inventory positions were under pressure due to rising demand levels and COVID-related supply disruptions. Current inventories include an inflation-related year-on-year increase of US$665 million, most of which is caused by wood. Now, before I end, let me comment on our current trends and how we plan our business for the second half of this year.

Obviously, we continue to manage our business in a very unstable environment, and the Delta variable trend has injected new uncertainty into the forecast. However, given our strong performance in the first half of the year, Lowe's is clearly far ahead of the strong market scenario we shared with investors in December 2020. Our outlook assumes that the home improvement market will slow down in the second half of the year due to commodity inflation and continued increase in consumer mobility driven by returning to work and schools. We expect Lowe's mixed-adjusted market demand to remain basically the same throughout the year.

This related market view reflects Lowe's higher DIY portfolio and lower online penetration rate. Now, in this revised scenario, we expect Lowe's annual sales to reach approximately US$92 billion, which is equivalent to a two-year comparable sales growth of approximately 30%. This month so far, on a two-year comparable basis, the same-store sales trend in the United States in August is basically the same as the performance level in July.

As expected, we have seen the number of compensation transactions increase by hundreds of basis points from the second quarter level, partly due to the increase in unit sales of DIY lumber and related accessories, as the DIY customers sitting on the sidelines renewed after the lumber price fell. Get involved. Importantly, we expect gross profit margin to increase slightly from the previous year because we use our pricing and promotion strategies to mitigate the impact of product and transportation cost inflation. With the expected increase in sales and the implementation of our current productivity efforts, we are now increasing the expected full-year operating income margin to 12.2%. We expect rising cost inflation to have a negative impact of 10 basis points.

In addition, we are tracking our operational plan. Therefore, we now expect to generate incentive compensation higher than planned, resulting in 20 basis points of pressure. Relative to a revenue outlook of $92 billion, these expenses together represent 30 basis points for deleveraging operating margins. Without these expense offsets, we expect the full-year operating margin to be 12% and a half.

When I consider the business outlook for the rest of the year, I am happy that we now expect to achieve an operating margin improvement of approximately 145 basis points in 2020. This reflects our strict focus on improving productivity and operational excellence in an organization. We plan to spend 2 billion U.S. dollars in capital expenditure this year. In addition, we expect to execute stock repurchases of at least US$9 billion.

Finally, we operate in a great industry and are expected to benefit from long-term tailwinds in the coming years. We are investing in the business and our overall family strategy to drive long-term growth so that we can continue to outperform the market and drive meaningful long-term shareholder value. With this, we are now ready to ask questions.

[Operator Instructions] Our first question comes from Kate McShane from Goldman Sachs. Please continue to answer your questions.

Kate McShane - Citi - Analyst

Hi. Good morning. Thank you for asking our question. Considering the changes in Pro and all the brand additions you made and the changes you made to the store, as well as the changes in Pro we saw in terms of sales mix, can we assume that Lowe's pro is 20% to 25% higher than the ones you have cited in the past % high? How does the 21% professional salary compare to your plan this quarter?

Marvin Ellison-Chairman, President and Chief Executive Officer

Kate, this is Marvin. Let me answer this question. I would say that the professional version performed better than our original plan. We know that based on what we saw in the first quarter, we will see a greater shift between the professional version and the DIY version.

But the 21% compensation and 49% two-year compensation exceeded our initial expectations. That being said, if you look at our professional penetration rate from 2018 to today, it has increased by about 300 basis points. However, as our total sales continue to grow, the overall professional penetration rate is still hovering around 25%.

Kate McShane - Citi - Analyst

alright, thank you very much. In terms of gross profit margin as a follow-up issue, it seems that your guidance for a slight increase in gross profit margin this year means that gross profit margin may remain flat or rise in the second half of the year. Is there any way to describe the difference between Q3 and Q4?

Dave Denton-Executive Vice President

Kate, it's Dave. I may not give such a level of granularity. I would say the important thing is that you are absolutely correct, we do expect gross margins to rise slightly in the second half of the year, and it will definitely rise throughout the year.

Kate McShane - Citi - Analyst

Thank you. Our next question comes from the collaboration between Simeon Gutman and Morgan Stanley. Please continue to answer your questions.

Simeon Gutman - Morgan Stanley - Analyst

Hey. Good morning everybody. Thank you for your question. My first question, '22 is actually a bit theoretical, and I know you haven't given any guidance on this.

