Brick-and-mortar retail might be the last place investors expect to see parabolic stock charts. But Costco Wholesale (COST -0.09%) breaks the mold. The stock's 55% rally in the last 12 months is the latest leg in a bull run that has sent shares up by over 600% in just a decade. But can the value-focused wholesaler continue trouncing the market, or is it time to sell? Let's discuss what the next five years could have in store.
Why do investors love Costco?
Founded in 1983 and going public two years later, Costco Wholesale has been an ideal investment for those who prioritize consistent growth and stability in the face of macroeconomic challenges like inflation or recessions. Its resilience comes from a unique business model.
Unlike traditional supermarket chains, Costco requires customers to pay an annual membership fee to access its stores. These fees represent the majority of its profit, allowing for lower merchandise prices. The company adds to its edge by selling items in bulk, minimizing advertising, and simplifying store layouts for further cost savings. Fiscal second-quarter earnings demonstrate the power of this unique strategy.
Total revenue increased by 5.7% year over year to $58.4 billion, helped by a combination of rising same-store sales and memberships. The company has cultivated spectacular customer loyalty, with membership renewal rates regularly exceeding 90% globally. This stickiness makes Costco's growth remarkably reliable despite macroeconomic challenges like inflation and high interest rates, which can weigh on sentiment. Net income increased by roughly 19% year over year to $1.74 billion.
What could the next five years have in store?
Costco's business model has been a reliable winner over the last 40 years, and it is hard to see that changing over the next five. Brick-and-mortar retail isn't the type of industry poised to be disrupted by technology megatrends like artificial intelligence. Furthermore, Costco's membership-based business model and focus on low prices will help shield it from macroeconomic uncertainties like a potential recession, which many economists expect in the next few years.
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With that said, there are certain things management can do to maintain or even accelerate Costco's growth. Right now, membership fees cost just $60 for the basic Gold Star and $120 for the Executive -- prices that haven't risen since 2017. The company has historically increased fees every five or six years, and it seems overdue for another hike, especially considering how much inflation has occurred after the pandemic.
Any future membership-fee increases could dramatically boost Costco's bottom line because, unlike retail operations, membership fees have a tiny (or even non-existent) cost of goods sold (COGS), so a future increase could theoretically be pure profit.
Is the stock a buy?
With a forward price-to-earnings (P/E) multiple of 43, Costco shares are significantly more expensive than the S&P 500 average of 28. They are also pricier than comparable retail stores like Walmart or Target, which trade for P/Es of just 25 and 17, respectively. It looks like the market is already pricing in future membership-fee increases into Costco's current valuation.
And while Costco will probably remain a stable and successful blue chip company over the next five years, there doesn't seem to be any undiscovered value in the equity right now. Investors may want to wait for a future correction before taking a position in the stock.
