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Earnings Preview: Costco

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Costco Wholesale Corporation (COST - Free Report) , one of the leading U.S. warehouse club operators and an S&P 500 company, is slated to report its fourth quarter and fiscal 2012 financial results on Wednesday, October 10.

The current Zacks Consensus Estimate for the quarter is $1.30 per share that reflects a growth of 20.4% from the prior-year quarter’s earnings. The estimates in the current Zacks Consensus range between a low of $1.25 and a high of $1.33 per share. The Zacks Consensus revenue estimate is pegged at $31,885 million for the quarter under discussion.

The current Zacks Consensus Estimate for fiscal 2012 is $3.87 per share. Further, analysts polled by Zacks expect full year revenue to be $98,849 million.

Recap of Third-Quarter 2012

Costco’s third-quarter 2012 earnings of 88 cents a share beat the Zacks Consensus Estimate by a penny, and surged 20.5% from 73 cents earned in the prior-year period.

The augmentation in the bottom-line was buoyed by a high-single digit growth in the top-line due to improved sales of discretionary items, as consumers seeking discounts started flocking to warehouse clubs.

The warehouse retailer’s total revenue, which includes net sales and membership fee, climbed 8.2% to $22,324 million from the prior-year quarter, and handily beat the Zacks Consensus Estimate of $22,072 million. Net sales jumped 8.2% to $21,849 million, whereas membership fee rose 9.2% to $475 million.

Costco’s comparable-store sales for the quarter rose 5%, reflecting a comparable sales increase of 5% both at its U.S. locations and international divisions. The results were favorably impacted by rising gasoline prices but adversely affected by foreign currencies fluctuation.

Zacks Agreement & Magnitude

The Zacks Consensus Estimate for the fourth quarter hasn’t shown any movement in the last 30 days, as the upward and downward revisions made by analysts neutralized the impact. Of the 22 analysts following the stock, 5 analysts revised their estimates upward and 2 analysts lowered the same in the last 30 days. In the last 7 days as well, the Zacks Consensus Estimate remained constant, as the upward revision in the estimates made by 3 analysts and downward revision by 1 analyst did not have a substantial impact.

The Zacks Consensus Estimate for fiscal 2012 rose by a penny in the last 7 days as the increase in estimates made by 4 analysts and trimming of the same by 1 analyst triggered a movement in the Zacks Estimate. In the last 30 days, 6 analysts revised their estimates upward and 1 analyst lowered the same, thereby pushing the Zacks Consensus Estimate by the same magnitude.

From the above discussion it is apparent that most of the analysts are unidirectional while revising their estimates. Analysts raising their estimates are counting upon better-than-expected September comparable-sales results and effective cost management, and anticipate Costco to undertake rapid club expansion plan. However, some analysts still prefer to be on the sidelines as they expect merchandise margin to remain under pressure.

Mixed Earnings Surprise History

With respect to earnings surprises, Costco has missed, met as well as topped the Zacks Consensus Estimate over the last four quarters in the range of negative 0.9% to positive 2.3%. The average remained at positive 0.7% suggesting that Costco has outperformed the Zacks Consensus Estimate by the same magnitude in the trailing four quarters.

In the second quarter of fiscal 2012, the earnings beat the Zacks Consensus Estimate by 2.3%, whereas in the first and third quarters it met the Estimates. In the fourth quarter of 2011, the earnings missed the Estimate by 0.9%.

Closing Comment

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 amidst 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, Costco is well positioned in the warehouse club industry.

A differentiated product range enables Costco to provide an upscale shopping experience to its members, resulting in market share gains and higher sales per square foot. Moreover, the company continues to maintain a healthy membership renewal rate. Costco also remains committed to opening new clubs in domestic and international markets. 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 expects to open 14 new warehouses before December 31, 2012. It currently operates 608 warehouses, comprising 439 warehouses in the United States and Puerto Rico, 82 in Canada, 32 in Mexico, 22 in the United Kingdom, 13 in Japan, 9 in Taiwan, 8 in Korea and 3 in Australia.

Going by the pulse of the economy, we believe that budget-constrained consumers will remain watchful of their spending and look for discounts. Consequently, we could see more competitive pricing, compelling products and innovative ways to attract shoppers. Currently, we maintain our long-term “Neutral” recommendation on the stock. However, Costco holds a Zacks #2 Rank that translates into a short-term “Buy” rating.

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