The question is, if the business grows next year, if the industry grows next year, will any cost pressure we see from this environment prevent profit margins from growing in a sales growth environment? Or, if sales remain flat or decline slightly, does the transformation of the business have sufficient leverage to achieve profit growth? I just want to understand the types of buttons in Flex and how you are thinking about managing your business into the next year.

Dave Denton-Executive Vice President

Simon, this is Dave. Maybe I will start. I believe Marvin may also interject here. Obviously, as we said today, our goal is to reach 12%.

Now, with the strength of the business, seeing more than 12% of sight at this moment, it is obvious that we have the desire and goal of reaching 13%, and we are still tracking these goals well-to achieve this goal. As we said, from an industry perspective, we are facing cost pressures. Our model and what we invest in and invest in our business allow us to be flexible and adjust so that we can actually take advantage of the business during periods when sales are flat or sales rise slightly. Therefore, we expect that as we continue to move towards our long-term goal of 13%, we will continue to make progress.

Marvin Ellison-Chairman, President and Chief Executive Officer

Simon, this is Marvin. The only thing I want to add is that we are very happy that in the past three years, we have been able to build systems and organizational structures that truly support what Dave calls agility. If you go back to the first quarter of 2019, when we encounter cost and price issues, we have no internal mechanism to effectively manage it. We have now launched a new modern price management system.

Bill Boltz, Dave Denton, and the merchant and finance teams have created cost mitigation teams. These teams work every day to help us manage cost retail and make the right decisions. First, we will consider customers and how we achieve value on a continuous basis. All in all, we now have levers that we can pull, but we didn't have them in the past. So Dave’s point of view is completely correct. We believe that we can effectively manage this issue now and in the future.

Simeon Gutman - Morgan Stanley - Analyst

Then it may be related follow-up actions, and considering the composition of different profit margins, gross margins and SG&A, I know-I think conceptually, growth should not really rise too much. But in the process of transformation, some things are aimed at gross profit margin, for example, some supply chain plans should be lowered-some costs should be removed from the business. So is the principal still the same, in which total revenue is still fluctuating within a range, and SG&A leverage is the source of profit margin expansion?

Dave Denton-Executive Vice President

Yes. Simon, that's right. Remember, we are making very good progress from the perspective of product profitability. We continue to expand in this area.

At the same time, we are investing in the supply chain. When we invest in the supply chain, this basically dilutes the gross margin, but it reduces the SG&A in our store. Therefore, circulation is very efficient on the bottom line. But again, as costs rise in gross margins but outside of SG&A, you will have geographic changes.

Simeon Gutman - Morgan Stanley - Analyst

Okay, this is very helpful. thank you all. good luck.

Thank you. Our next question comes from Zach Fadem from Wells Fargo Bank. Please continue to answer your questions.

Zach Fadem-Wells Fargo Securities-Analyst

Hi, good morning. Therefore, in the context of your 12.2% EBIT margin outlook, can you analyze the impact of your productivity improvements throughout your business, such as market-based delivery, labor scheduling, digital signage, etc.? When we consider the second half of this year, should we expect these gains to expand, or is there anything to offset the impact of incremental investment (such as resetting, etc.)?

Joe McFarland-Executive Vice President of Store

For the rest of this year, we don't have any incremental projects on our plate. I think the script we launched at the beginning of the year is still applicable because we are making the right investment in our business, and we don't think it is necessary to change this. That being said, if you look at the second half of this year, we are investing in the supply chain. We-as Marvin said, we have now launched Florida.

We will promote it to other markets in the rest of this year. So this puts some pressure on our plan, but as we continue to invest in productivity, you will see the leverage of SG&A. This will drive performance, and we will overlap COVID-related expenses in the second half of this year, both of which really drive SG&A productivity.

Marvin Ellison-Chairman, President and Chief Executive Officer

And Zach, this is Marvin. The only thing I want to add is that in his prepared comments, Joe mentioned that we launched our proprietary self-checkout system, which not only creates a better customer experience, but also helps us use the wages in the right way through the implementation of technology Expenditure to reduce physical labor expenditures. We talked about our PPI program, which has a long list of technological improvements that Joe is working with our CIO Seemantini, which allows us to increase productivity, improve customer experience and reduce task processing time, all of which are what we are waiting for now The formula is moving towards our long-term operating income goal of 13%.

