Costco Wholesale (COST -0.24%) is often adept at increasing its sales, even under more challenging economic conditions. But it looks like the slow economy finally caught up to the company. In its fiscal 2023's third quarter (ended May 7), comparable sales rose by only 0.3%, and that included modest declines in both the U.S. and Canada.
Interestingly, the share price increased 4% in the following trading session. But does that mean you should ignore the retail stock's results and buy anyway? Let's take a closer look.
The fiscal Q3 earnings report
As recently as last year, Costco's results seemed immune to high inflation and slow economic growth. Investors seemed to adapt to sales growth that was almost always in the high single digits or double-digits as Costco's product selection and low prices insulated it from industry struggles.
However, the economic environment may have finally caught up with Costco. In fiscal Q3, revenue of $54 billion grew 2%. If not for the 4% comparable sales increase in its international markets (which does not include Canada), revenue would have likely turned negative. The performance also lagged that of the first three quarters of fiscal 2023, when revenue grew by 5%.
Moreover, net income fell 4% to $1.3 billion. Rising operating expenses and a one-time, pre-tax charge of $298 million to discontinue its charter shipping activities led to the drop. Costco began to charter ships two years ago to deal with supply chain struggles that often left shelves empty in other stores. With the shipping crisis over, Costco decided it no longer needed the alternate shipping service.
The state of Costco
As mentioned, the earnings report did not appear to affect Costco negatively. In fact, the stock is up by more than 15% for the year, indicating that investors blame the mediocre results on the economy instead of fundamental flaws in the company.
That assessment appears accurate. CFO Richard Galanti said on the Q3 2023 earnings call that overall renewal rates came in at almost 91%, which is consistent with the all-time highs of the previous quarter. Additionally, analysts forecast 8% revenue growth in fiscal Q4, a level that would bring an increase more in line with historical norms.
Still, the resilience brings to light one ongoing challenge with Costco stock: valuation. The latest surge in the stock price takes the P/E ratio to 37. That is slightly above Walmart's earnings multiple and well over the valuation for Target and regional warehouse club BJ's Wholesale.
COST PE Ratio data by YCharts
Costco's reputation for growth amid a variety of conditions likely explains its elevated P/E ratio. Still, it could cause investors to rethink Costco stock when considering the sluggish profit numbers. Unless net income returns to double-digit growth rates soon, it could ultimately limit the stock's growth.
Should investors consider Costco stock?
Given its current state, investors should probably treat Costco stock as a hold. Admittedly, the company is unlikely to post another low-growth quarter like Q3, and the stock will probably continue to rise over the long term.
Nonetheless, Costco's consistency and success are well known to investors, giving it a continuously high P/E ratio. That high multiple could limit stock price growth over time, making it more likely that investors will earn higher returns in other stocks.
