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Costco Doesn't Have a Long-Term Coronavirus Problem

By Lawrence Rothman, CFA - Mar 16, 2020 at 8:40AM

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Results have already been positively impacted by the coronavirus, but will the outbreak eventually create issues for the warehouse chain?

Costco Wholesale (COST 0.52%) reported fiscal second-quarter 2020 results earlier this month. Investors are used to positive same-store sales (comps), with annual increases going back more than a decade. The second quarter continued the trend, with comps rising 7.9% when excluding foreign exchange translations and gas sales.

The report also indicated there is quite a bit going on at Costco. While the timing of the Thanksgiving holiday (which occurred a week later in this fiscal year versus a year ago) boosted comps by 0.5%, overall sales were still strong even when stripping this special circumstance out. There were, however, other forces outside of Costco's control that affected sales last month that were also addressed in the report. While these helped boost near-term results, there could be a negative effect over time. Let's take a closer look at how the novel coronavirus outbreak might impact Costco short term and long term.

a shopper at a warehouseclub walks down the aisle of the store

Image source: Getty Images

Early reaction to coronavirus results in a traffic boost

Along with reporting on the previous quarter (which ended Feb. 16, 2020), Costco management also provided preliminary sales figures all the way up through March 1. Those results showed Costco's comps accelerating in February, increasing 11.7% year over year and corresponding to news of the novel coronavirus outbreak spreading beyond China and out into the rest of the world.

It was clear that customers had increased shopping at the stores when the outbreak hit, with traffic rising by 9% in the United States versus the year-ago period. This accelerated in the last week of February. Costco CFO Richard Galanti stated on the second-quarter earnings call that, "Members are turning to us for a variety of items associated with preparing for and dealing with the virus such as shelf-stable dry grocery items, cleaning supplies, Clorox and bleach, water, paper goods, hand sanitizers, sanitizing wipes, disinfectants, health and beauty aids, and even items like water filtration and food storage items."

Demand was so strong that Costco placed a limit on how much customers could purchase of certain items. This helped increase second-quarter sales and its clear they will have an effect on third-quarter results. This sales spike cannot last, however; it merely pulled sales forward since there is a limit to how much bottled water and paper plates members will need.

Coronavirus longer-term effects could be less helpful

It's possible Costco's sales strength will taper off in the latter half of fiscal 2020. Right now, no one knows how much reaction to the COVID-19 pandemic will impact economic activity, including shopping. It is not unreasonable to assume that the public will curtail outdoor activity, including trips to Costco.

Related to the outbreak and in a move done out of cautiousness, the company recently announced it would stop serving free samples for the time being. Add in that free samples help drive traffic to the stores, and it's not too hard to imagine that Costco's sales could see a negative effect for the time being.

Should the need to isolate get even greater, more consumers may turn to online shopping, but this only represented 4% of Costco's fiscal 2019 sales. This segment has been a strong grower, with more than a 28% comps increase in the fiscal second quarter, but it is not large enough to make a serious dent in the lost sales at the physical locations.

Still a compelling long-term story

With the market's nervousness evident as fears spread about economic growth grinding to a halt and a recession occurs, it is natural for investors to wonder what will happen to Costco's share price.

I don't claim to know what will happen in the short run, particularly with equity markets in a downward spiral, but I think this is a company that has shown staying power through good and bad times. There is a reason that nearly nine out of 10 members worldwide renewed their membership in the second quarter.

Costco has offered high-quality goods to its members for decades. With years of comparable sales growth, the company has proven its business model works. It keeps rolling ahead, with a steady 20 to 30 new locations per year.

So, you may not enjoy the free samples for a while, which is disappointing. Who doesn't love to roam the aisles and try new items? That may even keep you away from the store, but that doesn't mean you should shun Costco's stock.

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