Thematic evaluation
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Costco Wholesale Corp. (COST)

September 06, 2024

Compared to: Walmart, Inc. (WMT) | Target Corp. (TGT) | Consumer Discretionary Select Sector SPDR Fund (XLY)

Our reasoning

Costco's current valuation appears fair, balancing its strong financial performance, growth prospects, and operational efficiency against its premium valuation multiples. While some metrics suggest undervaluation (e.g., EV/Sales, ROA, ROE), others indicate potential overvaluation (e.g., EV/EBITDA). The company's consistent execution, brand strength, and growth opportunities support its premium valuation, but risks from economic sensitivity and intense competition are also factored in.

Key takeaways
  • Costco's core membership warehouse model continues to drive strong financial performance, with consistent comparable sales growth, high membership renewal rates, and healthy profitability.
  • The company's expansion into new domestic and international markets presents both opportunities and risks, as it must balance growth with maintaining operational efficiency and brand loyalty.
  • Costco faces intense competition across retail channels, especially from e-commerce players, which requires ongoing adaptation of its merchandise mix, pricing, and omnichannel capabilities.
  • Regulatory and legal risks, particularly related to labor practices and product safety, pose an ongoing challenge that Costco must proactively manage.
  • Macroeconomic factors like inflation, deflation, and commodity price volatility can significantly impact Costco's financial results in the short-term, requiring careful monitoring and mitigation strategies.
  • Costco's strong liquidity position and cash flow generation provide financial flexibility to invest in growth initiatives, return capital to shareholders, and weather potential economic downturns.
  • Costco's valuation is currently above industry averages, reflecting its strong financial performance and growth prospects.
  • The company's stock price has consistently outperformed the benchmark and its peers, demonstrating a strong and stable performance.
  • Overall, Costco appears to be a strong investment option with a favorable risk-return profile. Its consistent outperformance, lower volatility, and lower beta make it a compelling choice for investors seeking a stable and resilient investment.
Fairly valued
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Evaluation summary

  1. Company Overview:

    • Costco Wholesale Corp. operates a membership warehouse club model, offering members low prices on a limited selection of nationally-branded and private-label products across a wide range of merchandise categories.
    • Key product categories include foods and sundries, non-foods, fresh foods, as well as warehouse ancillary businesses like gasoline, pharmacy, optical, food court, and e-commerce.
    • Costco's target market is value-conscious consumers seeking bulk purchases and a curated selection of high-quality products.
    • The company operates 861 warehouses worldwide, with the majority (591) located in the United States.
    • We will be using the Consumer Discretionary Select Sector SPDR Fund (XLY) as a benchmark for price performance analysis and Target Corp. (TGT) and Walmart, Inc. (WMT) as industry peers for comparative analysis.

  2. Financial Performance:

    • Costco has consistently demonstrated strong financial performance, with consistent comparable sales growth, high membership renewal rates, and healthy profitability.
    • Revenue growth has been steadily increasing, outpacing the industry average.
    • Profitability is strong, as evidenced by high return on assets (ROA), return on equity (ROE), and EBITDA margin, significantly exceeding industry averages.
    • Costco's ROA, ROE, and ROIC have been consistently above industry averages, indicating strong operational efficiency and profitability.
    • Compared to peers, Costco has consistently outperformed Target in terms of annualized returns, but has been more volatile. Walmart has been less volatile but has also provided lower returns.

  3. Operational Efficiency:

    • Costco maintains a strong balance sheet with a high level of liquidity, evidenced by its high current ratio and quick ratio.
    • Working capital management is efficient, with minimal inefficiencies identified.
    • Cash flow generation is robust, with high operating cash flow and free cash flow, significantly exceeding industry averages.
    • Free cash flow margins are consistently high, supporting capital expenditures, dividends, and share repurchases.
    • Capital expenditures are aligned with growth initiatives, with depreciation trends reflecting a focus on maintaining and expanding warehouse infrastructure.
    • Dividends and share repurchases are sustainable, supported by strong cash flow generation and a conservative capital structure.
    • Costco's operational efficiency is significantly higher than its peers, as evidenced by its higher ROA, ROE, and ROIC, and its strong cash flow generation.
    • Short-term and long-term liquidity ratios are consistently strong, indicating a healthy financial position.
    • Debt-to-equity and leverage ratios are low, indicating a conservative capital structure and strong solvency.