Zach Fadem-Wells Fargo Securities-Analyst

understood. Then, given the rising prices of wood and construction materials, you expressed some reluctance or flexibility in the first half of the year. So, with pricing now starting to appear in the July and August combination, can you talk about whether you think the projects in the first half of the year are completely delayed, and to what extent this might be the driving factor for the re-acceleration in the second half of the year?

Marvin Ellison-Chairman, President and Chief Executive Officer

So I will ask Joe to accept this and let him talk specifically about the content of the business manuals we heard from professional customers and what we saw in our own pipeline when we looked at our installation service business. .

Joe McFarland-Executive Vice President of Store

So Michael, a few things. First of all, starting from the service, we absolutely believe in the project business of this installation business. When you see, there are clear categories that have been postponed, mainly outdoor projects, fences, and decorations. When you look at the peak of timber prices, we find that customers are unwilling to continue investing based on prices.

At the same time, we mentioned the strength of the kitchen and bathroom in the prepared comments. Our indoor category performed well in the second quarter, achieving more than 20% of the competition. Therefore, when we see the transition from external to internal, we focus on the focus of the entire family, focus on our focus on professional business, we migrated to Google Cloud, we launched professional loyalty, we continue to add enhancements, We have seen customers respond very well from the perspective of service, and Lowe's advantages have become a new home for professionals.

Zach Fadem-Wells Fargo Securities-Analyst

understood. Cherish your time guys.

Thank you. Our next question comes from Michael Lasser from UBS. Please continue to answer your questions.

Michael Lasser - UBS - Analyst

Good morning. Thank you all for answering my questions. Marvin generally believes that the DIY market will slow down significantly, and Lowe's will be disproportionately negatively affected due to the business mix. How could it be wrong?

Marvin Ellison-Chairman, President and Chief Executive Officer

Well, I am not saying that is wrong. I think this may also take into account that we will not improve our professional business. Therefore, as I mentioned in the prepared comments, we have worked hard for 24 months to truly have a solid professional business. One of the reasons why we provide 32% of the two-year compensation is because 49% of our professional compensation promoted this on the basis of those two years.

So, if you look at it in isolation, Michael, this may be a true statement, but it is a dynamic business. We are improving the dynamic nature of our professional business, and we will continue to seize market share with DIY customers through the things we launch in decoration, how can we're-enhance the allen + roth brand. We have just acquired STAINMASTER as a brand that we will expand. So I think the dynamic nature of DIY and our growth as professionals will make this summary a problem.

Dave Denton-Executive Vice President

Yes. Hey, Michael, this is Dave. Just don’t forget that what has happened here in the past 18 months is to re-emphasize family issues. Although the market has opened — or the US market is opening up, what you see is still seeing a lot of work from home, school at home, and The home is used for activities other than living.

So I believe that over time, whether it is from a professional or a DIY perspective, this industry will have a long-term trend and tailwind. I think the demand will ease, but it will not decline.

Michael Lasser - UBS - Analyst

understood. Super helpful. My follow-up question is, can you quantify the compensation and profit increase you have seen in Florida? You mentioned that you will promote it to other markets for the rest of the year. How quickly can you carry out this work in all markets across the country?

Marvin Ellison-Chairman, President and Chief Executive Officer

Well, I mentioned in the prepared comments that we are considering a roll-out cycle of more than 18 months because we want to ensure that we do it effectively and have a lot of change management, from a process perspective to change management for our employees and Change management to put into the new system so that we can basically create virtual inventory without having to have inventory on hand to sell, which is exactly the market-based delivery model. We are very satisfied with what we saw in Florida. We are satisfied with inventory reduction, sales growth, productivity and expense reduction. But we are a big company.

And we want to make sure, as the old saying goes, we have to take our time so that we can do this effectively. But we are excited about these possibilities. As I said, this is the foundation of our supply chain transformation. Don Frieson, our head of supply chain, joined the operations team. Together with IT, he has won a lot of praise for our success in Florida, and we are now confident to extend it to the entire company.

Michael Lasser - UBS - Analyst

Very helpful. Thank you very much and good luck.

Thank you. Our next question comes from the collaboration between Christopher Horvers and JP Morgan. Please continue to answer your questions.

