Please ensure Javascript is enabled for purposes of website accessibility

Better Buy: Costco vs. Walmart

By James Brumley - Apr 11, 2021 at 4:05PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

This is the year when changes to the retailing landscape become clear, separating retailers that have adapted from those that haven't.

Like most Super Bowls, a comparison of two different stocks can yield a clear, odds-on favorite. Sometimes, though, such a match-up isn't easy to handicap with just a superficial look.

That's certainly the case in pitting Costco (COST 0.90%) against Walmart (WMT 0.71%). Investors will find a few obvious pros and cons for each, but being in the same business, by and large the two retailers appear pretty comparable.

Dig below the surface, though, and that changes. A more nuanced examination makes Walmart the smarter pick right now, and three key comparisons in particular are what stand out.

Businessman and businesswoman holding arrows pointing in different directions.

Image source: Getty Images.

1. Walmart's more attractive valuation

It's a cliched, questionable means of predicting a stock's performance. Nevertheless, to the extent a price-to-earnings ratio (or P/E ratio) spells out relative risk or an investors' cost of earnings, Costco is simply too pricey when Walmart is an option. Costco shares are trading at roughly 36 times this year's projected per share profits, while Walmart stock is valued at 26 times forward earnings estimates.

Were Costco growing its top and bottom line at a significantly faster clip compared to Walmart, a steeper valuation might be justified. That's not quite the case, though. Costco is growing more by both measures, but this year's projected top line growth of 12% and earnings growth of 14% -- figures that will slow to 7% and 10% next year, respectively -- don't justify a P/E in the mid-30s. It leaves the stock little room for missteps.

2. Costco's impending fee hike

The company itself has neither confirmed nor denied it, but rumors are swirling that Costco is mulling an increase to the annual fee it charges members of its warehouse-shopping club.

It's not necessarily the end of the world. The company has regularly raised member fees since the 80s, and they haven't prevented its customer base from growing. Membership fee increases have coincided with temporary subpar performance from the stock, however, according to numbers crunched by Wells Fargo analyst John Heinbockel.

In this vein, it would be naive to not also recognize that things are dramatically different in the consumer retailing space than they were in 2017 when Costco last upped its annual membership fees. Amazon is making inroads on the grocery front, leveraging the tens of millions of U.S. Prime members that qualify for price breaks on their grocery deliveries.

Walmart has also emerged as the winner of the curbside grocery pickup contest launched by the COVID-19 pandemic ... a service that Costco still doesn't offer. In the meantime, Walmart has created a cheap, subscription-based grocery delivery service that's gaining traction. Various estimates put the number of Walmart+ users at anywhere from nine million to 19 million.

Another price increase could backfire, prompting Costco customer to test-drive alternatives.

3. Walmart has post-COVID encore

Finally, Walmart is now pulling proverbial levers it arguably should have pulled long ago as the world's biggest brick-and-mortar retailer.

One of those levers is the use of its 5,342 locations peppered across the country as more than just stores. As CEO Doug McMillon explained during the fourth-quarter earnings call, investors should be aware of the company's "hundreds of distribution and fulfillment centers, thousands of stores and clubs so close to so many people functioning in a hybrid fashion, automated where they should be based on volumes, and complemented with onsite market fulfillment centers or offsite MFCs."

Walmart is now embracing the technology that gets the most out of a huge geographic footprint that puts at least one of its stores within 10 miles of 90% of the nation's population.

The other key lever the retailer is now pulling is making more of its existing customer relationships. Primary healthcare, health insurance, experiments with in-home technology installation, and an expanded, curated lineup of goods sold at through a partnership with Shopify are just some of the improvements that may not have been made at the Walmart of yesteryear.

None of this is to suggest Costco doesn't enjoy its own strategic advantages. It too is picking and shipping goods from local stores, for instance, and the company offers a variety of insurance products. The fact is, though, this incongruent list of services falls short of the lifestyle-oriented portfolio Walmart is now piecing together.

Bottom line

This year is going to be a tough one for Walmart. The company has earmarked $14 billion for capital spending in the current fiscal year, up from around $10 billion in a more typical year, which will curb earnings growth even more than the post-pandemic slowdown might have. Indeed, analysts are modeling earnings of $5.38 per share this year, down from last year's $5.48.

Looking at the bigger picture, though, Walmart is adapting to the new normal of retailing, and it will be rewarded for its efforts going forward. Costco mostly continues to do things as it has in the past. While that's not proven problematic yet, 2021 is a year that could really start to divide the leaders and laggards. At the very least, it's a reason to wait on the sidelines and see how Costco responds to this new normal.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Wal-Mart Stores, Inc. Stock Quote
Wal-Mart Stores, Inc.
$125.13 (0.71%) $0.88
Costco Wholesale Corporation Stock Quote
Costco Wholesale Corporation
$492.65 (0.90%) $4.39, Inc. Stock Quote, Inc.
$114.33 (0.73%) $0.83
Wells Fargo & Company Stock Quote
Wells Fargo & Company
$39.50 (-1.50%) $0.60
Shopify Inc. Stock Quote
Shopify Inc.
$33.04 (-2.82%) $0.96

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
S&P 500 Returns

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 07/06/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.