This Is Still One of My Top Stocks for This Year

Lately, investors in Latin American retailer PriceSmart (Nasdaq: PSMT  ) have been up in arms over what appears to be consecutive poor showings of quarterly results. As I hope to show you, for long-term investors, fear of the company's demise is largely overblown.

First, the good news.
By many operating metrics, PriceSmart's most recent quarter was excellent. Take a look at how the three months ending in November 2011 compare with the same time frame in 2010.

 Metric

2011

2010

Change

Revenue  $478.7  $368.1 30%
Operating Income  $24.3  $22.2 9%
Net Income  $14.0  $14.9 (6%)

Source: SEC filings.

Throw in there the fact that the company's same-store sales increased a whopping 18.8%, and the picture almost looks perfect.

But then there's that pesky number that, for all intents and purposes, is the one that matters most: net income. To figure out why PriceSmart is taking in so much more money but keeping less of it, there are two areas that need to be investigated.

Explanation No. 1: driving traffic
The first explanation has to do with the sales strategy the company has recently put in place. Like Costco (Nasdaq: COST  ) , the company that it was spun out of, PriceSmart is pushing prices down at its stores. Margins are razor-thin, and all savings that the company can get because of its relationships with providers are passed on to the customer.

The long-term goal is to drive traffic into stores, which, judging by same-store sales increases, seems to be working quite well. Both Costco and Wal-Mart (NYSE: WMT  ) -owned Sam's Club use the same strategy in the United States, relying on membership dues to provide most net income. Because PriceSmart has significantly lower membership dues, though, it remains to be seen how closely its results will mirror its American counterparts.

Regardless of the price of membership dues, PriceSmart is gaining an edge on the competition in Latin America, where there are no warehouse clubs to speak of. Wal-Mart de Mexico (OTC: WMMVY.PK) certainly could emerge as competition, as it has bought out several hypermarts and low-cost grocers but hasn't started clubs of its own yet. PriceSmart's moves now will help it build a moat making entry all the more difficult for competitors.

Explanation No. 2: setting up shop in Colombia
Right now, there are only three analysts closely following PriceSmart, and one only recently jumped on the bandwagon. When that's the case, it can be difficult to tell whether the "no stone goes unturned" due diligence is in place. PriceSmart's stock is up more than 200% over the past two years, and the recent 18% slide could largely be a result of something analysts missed -- specifically, the company's expenses related to opening up shop in Colombia. Its entry there could be a bellwether for future expansion into South America and its growing economies.

But starting up in Colombia won't come cheap. In the most recent earnings release, PriceSmart fell a full $0.11 short of analyst expectations. When we look at what PriceSmart had to say about this, its earnings release was pretty clear: "In total, the net loss in the Company's Colombian subsidiary affected the consolidated Company's net income by approximately $2.8 million, or $0.09 per diluted share in the quarter."

That alone represents the bulk of PriceSmart's "miss." Could it be that analysts simply weren't aware of the costs, or that they weren't tuned in to the company's decision to bring the price of goods down? There's really no way to know. The company doesn't hold quarterly conference calls, and the earnings release is the only real window into what's happening at the company, aside from its annual shareholder meeting.

What 2012 holds in store
Analyst expectations aside, I don't think the recent earnings misses are cause for too much alarm. The company clearly needs to make sure it keeps costs under control, but its history speaks to its disciplined strategy of growth.

With a strategy that should prove to be a great long-term move, expansion into South America, and same-store sales that are booming, my money is still on this international dividend stock.

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Fool contributor Brian Stoffel owns shares of PriceSmart and Costco. You can follow him on Twitter at @TMFStoffel.

The Motley Fool owns shares of Wal-Mart Stores and Costco Wholesale. Motley Fool newsletter services have recommended buying shares of Wal-Mart Stores, Costco Wholesale, and PriceSmart, and creating a diagonal call position in Wal-Mart Stores. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (6) | Recommend This Article (8)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On January 18, 2012, at 7:46 PM, stansocha wrote:

    Isn't this the Motley Fool's #1 Stock for 2012?

  • Report this Comment On January 19, 2012, at 9:52 AM, brightsideLP wrote:

    Problem is the stock is trading at 16x EV/Ebitda ! Hard to justify with shrinking yoy eps numbers. They are focusing on SSS growth....so dont hold your breath for the eps to miraculously turn around soon. New store growth of 7% is already baked in....

    I would expect this to come down to a more reasonable 12-13x EV/Ebitda. Costco trades under 10x.

  • Report this Comment On January 19, 2012, at 10:24 AM, brightsideLP wrote:

    Costco had to raise membership fees 25% to counter margin pressure. PSMT has chosen not to do so. Its a great story but analyst estimates are overstating what the numbers will come at. Its really that simple. SSS growth is great, the areas they do business have a nice growing middle class....the story is great long term. Its simply a stock that ramped from $20 to $80 and needed to go sideways for a while. They have only been averaging 7% growth in new stores annually.....and that is already fully known and priced in. The only new factor here is sluggish margins. Look at it this way - SSS up 20%, new store growth up 7%....and eps down yoy.

    All the while - the stock has gone up 3 fold. Dont get me wrong....at my target of 12 x EV/EBITDA ($48) I will be buying hand over fist....but I think it might get there

  • Report this Comment On January 19, 2012, at 2:50 PM, TMFCheesehead wrote:

    brightside-

    I agree there was a lot of expectation baked into the stock and it might have gotten a little ahead of itself. As I can't predict the future, and don't know if it'll reach $48, I'm all for owning some shares now!

    Brian Stoffel

  • Report this Comment On January 19, 2012, at 7:50 PM, DDDDANNY wrote:

    HOW IS IT THAT PSMT HAS ONLY A 4 STAR RATING IN THE COMMUNITY, GIVEN IT IS THE STOCK OF THE YEAR, AND COST RATES A 5 STAR RATING ????

  • Report this Comment On January 20, 2012, at 8:22 AM, TMFCheesehead wrote:

    @DDDDanny-

    The Star rating is an aggregate opinion of thousands of Fools who can choose an outperform or under-perform rating on the stock. The four star rating means that PSMT is in the second quintile of all stocks ratable by Motley Fool users.

    Brian Stoffel

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12/18/2014 4:00 PM
PSMT $92.59 Up +0.69 +0.75%
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WMT $85.94 Up +1.71 +2.03%
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