Christopher Horvers-JPMorgan Chase-Analyst

thanks. good morning everyone. Can you talk-just to check our math. So, so far, you seem to be a 1% to 2% compensation quarter.

Is that correct? Can you talk about the return of some schools that you have seen in the professional and DIY trend? Perhaps in the South, do you see more attention to the family, and hope that this DIY business can continue as people return to their homes?

Marvin Ellison-Chairman, President and Chief Executive Officer

Chris, as you can respect, we hope-we don’t want to over-refine our quarterly data. We think it is wise to share the August trends based on the unique nature of our business environment. However, if you go back to Dave's comment, we will compare August to July with July on the basis of a two-year comparison. That-this is how we look at business.

We believe that with the extraordinary business results we have seen in 2020, the best way to measure our business is to survey on a two-year basis. Now, having said that, we are very satisfied with the trends we have seen in pro and DIY. We believe that for the rest of this year, professional clients will outperform DIY based on year-on-year overlap alone. But as Dave said, we are also confident that DIY will continue to invest in their homes, because housing prices are rising, housing stock is outdated, and it is simple, as the value of the home increases, you will have more confidence in investing.

So we feel good about our performance. We feel strong support, so we have improved our top and bottom line outlook, which reflects our good view of our performance for the rest of the year.

Christopher Horvers-JPMorgan Chase-Analyst

Marvin Ellison-Chairman, President and Chief Executive Officer

Yes, I just add a comment. Your question is especially about the performance of the South and the second quarter. From a professional point of view, we are very satisfied with the performance of the South Division.

Christopher Horvers-JPMorgan Chase-Analyst

understood. Yes, the CAGR for two consecutive years is very strong. And follow up the gross profit margin. So you are indeed slightly above the previous guidance.

So, does the complexity of pricing and credit drive the improvement of the outlook? Going back to those 10 basis points, it sounds like timber pressure. All of this will accumulate. This is an annual impact, and it will basically affect the third quarter.

Dave Denton-Executive Vice President

Well, I think what we are talking about is that we are now experiencing pressure on timber profit margins, and this pressure will loop here by the end of August. We feel good about it. We will continue to invest and focus on Lowe's cost management and pricing ecosystem. And I think between the businessmen and the finance team, we have a very good analysis process, we are promoting the performance of these areas, although we are investing, but we now have a good vision to see this year's gross profit margin increase In a supply chain that compresses profits from a cost perspective.

Christopher Horvers-JPMorgan Chase-Analyst

understood. thank you very much. good luck.

Thank you. Our next question comes from Steven Zaccone from Citigroup. Please continue to answer your questions.

Steven Zaccone - Citi - Analyst

great. Thank you for answering my question. I want to focus on the professional side of the business because you have performed well so far in 2021. Can you talk about the performance of market share, maybe what do you think of the competition so far?

Marvin Ellison-Chairman, President and Chief Executive Officer

Steve, I want to say that, as I said in the previous conference call, the home improvement market share data is dubious at best because the data set is not very good. When we look at the growth of Pro, whenever your business grows, with a growth of 49% in two years, you can confidently assume that you are occupying market share. We believe that this market share comes from many competitors of different sizes. I think this also reflects that Lowe's did not have a coherent career strategy in the past 10 years.

And I think Joe McFarland and his team as well as Bill Boltz and the merchant did a great job in getting us a route on Pro. What I want to do is I just want to take a moment to talk about some professional brands that we have been able to add to the untapped brands, and we think these brands will continue to let us share in this business.

Bill Bolz-Executive Vice President, Marketing

Yes. Thanks, Marvin. So Steve, in my prepared comment, I mentioned that we are going to improve our fastener plan by launching SPAX this quarter. This is just a great plan in the fastener field, which has already supplemented the introduction of the merchants. Other brands like GRK, FastenMaster, Power pro One. Then in other parts of our business, we announced Mansfield, a strong professional brand in the plumbing field.

We have successfully allowed Honda to join the Lowe's family, which is a big event for us, another great plan, the LESCO fertilizer we talked about in the first quarter. Then we achieved real success in acquiring other brands such as Marshalltown, ITW, Lufkin, etc. I have listed some of them, we are just-we are lucky that these brands have recognized the value of the career strategy we did at Lowe's and recognized that this is also an opportunity for them to grow.

