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Costco Wholesale Corporation (COST - Free Report) came out with its second-quarter fiscal 2014 results today. The quarterly earnings of $1.05 per share missed the Zacks Consensus Estimate of $1.17, and also fell 4.5% from $1.10 earned in the prior-year quarter.

Management cited that sluggish sales and soft gross margin in certain non-foods merchandise categories, weaker gross margin across its fresh foods operation and fall in international profits led to disappointing bottom-line performance.

Let’s Unveil Further

The warehouse retailer’s total revenue, which includes net sales and membership fee, climbed 5.8% to $26,306 million from the prior-year quarter, but fell short of the Zacks Consensus Estimate of $26,589 million. Moreover, the top-line growth rate accelerated to 5.8% in the reported quarter from 5.5% in first-quarter of fiscal 2014. Quarterly net sales rose 5.8% to $25,756 million, whereas membership fee rose 4.2% to $550 million.

Costco’s comparable-store sales for the quarter increased 3% buoyed by a 4% rise in comparable-store sales in the U.S. locations. The results were adversely affected by deflation in gasoline prices and fluctuation in foreign currencies rate. In the year-ago quarter, the company delivered comparable-store sales growth of 5%.

Excluding the effect of lower gasoline prices and foreign currencies, the company witnessed comparable-store sales growth of 5%, with U.S. and international comps increasing by 5% and 7%, respectively.

Recently, Costco came out with comparable-store sales data for the month of February. The company delivered comparable-store sales growth of 2%, following an increase of 4% in January, and registered comparable sales growth of 3% at its U.S. locations but a decline of 1% at its international locations.

Excluding the effect of gasoline prices and foreign currencies, the company witnessed comparable-store sales growth of 4% for the month of February, with the U.S. and international comps rising by 4% and 5%, respectively.

Net sales for the month jumped 4% to $7.90 billion from $7.58 billion.

Coming to the quarter, Costco’s operating income fell 1.9% year-over-year to $724 million, whereas, operating margin (as a percentage of total revenue) contracted 20 basis points to 2.8%.

Financial Aspects

Costco ended the quarter with cash and cash equivalents of $5,130 million, long-term debt of $4,985 million, and shareholders’ equity of $11,515 million, excluding non-controlling interests of $194 million.                       

Let’s Conclude

Costco continues to be a dominant retail wholesaler based on the breadth and quality of the merchandises it offers. The company’s strategy to sell products at heavily discounted prices has helped it sustain growth amid beleaguered economic conditions, as cash-strapped customers continue to reckon Costco as a viable option for low-cost necessities. Having delivered consistent comparable-store sales growth, the company is well positioned in the warehouse club industry. The company’s diversification strategy is a natural hedge against risks that may arise in specific markets.

However, Costco faces stiff competition from Target Corporation (TGT - Free Report) and Sam’s Club, a division of Wal-Mart Stores Inc. (WMT - Free Report) , which follows a similar business model that pushes through high volumes of merchandise at low prices in membership-only warehouse clubs. Thus, aggressive pricing to gain market share and drive traffic amid stiff competition may depress sales and margins.

Costco currently operates 649 warehouses, comprising 462 warehouses in the United States and Puerto Rico, 87 in Canada, 33 in Mexico, 25 in the United Kingdom, 18 in Japan, 10 in Taiwan, 9 in Korea, and 5 in Australia.

Going by the pulse of the economy, we believe that budget-constrained consumers will remain watchful on their spending and look for discounts. Consequently, we could see more competitive pricing, compelling products and innovative ways to attract shoppers. Currently, Costco holds a Zacks Rank #3 (Hold). The other better ranked stock worth considering in the retail sector is Macy’s, Inc. (M - Free Report) that carries a Zacks Rank #2 (Buy).

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