Investors are expecting to hear mostly good news from Costco (NASDAQ:COST) in its upcoming earnings report. The warehouse retailer posted some of its best growth metrics in years over the past few quarters, after all, and the latest announcement from chief rival Walmart (NYSE:WMT) pointed to continued healthy customer traffic in the industry over the last few months.
Yet Costco is facing a few challenges in 2019 that might pressure its earnings. Investors will get important updates on those issues, and more, when the company announces its fiscal second-quarter results on March 7. Let's take a closer look.
Costco releases monthly sales updates, and so there's little doubt that this past quarter included robust revenue gains. The company said in early February that sales at existing locations rose 7% in the prior month and were up nearly 8% over the past 22 weeks after stripping out the impact of gasoline price shifts and changes in foreign exchange rates. The e-commerce channel is expanding at a healthy 24% clip lately. The core comps number implies market share gains over Walmart, which grew at a 4% rate in the past quarter. The retailing titan is seeing better online growth, though.
Investors will find out on Thursday which direction Costco's sales rate moved in the month of February. They'll also receive key updates on customer traffic growth. That metric was a market-thumping 5% in the most recent quarter but likely slowed slightly over the last few months.
Costco's price-leadership approach results in some of the lowest profit margins in the business when it comes to merchandise markups. Gross profit margin hovers around 13% of sales, in fact, or nearly half of Walmart's rate. The chain more than makes up for that weakness through its membership fees, though.
Yet overall profitability might take a step lower this year as Costco deals with several financial challenges. First, there's the price inflation that's lifting costs for most everyday essentials. Second, the retailer is spending aggressively on building out its e-commerce capabilities. And third, the benefit from its recent subscriber fee boost is wearing off. Investors will be eager to hear whether management sees these issues slowing or reversing Costco's impressive earnings growth momentum.
Costco makes most of its money from membership fees, which means its subscriber metrics are more important to its long-term health than traditional retailing trends like sales growth and gross profit margin. The chain's renewal rate has been inching up toward a record 91% over the past year, and that gain is the best evidence investors have so far to suggest that Costco can continue to thrive as more purchasing moves online. So long as members continue to find plenty of value from their annual subscriptions, the chain is in no danger of losing market share to e-commerce giants.
Yet rivals including Kroger and Walmart see that channel as critical to their long-term ambitions, and so they are pouring billions into adding distribution centers that enable things like same-day grocery delivery. Costco isn't ignoring these ideas, but it is taking a more measured approach to them. So far, the chain's healthy subscriber trends and rising operating profits show that this is the right path for the warehouse giant to take.