  4. Growth Opportunities:

    • Costco is actively expanding into new domestic and international markets, seeking to capitalize on growing demand for its value-oriented offerings.
    • The company has a history of successful M&A activity, with a focus on strategic acquisitions that enhance its product offerings and geographic reach.
    • Costco is investing in digital capabilities, including its website and mobile app, to enhance the member experience and expand its reach.
    • The company is exploring opportunities in retail media and personalization to drive further growth.
    • Management has a history of successfully executing strategic plans, with a focus on delivering value to members and driving long-term growth.

  5. Risks and Threats:

    • Costco's dependence on the U.S. and Canadian markets could expose it to economic risks.
    • Expansion into new markets could present challenges in terms of operational efficiency and brand loyalty.
    • Intense competition across retail channels, especially from e-commerce players, could impact its market share.
    • Regulatory and legal risks, particularly related to labor practices and product safety, could impact its profitability.
    • Macroeconomic factors like inflation, deflation, and commodity price volatility can significantly impact Costco's financial results in the short-term.

  6. Valuation Analysis:

    • Costco's valuation metrics, such as P/E and EV/EBITDA, are consistently above industry averages, reflecting its strong financial performance and growth prospects.
    • Compared to peers, Costco's valuation is higher, reflecting its premium brand and strong financial performance.
    • Potential catalysts for future growth include continued expansion into new markets, increased penetration of digital channels, and further development of its retail media and personalization initiatives.

  7. Price Performance:

    • Costco's stock price has consistently outperformed the Consumer Discretionary Select Sector SPDR Fund (XLY) over the past three years, demonstrating a strong and stable performance.
    • Costco's price performance has been more consistent than XLY's, indicating a more reliable investment option.
    • Costco's volatility has been lower than XLY's, suggesting a lower risk profile.
    • Compared to peers, Costco has consistently outperformed Target in terms of annualized returns, but has been more volatile. Walmart has been less volatile but has also provided lower returns.

  8. Future Outlook:

    • Management guidance has been consistently accurate, indicating a strong understanding of the business and its future prospects.
    • Analyst estimates are generally positive, with a consensus view that Costco will continue to deliver strong financial performance in the coming years.
    • Key drivers of future growth include continued expansion into new markets, increased penetration of digital channels, and further development of its retail media and personalization initiatives.

