The shares of this big-box retailer were just upgraded to ‘Outperform’ at Raymond James. The company beat estimates by $0.09 last quarter, and seven analysts have boosted their earnings forecasts in the past 30 days.
Costco Wholesale (COST)
From Internet Wealth Builder
Costco Wholesale (COST) is a multi-billion-dollar global retailer with a total of 723 warehouse club stores in eight countries. Interestingly, its concentration in Canada with 94 stores is quite a bit higher on a per capita basis than in the U.S. where it has 506 stores. This may reflect the fact that it faces a direct competitor with Sam’s Club in the U.S. but no such similar competitor in Canada. Internationally, it has locations in Mexico (36 stores), the U.K (28), Japan (25), South Korea (12), Taiwan (12), Australia (7), and Spain (2).
Costco has important cost advantages. This is proven by the fact that it enjoys a high return on equity (23%), despite the fact that it charges low prices that result in gross margins well below that of other retailers. Its gross profit margin is 15%. Meanwhile, Wal-Mart’s prices include a gross profit margin of 25% and Canadian Tire is at 30%. Competitors find that Costco can charge less while still making ample profits. Conventional wisdom would suggest that Costco attempt to increase its gross margins. But Costco expressly chooses to focus on lowering costs and passing the savings along to customers.
Whenever and wherever a new Costco opens, customers flock and often cause a traffic jam at opening week. That, clearly, represents a competitive advantage.
In its latest quarter, earnings per share were up 13% but they were down 6% in the quarter before that. Revenues per share were up 8% in the latest quarter and up 6% in the quarter before that. After adjusting for variations in fuel prices and currency exchange, same-store sales growth is running at about 4% annually.
Costco is a very well-managed company and has the lowest cost structure of any major retailer. This gives it significant advantages. It is a virtual certainty that Costco will continue to grow and prosper over the years. It likely could easily add stores in any of the international countries where it is already operating. And there are many developed countries of the world that it could enter. Unfortunately, these advantages tend to be reflected in its stock price and p/e ratio and this continues to be the case at this time. The major risk to investors is that the high p/e ratio will decline. The market has recently become concerned about the competitive threat from Amazon and its offer to purchase Whole Foods.
Based on my analysis price of price of $151.56, Costco’s trailing p/e ratio is 27.6, while its price to book ratio is 6.8. Its dividend yield is low, despite recent increases. This is partly due to its relatively low earnings payout ratio but mostly to its high valuation in relation to earnings. (This dividend ratio excludes occasional large special dividends.) The ROE (return on book equity) is very strong at 23%. It is clearly a very high-quality company. Its price does not seem compelling but the p/e ratio has come down from the previous level of over 30.
Costco is a great company that almost always seems to trade at a high p/e level. The recent dip is an opportunity to begin to establish or re-establish a position. Since the price is still not compelling, it would be wise to be prepared to add to the position on any further material dip.
Buy for long-term capital gains.
Shawn Allen in Gordon Pape’s Internet Wealth Builder, www.buildingwealth.ca, 1-888-287-8229, July 23, 2017