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Lumber Liquidators Holdings Inc. shares slid about 10% on Tuesday after Morgan Stanley downgraded the stock to the equivalent of sell, citing competitive and operational headwinds that continue to dog the company after a 2015 scandal.
Analysts led by Simeon Gutman downgraded the stock LL, -9.68% to underweight from equal weight and lowered their price target to $5 from $9. The hardwood-flooring retailer has struggled to achieve a sustainable improvement in sales since regulatory and product issues that hit in 2015, even as the broader home-improvement market has picked up.
“At the same time, competition is intensifying,” they wrote.
Floor & Decor Holdings Inc. FND, -0.81% , Lumber Liquidators’ main pure-play competitor, is taking share by growing its store base at a rate of about 20% a year and expanding into new regions, they wrote.
“The big-box home-improvement retailers are also more focused on the hard-surface flooring category than in the past,” said the note.
Read: Lumber Liquidators discloses $30 million settlement of class-action suit over bamboo flooring
Lumber Liquidators is in the midst of a brand revamp, which is needed but still in its early stages. In the meantime, with same-store sales unlikely to show growth, the company’s earnings power is likely to lag market expectations, said Gutman.
Lumber Liquidators shares were slammed in March 2015 after a “60 Minutes” report alleged that Chinese-made laminate flooring from Lumber Liquidators installed in many American homes contained far higher than accepted levels of formaldehyde, a known carcinogen. The report further alleged that the wood was labeled as being CARB Phase 2–compliant, referring to the California Air Resources Board, which sets standards for formaldehyde emissions in wood flooring.
The company was forced to suspend the sale of its Chinese-made flooring, was hit with a slew of lawsuits and an exodus of executives, and became the subject of a Justice Department probe.
Morgan Stanley is expecting the company to see EBIT margins contract in 2020 as same-store sales remain negative, with the turnaround unlikely to see much traction before 2021.
“However, we believe progress will be limited. For top-line growth, we assume comps only reach 2% by 2022 and stay flat in subsequent years ([approximately] 2% comps match FND’s mature store comps, and it seems optimistic to assume LL can grow at a higher rate),” said the note.
See also: Your hardwood floor may have been harvested illegally
As far as the housing market is concerned, analysts are expecting positive housing trends to be a tailwind for now, but, with the cycle seeming to be in its late stages, that support may be short term.
“We would reassess our rating if LL overhauls its brand more comprehensively than the current transformation plan suggests (including a potential name change for the company),” said the note.
See: Here are the home upgrades with the best bang for the buck
Lumber Liquidator shares have fallen 26% in the last 12 months. Floor & Decor shares have surged 51% in the same time frame, while the S&P 500 SPX, -0.31% has gained 25%.
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