Steven Zaccone - Citi - Analyst

great. thanks. It's just a follow-up in e-commerce, because you still see some growth on top of last year's strength. What are the priorities for continuing to drive growth there this year? I think in the long run, where do you think the penetration rate of this business might drop?

Bill Bolz-Executive Vice President, Marketing

Steve, this is Bill. Therefore, in the case of Lowes.com, it is clear that continuing to strengthen product classification and continue to ensure that content is enriched in all types is the key to continuing to build this. But, as we said in the prepared review, we have been able to take advantage of new enhancements, kitchen design programs, virtual search. As Joe mentioned, we also migrated Lowe's to the cloud for professionals.

A few months ago, we migrated all content of Lowes.com to the cloud. All these initiatives have helped, making it easier and faster to strengthen Lowes.com's business each week. Then the merchant team continues to study the way we test new products and test new brands and do different things. Therefore, work with our brand advocates to ensure that we put the right things in front of our customers, and the recommended products are matched with the products so that you can purchase the entire project.

Therefore, a lot of great things are happening on the Lowes.com team. They will continue to make improvements every week to ensure our relevance. We think this is a good opportunity for us to continue to develop our business in the next three years.

Marvin Ellison-Chairman, President and Chief Executive Officer

On the issue of penetration rate, we may reach about 10% by the end of the year. We deliberately do not try to set penetration targets. We are really working hard to be more customer-centric and create an environment for customers to shop in any way they choose. I mean we talk about omnichannel, which is a term that has been overused recently.

But in essence, we only want customers to choose shopping, in-store, online, locker pickup, roadside, in-store, in-store delivery, and provide a variety of options. We will let the penetrating force land where it lands.

Steven Zaccone - Citi - Analyst

Thank you. Our next question comes from Eric Bosshard of the Cleveland Research Center. Please continue to answer your questions.

Eric Bosshard-Cleveland Research-Analyst

Good morning. thanks. Two things. First of all, the impact of wood on the gross margin of the year may be worse than you initially expected.

Can you talk about what is better on the other side? In this regard, can you also address the promotion investment in the second and second quarters and what you are doing there and how does this affect the gross profit margin?

Dave Denton-Executive Vice President

Eric, this is Dave. Obviously, it is difficult to predict how this year's timber gross profit margin will play a role, but obviously, we are facing some pressure at this time. What I want to say is that what we are doing is adopting a portfolio approach in our business and ensuring that we fully manage gross margins so that we can achieve our goals and promises from an investor's perspective. So yes-the offset for the entire product portfolio is quite comprehensive.

I want to say from a promotional point of view, I will ask Bill to comment on this, but we want to make sure we are related to key holidays and first-level events, but our scope is not that broad and/or from a promotional point of view, like We are as deep as in 2019.

Bill Bolz-Executive Vice President, Marketing

Yes, Dave. Eric, I think I want to add that we have discussed this issue in the past. We have been conducting daily competitive pricing strategies. We want to make sure that when we get here, we want to remove this high-low strategy that is used in many categories.

So when you consider the pressure from wood, how it is offset elsewhere, it will be offset elsewhere by not using some of these categories on heavily promoted drugs. So we know that we can compete at a competitive price every day, and this is what the team has been doing. Then you put all the efforts that we discussed in the pricing, cost team, finance team and merchants as well as our on-site merchants and our on-site leaders, we can-we are now looking for opportunities in this parade to do different things and to This way increases profit margins. So from an event perspective, very typical events in the second quarter include Memorial Day, Father's Day, July 4th, and a more normal event method.

When we look back on the second half of this year, we see a similar trend to the second half of the year. So nothing crazy.

Eric Bosshard-Cleveland Research-Analyst

great. Then just a follow-up. Sales guidance for the second half of the year means a certain degree of slowdown from the second quarter or July and August, and there are many ways to check these numbers. Encouraged by rising operating margins, sales guidelines still seem to be somewhat conservative.

How would you describe sales guidance? Is there anything else we should consider within the scope of consideration?

Dave Denton-Executive Vice President

Eric, this is Dave. I think you should not read too much. I think that in the final analysis, we are only operating in a very unstable environment. We just want to make sure that we have a clear understanding of the products that will be delivered throughout the year.

