With over $200 billion in trailing-12-month sales, Costco Wholesale (COST 1.01%) is one of the largest retailers in the world. More than just a huge retailer, it has also provided its investors with huge returns.
If you had bought just $10,000 when Costco went public in 1985, you'd have nearly $8 million today -- and over $12 million had you reinvested dividends along the way. I wish I could go back almost 40 years and pick up some Costco shares, and I'm sure you do too.
But investors can't fixate on the past. They have to live in the present with an eye toward the future. And in that regard, here are three things investors need to know if they buy Costco stock today.
1. The business model is surprising
The first step to building an investment thesis is understanding the business model. And this is a little tricky for Costco investors.
Costco has around 600 warehouse-style stores in the U.S. and nearly 900 around the world. These stores sell food, electronics, appliances, and more. And with over $200 billion in annual net sales, one might think that this was the business, just like any other retail chain. But it's not quite that simple.
In reality, Costco barely breaks even with its retail business -- it's trying to offer low prices to please its customers, not pad its profits. This is why the company has gone to great lengths to keep its famous hot dog combo priced at $1.50, for example. It's about giving customers what they want as cheaply as possible.
However, the Costco shopping experience isn't for just anyone -- it's for members only. And this is the company's real business: selling memberships. These memberships account for roughly three-quarters of its profits. Therefore, watching membership growth and retention is imperative for Costco's shareholders.
2. Growth opportunities still exist
Management plays coy with how many Costco locations it's targeting. But I believe it's fair to say that even the company itself is surprised by how much room for growth there may be.
For its fiscal 2024 (which started this past September), Costco expects to open 31 net new locations, up from just 23 in fiscal 2023. That's a fairly modest single-digit growth rate. That said, on its earnings call, management said that new U.S. locations still make up more than 50% of new openings, which is more than what it was expecting at this point.
It's encouraging that Costco is finding more domestic opportunities than anticipated. Additionally, the company still has its sights set on international expansion. In the upcoming second quarter, for example, it plans to open its sixth location in China -- a country that could support many more stores yet.
3. The price today is steep
Costco has a great business model and it still has opportunities for growth. But the final thing that investors need to know is that Costco stock isn't cheap in the slightest. In fact, from a price-to-earnings perspective, Costco stock is trading at its most expensive valuation in over 20 years -- and at about a 70% premium to its 20-year average.
COST PE Ratio data by YCharts
The late great Charlie Munger loved Costco's business and it was one of only three stocks he owned directly, even though he was a renowned value investor. Therefore, he was willing to own a stock with a high valuation because of the quality. That's something to keep in mind. But as he once lamented to CNBC, "The trouble with Costco is it is 40 times earnings."
My point is that Costco stock is expensive. But it's so high-quality that even Munger was willing to hold his stake at the high valuation. So it's certainly not a company to dismiss.
Costco's valuation appears due for a pullback. Personally, I'm waiting until the investment becomes more attractively priced before buying shares. After all, this isn't the growth opportunity that it was in the 1980s.
That said, investors should look to buy shares of high-quality companies and Costco is certainly that. This is why I'm not taking my eyes off of it anytime soon, even if I'm waiting for a better price.
