Costco's (COST 1.01%) business is a lot more predictable than your average retailer's. That stability springs from two big factors. The first is the chain's massive global sales base that spans both consumer staple products and discretionary purchases like home furnishings. It pays to be the world's second-largest retailer, especially when you can stay busy during boom times as well as through those inevitable downturns.
Costco's membership model also means that most of its earnings flow from charging fees to members rather than product sales. As a result, profits don't swing as much through the ups and downs of the economic cycle.
These factors make it a bit easier to project the retailer's path over the next few years. Let's take a closer look.
Happier members
The surest way to increase shareholder returns over time is for Costco to steadily expand its pool of happy members. That's why it was a modest disappointment to see that average spending fell 5% in the core U.S. market in the most recent quarter.
Look closer, though, and you'll see more encouraging signs that Costco is still connecting with its members. Customer traffic was up a healthy 5% last quarter, for example, beating Walmart's (WMT -0.08%) 3% uptick. The chain achieved another record in its renewal rate as well.
Roughly 93% of Costco's members renew their annual subscriptions these days, even though the company makes it very easy to cancel a membership. Investors can infer from this metric that customers are getting lots of value from their Costco memberships, even if they are scaling back on big-ticket purchases right now.
Higher profits
Costco doesn't prioritize short-term earnings growth, but investors are still likely to see big gains here over time. The chain ended its fiscal 2023 year with 128 million cardholders, up 8% year over year. That boost, plus a continued tilt toward higher-priced executive plans, helped push fee income to $4.6 billion from $4.2 billion.
Those cardholders will certainly be paying a higher annual fee by 2026 as well. Costco typically hikes that annual rate every five years or so, but more than six years have passed since the last rollout in mid-2017. "It's a question of when, not if," CFO Richard Galanti said in a conference call with investors in late September.
Some of the bonanza that comes from that fee hike will go into higher profits, but most will be directed toward extending Costco's price leadership. Shareholders can look for continued higher traffic, plus steadily expanding net income.
The stock's path
The stock's path over the next few years will depend on some unpredictable factors, like the timing and severity of any recession that might develop in 2023 or 2024. Shares are currently valued at about 1 times annual sales, which is a significant premium compared to other large national retailers like Walmart and Target (NYSE: TGT). That fact might limit shareholder returns from here.
But Costco has earned its premium over the years by satisfying its shoppers, whether they are looking for essentials like paper towels or are looking to splurge on things like jewelry and consumer electronics. Lower demand for these discretionary purchases is pressuring the business right now, but Costco is still seeing higher traffic and increased annual earnings. Continued wins like this should support further market-beating returns for shareholders over the next several years.
