Costco Earnings Preview: Can The Warehouse Consumer Support The Growing Valuation?

Dec.10.12 | About: Costco Wholesale (COST)

Costco (NASDAQ:COST), the premier warehouse club operator, reports its fiscal 1st-quarter, 2013 before the bell on Wednesday, with analyst consensus expecting $0.93 in earnings per share, on $23.67 billion in revenue, for expected year-over-year growth of 9% and 16% respectively.

Q1 '13 comps increased 7%, or 6% if gasoline and forex changes are excluded.

COST just completed a great year with the August fiscal year-end quarter, with the stock up about 18% year-to-date as this is being written, which does NOT include the regular as well as the special dividend that was just declared. (The fiscal 2012 annual report is not yet up on the website.)

Comps the last two quarters are consistent with the last few years where October comps were 7% overall but 5% ex forex and gasoline, and November comps were 6% overall, but 5% ex gas and forex.

No question COST is a great operator: the last five years, COST has grown comps mid-single-digits, on low-to-mid teens revenue growth, and managed to avoid earnings potholes on what is a pretty low-margin business.

With seemingly limited competition (i.e. Sams Club), competition has remained normal or rational between the two giants. What has intrigued us through the years is that COST has been able to put "big-box" stores in urban areas like Chicago, while Wal-Mart hasn't (probably because COST is union, I would think), but Wal-Mart Express and Wal-Mart Markets are now starting to pop up in downtown Chicago. We are a loyal Costco shopper but have started to patronize Wal-Mart Express for some food and fresh food items, which is about 30% - 33% of COST's revenue. For Costco, gasoline is now 12% of sales (for fiscal '12).

Whether the new Wal-Mart entrants to heavily urban areas where COST has been a low-cost provider is a competitive threat remains to be seen.

Finally, COST still has about 30% of its store base in the State of California, which with recent tax increases and a sputtering economy, could be a mixed bag for the retailer.

However, our biggest concern at this time with Costco's stock, is the now loftier valuation that the market is assigning the shares, and despite the good operating results, we would simply be more comfortable buying it lower.

At $98 per share, COST is trading at 12(x) enterprise value (NYSE:EV) to cash-flow and 21(x) EV to free-cash-flow, not to mention the 22(x) multiple on fiscal 2013's consensus estimate of $4.49.

Year-end Eps ($'s) y/y growth
FY 2015 (est)

$5.62

11%
FY 2014 (est) $5.01 11%
FY 2013 (est) $4.49 13%
FY 2012 $3.97 20%
FY 2011 $3.30 13%
FY 2012 $2.93 14%
Click to enlarge

* EPS = earnings per share

* Source - historical financials, internal spreadsheet

At 20% earnings growth, fiscal 2012 was COST's best year of growth since 2004, when the big-box retailer posted 22% earnings growth.

The special dividend of $7 per share announced on November 28, was the most recent catalyst for the stock, although the bounce has been all been given back and COST is trading where it was when the special dividend was announced.

From perusing a few analyst reports the last few quarters, the Street seems to be worried about the 4% - 5% EBIT (earnings before interest and taxes, or what is essentially operating income before non cash expenses).

It is just an opinion, but even though we maintain a small long in the stock, we wont buy more at these levels until we get a meaningful correction into the high $80, $90 area. We are going to give the stock some time to (hopefully) sink into a better, lower-risk entry point to safely buy a larger amount of shares. However there is no guarantee that ever happens.

Disclosure: I am long COST, WMT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.