Yes, under normal circumstances, sales in the second half of the year will be milder. I think we have just taken a practical and appropriate method to consider how we will play in the second half, and this is how we planned.

Marvin Ellison-Chairman, President and Chief Executive Officer

Hey, Eric. This is Marvin. One thing I want to add is that you can understand that this is a very unique environment and also a very unpredictable environment. And you have quite a few retailers, so there is no guidance or outlook for the second half of the year.

We want to be as transparent as possible, but we also want to be a little conservative. Because of so much liquidity in this environment, we believe that it is prudent to be conservative, but we also believe that it is equally cautious to look at how we view our business as transparently as possible. But as far as Dave is concerned, don't read too much. Let's ask one more question.

Thank you. Our next question comes from Greg Melich of Evercore ISI. Please continue to answer your questions.

Greg Melich - Evercore ISI - Analyst

thanks. I want to start just to make sure that the inflation figures I get are correct. 400 basis points, is this just wood or inflation, can we compare this to the 10% average fare increase?

Dave Denton-Executive Vice President

That's all, but mainly focused on wood. Mainly wood.

Greg Melich - Evercore ISI - Analyst

understood. So it may be a timber commodity, but it is not that another 200 basis points will be the rest of the box inflation.

Dave Denton-Executive Vice President

Greg Melich - Evercore ISI - Analyst

understood. Then the follow-up is true, Marvin, you are speaking in the prepared comments, and there are several problems in the process of launching a big and cumbersome market. Can you help describe the practical significance of this for DIY and professional enterprises? Some of them-when you launched it, how did it affect operating expenditures and capital expenditures over the next 18 months?

Marvin Ellison-Chairman, President and Chief Executive Officer

Yes. We talked early in the supply chain transformation that we will make an investment of US$1.7 billion in four years. The entire market delivery transformation is included in the entire supply chain transformation. Therefore, we will not increase any capital expenditures to achieve this goal, nor will it be launched in the next 18 months.

But what this actually means is that it just allows us to create a more efficient and modern delivery process. For example, in a market where we have no market delivery today, when you come in to buy electrical appliances, the clerk will sell you the electrical appliances based on their inventory in the store or store. A storage container. If it is not in their sight, they will not sell the device. Assuming you did sell it, then you actually have to call the customer over the phone to arrange the delivery time.

So imagine that in 2021, you cannot go online and create a virtual delivery schedule. Therefore, all of these are being transformed into more modern delivery models. So we pooled the inventory, so we reduced the inventory and reduced the loss. Joe and his team use less SG&A in the store to move items, load items, and drive trucks.

More importantly, it allows us to centrally store inventory, and in some cases, create same-day and next-day delivery options for customers. This model cannot be replicated if it is not fully launched. So we are very excited about this. This is just one of many steps in the transformation of our supply chain, but it is the fundamental step. Again, we will finish the work.

From a change management perspective, we just want to proceed cautiously and not to overcome snowboarding and overburden the company, but we are very excited about the situation in Florida.

Joe McFarland-Executive Vice President of Store

Yes. Listen, Greg, Marvin's point of view, this is a truly innovative approach to how we will enter the market from a supply chain perspective. But when we launched it, as far as you are concerned, we did experience some compression, because when we added these in the first few months, we were not operating at full capacity. Therefore, when we speed up, we have experienced some profit margin headwinds.

But all this is in our 12.2% guide and our goal of reaching 13%. Therefore, in the long run, this is consistent with the narrative.

Greg Melich - Evercore ISI - Analyst

That's great. well done. thank you all.

Thank you. This concludes today's conference call. You can disconnect the line at this time. Thank you for your participation.

Kate Pearlman - Vice President of Investor Relations

Marvin Ellison-Chairman, President and Chief Executive Officer

Bill Bolz-Executive Vice President, Marketing

Joe McFarland-Executive Vice President of Store

Dave Denton-Executive Vice President

Kate McShane - Citi - Analyst

Simeon Gutman - Morgan Stanley - Analyst

Zach Fadem-Wells Fargo Securities-Analyst

Michael Lasser - UBS - Analyst

Christopher Horvers-JPMorgan Chase-Analyst

Steven Zaccone - Citi - Analyst

Eric Bosshard-Cleveland Research-Analyst

Greg Melich - Evercore ISI - Analyst

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