Costco: Still Expensive Due To Uncertainties

Costco announced yesterday its third quarter report for the 2023 fiscal year ending May 7. Due to weak comparable sales growth, the stock price once fell by 2.63% after the results were released; the main data are as follows:

l Revenue of $53.65B (+2.0% Y/Y) misses by $930M.

l Comparable sales were significantly lower than expected, with an overall increase of +0.3%, while the market consensus was +2.9%. In terms of regions, comparable sales in the United States decreased by 0.1%, Canada decreased by 1.0%, and international markets increased by 4.1%.

l EPS was $2.93, lower than market expectations of $3.3.

Costco's revenue is divided into net sales and membership fee income. For a long time, net sales accounted for 98% of the total revenue, and membership fee income accounted for 2%. The overall gross profit rate of Costco has been maintained at around 13% all year round, which is far lower than the 20% to 30% gross profit rate of other retailers.

In the third quarter, net sales were still weak, increasing by 1.9% from $51.61 billion last year to $52.60 billion. This is the third consecutive quarter of decline in growth rate. Generally speaking, the median quarterly growth rate is around 10%.

Regionally, it is mainly dragged down by the North American market. Comparable sales fell 0.1% in the U.S., down 1.0% in Canada and up 4.1% in international markets. If the impact of energy and foreign exchange is not taken into account, comparable sales in the United States, Canada, and international regions will increase by 1.8%, 7.4%, and 8.4% respectively, while the market expects the growth rate of comparable sales in the United States to be 3.5%, which is much lower than expected. .

For Costco, more than 70% of its revenue is contributed by the U.S. region. Weak consumption in the U.S. region is crucial to its performance, and the deterioration of middle-class consumption is worse than expected.

Consumers did not reduce the frequency of consumption, but spent less money each time. Traffic, or shopping frequency, remained pretty good in terms of third-quarter sales metrics, with growth of 4.8% globally and 3.5% in the U.S. for the quarter. But daily transactions (tickets) fell 4.2% globally and 3.5% in the U.S., largely due to weakness in big-ticket durables and consumer discretionary.

The decline in e-commerce business can also be verified, and the downward trend of durable goods consumption has not stopped. This quarter, e-commerce revenue declined by 10%, further widening from 8.7% in the previous quarter. The sharp drop in e-commerce revenue was mainly due to a 20% drop in demand for discretionary items such as furniture, small appliances, jewelry and hardware, which account for 55% of total e-commerce sales.

The company continues to expand its stores, opening 17 warehouses to date in the first three quarters, including three relocated warehouses.

In the third quarter, membership fee revenue was US$1.44 billion, accounting for 1.98% of sales, compared with US$984 million in the third quarter of last year, accounting for 1.91% of sales.

In terms of renewal rates, the U.S. and Canada renewal rate was 92.6%, and the global renewal rate was 90.5%, the same as the previous quarter's record high.

Membership growth remains strong. The company has 69.1 million paying members and 124.7 million cardholders, both up 7% from the same period last year. At the end of the third quarter, executive members were 31.3 million, accounting for 45% of paying members, a slight increase from the previous quarter, and accounting for about 73% of global sales.

Unlike previous quarters, this time the company clearly stated that "at some point we will do this (increase membership fees). But our view is that we have enough leverage to drive the business forward.", historically every 5 The company will raise the price once every year and 7 months. The last time was in June 2017. Historically, each price increase will cause the growth rate of the number of paying members to decline in that year. However, in view of the high stickiness of Costco members, will gradually return to normal growth rates.

Inflation continued to moderate somewhat. Price inflation ranged between 3% and 4% this quarter, compared with 6% to 7% and 5% to 6% in the previous two quarters, and food prices such as eggs and meat began to fall.

As of the end of the third quarter, the inventory fell by 7% year-on-year. Last year, due to the challenges of the supply chain, there was excess inventory, and a large amount of inventory was backlogged at the port. The shipping time has returned from more than 70 days to more than 30 days.

Costco is undoubtedly a great business. The company has an excellent business model and a wide economic moat around its business that is difficult for competitors to overcome. The problem in the past has been that the valuation is high and does not match the business growth rate. At present, the company's 2023 Forward PE is 34 times. For a company with revenue growth in the single digits, it is still a bit high in the current environment of weak consumption. Due to the company's strong dependence on the US market, it is difficult to save weak revenue by relying on the growth rate of the international market before US consumers start spending again.