In the discount retail industry, Costco Wholesale (NASDAQ: COST) has earned a very high reputation among investors. Costco operates a thriving business model, thanks in large part to its lucrative membership program. It has utilized these advantages to grow sales and earnings at high rates for many years.
In turn, investors awarded the stock with an above-average valuation, and a high stock price. Shares of Costco are up 14% year-to-date. The stock is valued with a much higher multiple than the S&P 500, and at about twice the multiple of industry competitor Wal-Mart (NYSE: WMT).
But Costco’s growth engine hit a speed bump when it announced weak fiscal first-quarter earnings on Wednesday. The Costco earnings results were decent, but not good enough for a growth stock like Costco. Shares sold off 5% because the results missed analyst expectations.
Costco Earnings Results Don’t Live Up to Its Reputation
Last quarter, Costco earned $480 million, or $1.09 per diluted share. Earnings actually fell 2% from the $1.12 per share earned in the same quarter last year. The result last quarter did not meet analyst expectations, which called for $1.17 per share.
The bigger surprise was that Costco’s comparable-store sales, a critical measure of sales at locations open at least one year, fell 1% last quarter. Management was disappointed with this result, and laid out several reasons for the decline on the conference call.
Foreign exchange had a big impact on Costco last quarter. Costco operates 697 warehouses, 487 of which are in the United States. Costco has 210 stores outside the U.S., and because of the rising U.S. dollar, revenue generated from those stores is worth less when it is converted back into the domestic currency.
Earnings were impacted by $0.10 per share just last quarter, all because of negative foreign exchange fluctuations, according to the Costco earnings report.
Also weighing on earnings was the huge drop in gas prices. Gas sales make up about 10% of Costco’s revenue. The price of oil has dropped from over $100 per barrel in 2014 to $36 currently, which caused Costco’s sales to suffer.
In addition, certain expense figures went up. Employee stock compensation costs increased by $36 million, or $0.05 per share, year over year. Also, non-recurring legal expenses reduced earnings by another $0.04 per share.
Reasons to Stick With Costco
Despite the Costco earnings flop, investors should not get too pessimistic. Costco’s results were affected mostly by foreign exchange, but on a core underlying basis, the business continued to perform well.
Excluding currency effects and the impact of gasoline price deflation, overall comparable sales would have increased 6%. All things being equal, that is a good result, and right in-line with Costco’s growth trajectory over the past several quarters.
Costco’s strong underlying growth means consumers still enjoy and value the Costco experience. Costco continues to open new stores, including 11 new warehouses last quarter. New store openings should continue to provide growth.
Costco is still doing well in a few categories, one of which is groceries. Comparable sales of fresh foods grew in the high single digits. And, Costco’s prized membership program is a key driver. Membership fees increased 6% last quarter, on a constant currency basis.
Therefore, investors should not feel too badly about Costco’s quarter. To be sure, the stock isn’t the cheapest around. Shares still exchange hands for about 30 times earnings, while the S&P 500 is valued at about 19 times. But Costco generates enough growth to justify its valuation. Investors on the hunt for growth should view Costco’s stock price dip as an attractive buying opportunity.
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