  9. Summary:

    • Costco Wholesale Corp. is a financially strong company with a robust business model, a history of strong financial performance, and a clear path for future growth.
    • The company's core membership warehouse model continues to drive strong financial performance, with consistent comparable sales growth, high membership renewal rates, and healthy profitability.
    • Costco's operational efficiency is high, as evidenced by its strong cash flow generation, efficient working capital management, and conservative capital structure.
    • The company is actively expanding into new markets, investing in digital capabilities, and exploring opportunities in retail media and personalization to drive further growth.
    • While Costco faces risks related to economic conditions, competition, and regulatory scrutiny, its strong financial position, robust cash flow generation, and experienced management team provide a solid foundation for future success.
    • Costco's valuation is currently above industry averages, reflecting its strong financial performance and growth prospects.
    • The company's stock price has consistently outperformed the benchmark and its peers, demonstrating a strong and stable performance.
    • Overall, Costco appears to be a strong investment option with a favorable risk-return profile. Its consistent outperformance, lower volatility, and lower beta make it a compelling choice for investors seeking a stable and resilient investment.
Peer fundamentals 
Fundamentals
Insights
  • Costco's core membership warehouse model continues to drive strong financial performance, with consistent comparable sales growth, high membership renewal rates, and healthy profitability.
  • The company's expansion into new domestic and international markets presents both opportunities and risks, as it must balance growth with maintaining operational efficiency and brand loyalty.
  • Costco faces intense competition across retail channels, especially from e-commerce players, which requires ongoing adaptation of its merchandise mix, pricing, and omnichannel capabilities.
  • Regulatory and legal risks, particularly related to labor practices and product safety, pose an ongoing challenge that Costco must proactively manage.
  • Macroeconomic factors like inflation, deflation, and commodity price volatility can significantly impact Costco's financial results in the short-term, requiring careful monitoring and mitigation strategies.
  • Costco's strong liquidity position and cash flow generation provide financial flexibility to invest in growth initiatives, return capital to shareholders, and weather potential economic downturns.
  • The company's profitability is strong, as evidenced by its high return on assets, return on equity, and EBITDA margin.
  • The company's profitability is significantly greater than the industry average.
  • The company's profitability is increasing.
  • The company's liquidity position is strong, as evidenced by its high current ratio and quick ratio.
  • The company's liquidity position is significantly less than the industry average.
  • The company's liquidity position is decreasing.
  • The company's solvency is strong, as evidenced by its low debt-to-equity ratio and debt-to-EBITDA ratio.
  • The company's solvency is significantly less than the industry average.
  • The company's solvency is increasing.
  • The company's efficiency is high, as evidenced by its high return on assets and return on equity.
  • The company's efficiency is significantly greater than the industry average.
  • The company's efficiency is increasing.
  • The company's cash flow generation is strong, as evidenced by its high operating cash flow and free cash flow.
  • The company's cash flow generation is significantly greater than the industry average.
  • The company's cash flow generation is expected to continue to grow.
  • The company's future outlook is positive, as evidenced by its strong financial performance, its commitment to investing in growth initiatives, and its conservative capital structure.
  • The company's future outlook is expected to be impacted by macroeconomic factors such as inflation and interest rates.
  • The company's future outlook is expected to be impacted by its ability to manage its regulatory and legal risks.
Analysis
  • Revenue - Revenue growth is decreasing, but the company is effectively controlling expenses and increasing profitability. - The company's revenue growth is decreasing, but it is still outpacing the industry average. - The company's revenue growth is expected to continue to decrease.
    • Profitability
      • The company's profitability is strong, as evidenced by its high return on assets, return on equity, and EBITDA margin.
      • The company's profitability is significantly greater than the industry average.
      • The company's profitability is increasing.
    • Liquidity
      • The company's liquidity position is strong, as evidenced by its high current ratio and quick ratio.
      • The company's liquidity position is significantly less than the industry average.
      • The company's liquidity position is decreasing.
    • Solvency
      • The company's solvency is strong, as evidenced by its low debt-to-equity ratio and debt-to-EBITDA ratio.
      • The company's solvency is significantly less than the industry average.
      • The company's solvency is increasing.
    • Operational Efficiency
      • The company's efficiency is high, as evidenced by its high return on assets and return on equity.
      • The company's efficiency is significantly greater than the industry average.
