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Costco Wholesale: Cash Flow Valuation

|Includes: Costco Wholesale Corporation (COST)

Current Price: ~ $85/share
Projected Yield: ~ 1.13%

Costco Wholesale is the third-largest retailer in the U.S. and the ninth-largest retailer in the world. The firm operates more than 430 warehouse clubs in the U.S. and Puerto Rico (73% of revenue), 80 in Canada (16%), and 80 in other countries (11%), with an average size of about 140,000 square feet.

Estimated WACC for the firm today is 6.76% using the Capital Asset Pricing Model and the company's recent SEC filings.

Recent free cash flows and noted growth rates:

Year FCF $Millions
2002 -20
2003 697
2004 1393
2005 788
2006 615
2007 691
2008 578
2009 842
2010 1725
2011 1908
TTM 1815

Average Annual Growth FCF ex-2002: ~ 24%

CAGR FCF ex-2002: ~ 13%
Consensus Forecast Industry 5-Year Growth: ~ 14% per year

Consensus Forecast Company 5-Year Growth: ~ 13% per year

Internal Growth Rate: ~ 4%

Sustainable Growth Rate: ~ 10%

Scenario 1

Average FCF (2011, 2010, 2009) is $1492 million. Starting at $1492 million FCF, assume the company achieves a 5-year growth rate in FCF of 13% per year, then no growth or 0% growth in FCF per year forever:

Discounted Cash Flow Valuation

Year FCF $Millions
0 1492
1 1686
2 1905
3 2153
4 2433
5 2749
Terminal Value 45919

The firm's future cash flows, discounted at a WACC of 6.76%, give a present value for the entire firm (Debt + Equity) of $41976 million. If the firm's fair value of debt is estimated at $2514 million, then the fair value of the firm's equity could be $39462 million. $39462 million / 435 million outstanding shares is approximately $91 per share and a 20% margin of safety is $73/share.

Scenario 2

All else being equal, start at $1725 million FCF, assume the company achieves a 5-year growth rate in FCF of 13% per year, then 0% growth in FCF per year forever:

Discounted Cash Flow Valuation

Year FCF $Millions
0 1725
1 1949
2 2203
3 2489
4 2813
5 3178
Terminal Value 53090

The firm's future cash flows, discounted at a WACC of 6.76%, give a present value for the entire firm (Debt + Equity) of $48531 million. If the firm's fair value of debt is estimated at $2514 million, then the fair value of the firm's equity could be $46017 million. $46017 million / 435 million outstanding shares is approximately $106 per share and a 20% margin of safety is $85/share.

Sources

Morningstar.com

Yahoo! Finance

Costco Wholesale Investor Relations

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.