THE HEDGEYE EDGE
Costco Wholesale’s (COST) robust sales figures should prove that this is a retailer in a class of its own, yet many prefer to point to an uncertain future. Given COST’s limited SKU count of roughly 3,800 items per warehouse and strong volumes, they can negotiate for the best possible price with producers, and they pass most of those savings onto the consumer, creating a value equation that can’t be beat.
Yes, Amazon is stealing share from brick-and-mortar retail, but COST’s moat will likely prove to be a treacherous crossing for those looking to knock them off the throne. The economic moat that COST has dug over the years, through their continued effort to increase the value provided to their customers, is unmatched in retail. Proven by strong traffic trends that have continued amidst the troubled retail environment. We believe the concerns regarding AMZN and WFM are overblown. When it comes to COST, the shopping occasions are truly different.
2Q18 EARNINGS SHOWED STRENGTH IN THE BUSINESS MODEL
SSS ex-gas/FX for the quarter were up 5.7% in the US and 5.4% for the total company which is built up by traffic growth of 3.7% worldwide and 3.4% in the US, while ticket or average transaction was up 4.6%. All told, this robust top-line performance is indicative of strong share gains as consumers continue to see the value and treasure hunt excitement that COST provides. The strength of the quarter continued into the end of February, with U.S. comps ex-gas/FX for the month up 7.5% (7.7% for the total company), a 45bps acceleration sequentially on a two-year basis. The February comp was built up by 5.2% traffic growth worldwide and 4.8% in the U.S., with the average transaction value up 5.1%.
Despite a competitive price environment, COST was able to achieve a relatively flat gross margin YoY at 10.98%, down just 2bps YoY. Equally as impressive was the 22bps improvement in SG&A as a percent of sales, despite investments in ecommerce, as a result of strong sales performance.
COST’s membership base is one of their strongest assets. We also want to highlight the improvement in renewal trends, which ticked up 10bps sequentially to 90.1% in the U.S. and Canada and 87.3% worldwide, up from 90.0% and 87.2%, respectively at 2Q end. In addition to membership renewals, COST has experienced robust growth amongst their executive member base, which represents two-thirds of sales and a third of the member base.
The fee structure that COST has implemented allows them to take no more than a 14% -15% mark-up on any good – COST shares the wealth. COST doesn’t stop at low prices, they have continued to invest in e-commerce and add value-added services/offerings to provide a more compelling value for members.
It is clear to us that COST has plenty of levers to pull to improve the business, and there is a seat reserved for them in the future of food retail.
BOTTOM LINE
The investment community is constantly trying to knock down COST because of an uncertain future for the food retail environment. But we would note that e-commerce sales are growing at roughly 30%, and COST is improving capabilities and growing a delivery partnership with Instacart (the best in class grocery delivery partner). The environment is certainly changing but there is no reason to think that COST (with ~4% traffic growth) won’t be a big part of the future given no one can beat them on price/value across their limited but premier SKU assortment!
ONE-YEAR TRAILING CHART
