Costco (COST 0.17%) announced third-quarter earnings on May 27, and it was another impressive quarter for the international retailer. The company has benefited from a surge in spending since it was deemed an essential retailer in the U.S. at the pandemic's onset.
Fueled by record levels of fiscal stimulus, consumers with limited shopping options have been turning to Costco more than usual. The warehouse club retailer in turn has earned the trust of its members by maintaining inventories of essential items at its famously competitive prices.
Third-quarter highlights
Despite delivering solid revenue and earnings growth in the third quarter, Costco stock is down roughly 2% since the company released third-quarter results. Net sales increased by 21.7% from last year, which is better than the 17.5% increase that analysts on Wall Street were expecting. Similarly, Costco reported earnings per share of $2.75, a 45% increase from last year and better than the $2.32 expected by Wall Street.
Costco reported net sales growth of 21.7% in the third quarter. Image source: Getty Images.
The market reacted poorly to Costco's results in part because management made permanent the temporary wage increase it implemented during the pandemic. The company began a temporary $2 per hour wage increase at the pandemic's onset to ensure its employees would show up to work. Perhaps up until this announcement, investors had thought the premium wage would be removed once the spread of the coronavirus diminished.
However, shareholders can be consoled because the permanent wage increase will be $1 per hour instead of the $2 per hour Costco had been paying until this quarter.
The outlook
As you may already be aware, Costco operates on a membership model where customers pay an annual fee to gain the privilege of shopping at its warehouses. And as of the end of the third quarter, Costco has 60.6 million paying households. That was an increase of 900,000 from the previous quarter. Moreover, as a sign of how much its customers appreciate the privilege, Costco's membership retention rate in the most recent quarter was 90%.
Costco has two membership tiers: regular and executive, with annual costs of $60 and $120, respectively. Interestingly, the executive membership comes with a 2% cash back on spending benefit that potentially offsets the membership price if you spend $6,000 in a year. The company generally increases prices on its membership every five years. If it stays true to form, the next price increase could be in the coming year.
Costco currently operates 809 warehouses, including 559 in the U.S. and Puerto Rico. With 250 locations outside of the U.S., there is room for international expansion. Still, there is room for domestic expansion as well. The company's business model is clearly one that customers appreciate. Indeed, Costco plans on adding an estimated 21, 25, and 25 net new stores in this and the next two fiscal years, respectively.
Investor takeaway
Costco is trading at a trailing price-to-earnings ratio of 38. That's near the highest level it has traded for in the last decade. That's not to say it's not a good investment at this price. The market can be anticipating the company's excellent long-term prospects, including the millions of new loyal customers it added during the pandemic, new store growth opportunities, and membership price increases that are likely to be introduced in the next year.
Investors who buy Costco stock now are likely to find its value to be much higher 10 years from now. Therefore, if you have a long-term mindset, buying Costco stock can be a good idea.
