In the last five years, shares of Costco Wholesale (COST 0.20%) have made for a wonderful investment, climbing 149%. This gain is much better than the broader market indices. But the stock is still 11% off its peak price (as of Oct. 27).
There is a lot to like about this company. Those looking to buy shares right now need to spend some time understanding more about Costco and the current situation.
With that being said, here are three facts the smartest investors know about this top retail business.
1. A membership-based business model
Anyone can go visit and shop at a Walmart, Target, or Home Depot location. This is typical in the retail industry.
However, Costco does things differently. Consumers must shell out $60 (for the basic plan) or $120 (for the Executive plan) a year to become Costco members, thus allowing them to shop at one of the company's 862 warehouses worldwide. This strategy has been successful, as there are currently 71 million member households, a figure that was up 7.9% year over year. Plus, these memberships registered a renewal rate of 92.7% in the U.S. and Canada in the most recent quarter.
From the company's perspective, this membership model is a financial boon. It drives customer stickiness, which can reduce marketing expenses and support strong revenue gains. It allows Costco to keep the pricing markups on its merchandise under control, as the business isn't trying to maximize product gross margin. And lastly, membership revenue provides a major boost to the bottom line.
Costco also has proven pricing power with its memberships. Costco is due to raise membership fees since it hasn't done so in over six years, but customers likely won't resist if history is any indication. The savings provided by being a Costco member far outweigh the annual fee.
NASDAQ: COST
Key Data Points
2. An uncertain macro environment
Costco's revenue soared to double digits in both fiscal 2021 and fiscal 2022. The pandemic and its aftereffects spurred demand from consumers to shop at Costco. Perhaps elevated levels of inflation also drove people to these stores, as saving as much money as possible was the priority.
But like many businesses these days, the uncertain macro backdrop is providing a bit of a headwind. Net sales were only up 6.7% in fiscal 2023 (ended Sept. 3), with same-store sales rising 3%. And for fiscal 2024, Wall Street consensus analyst estimates call for revenue to increase 4.9%.
The company's management team points to weaker demand trends as they relate to big-ticket, discretionary items. These include things like electronics and jewelry, for example.
3. An expensive stock
Thanks to Costco's outperformance historically, the stock isn't cheap. It currently trades at a price-to-earnings (P/E) ratio of 38.4. Costco's shares are trading at a value that's more expensive than its past 10-year average of 33.1.
The valuation also represents a huge premium to rivals like Walmart (P/E of 31) and BJ's Wholesale Club (P/E of 18.6). This is likely warranted, as a valid argument can be made that Costco is a superior business to these two competitors.
Despite its attractive qualitative properties, it's probably accurate to say this stock provides no margin of safety right now. And it's not surprising why. With its long track record of success, operating a stable and predictable business model, the market has figured out that this is an outstanding company. As a result, it is priced as such.