      • The company's efficiency is increasing.
    • Cash Flow Analysis
      • The company's cash flow generation is strong, as evidenced by its high operating cash flow and free cash flow.
      • The company's cash flow generation is significantly greater than the industry average.
      • The company's cash flow generation is expected to continue to grow.
    • Risk Factors
      • The company's dependence on the U.S. and Canadian markets could expose it to economic risks.
      • The company's expansion into new markets could present challenges in terms of operational efficiency and brand loyalty.
      • The company's intense competition across retail channels, especially from e-commerce players, could impact its market share.
      • The company's regulatory and legal risks, particularly related to labor practices and product safety, could impact its profitability.
    • Future Outlook
      • The company's future outlook is positive, as evidenced by its strong financial performance, its commitment to investing in growth initiatives, and its conservative capital structure.
      • The company's future outlook is expected to be impacted by macroeconomic factors such as inflation and interest rates.
      • The company's future outlook is expected to be impacted by its ability to manage its regulatory and legal risks.
Most recent earnings report
Financial statements 
All public filings
Comparative Analysis
Benchmarks (as of 2024-08-20)
Consumer Discretionary Select Sector SPDR Fund (XLY)
  • Performance Comparison:
    • COST has consistently outperformed XLY over all the periods analyzed, demonstrating a strong and stable performance. This outperformance is particularly notable over the longer periods of 1 year, 2 years, and 3 years.
    • COST's performance has been more consistent than XLY's, indicating a more reliable investment option.
  • Risk and Return Analysis:
    • COST has provided higher annualized returns than XLY over all the periods analyzed, indicating a strong return potential.
    • COST has generally been less volatile than XLY, suggesting a lower risk profile.
    • COST's maximum drawdown is lower than XLY's, indicating a greater resilience to market downturns. This further supports the notion that COST is a lower-risk investment option.
  • Risk-Adjusted Performance:
    • COST has consistently offered a better risk-adjusted return than XLY, as evidenced by its higher Sharpe ratio. This indicates that COST has been able to generate higher returns for a given level of risk.
    • COST's beta is significantly lower than XLY's, indicating that COST is less sensitive to market movements. This suggests that COST is a more stable investment option, less likely to experience large price swings.
  • Overall Assessment:
    • COST has consistently outperformed XLY in terms of both absolute and risk-adjusted returns. This suggests that COST is a strong investment option with a lower risk profile than XLY.
    • COST's lower volatility and lower maximum drawdown indicate a more stable and resilient investment option.
    • COST's lower beta suggests that it is less sensitive to market movements, making it a more suitable investment for investors seeking a lower-risk portfolio.
    • Overall, COST appears to be a strong investment option with a favorable risk-return profile. Its consistent outperformance, lower volatility, and lower beta make it a compelling choice for investors seeking a stable and resilient investment.
Peers Price History(as of 2024-09-04)
Walmart, Inc. (WMT)Target Corp. (TGT)
  • Performance Comparison:
    • COST has consistently outperformed TGT over the past three years, with significantly higher annualized returns. However, COST's performance has been more mixed compared to WMT, with periods of outperformance and underperformance.
    • COST's performance has been more volatile than WMT's, but less volatile than TGT's.
  • Risk and Return Analysis:
    • COST has provided higher annualized returns than TGT and WMT over the past three years. However, it has also been more volatile than WMT, suggesting a higher risk profile.
    • COST's annualized volatility has been higher than WMT's but lower than TGT's.
    • COST's maximum drawdown of 31.4% is lower than TGT's 58.87% but higher than WMT's 25.74%. This indicates that COST has a higher risk profile than WMT but a lower risk profile than TGT.
  • Risk-Adjusted Performance:
    • COST has consistently had a higher Sharpe ratio than TGT and WMT, indicating better risk-adjusted returns.
    • COST's beta is above 1, suggesting that it is more sensitive to market movements than WMT, which has a beta below 1. TGT's beta is similar to COST's, indicating a similar level of sensitivity to market movements.
  • Overall Assessment:
    • COST has consistently outperformed TGT in terms of annualized returns, but it has also been more volatile. WMT has been less volatile but has also provided lower returns.
    • COST's higher Sharpe ratio suggests that it offers better risk-adjusted returns than its peers.
    • COST's beta indicates a higher risk profile than WMT but a similar risk profile to TGT.
    • Overall, COST appears to be a higher-growth, higher-risk investment compared to WMT, which is a more stable and lower-risk investment. TGT's performance and risk profile are more closely aligned with COST's.
Peers Fundamentals(as of 2024-05-31)
Walmart, Inc. (WMT)Target Corp. (TGT)

  1. Market Position and Size:

    • COST is a large-cap company with a market capitalization significantly larger than TGT, but smaller than WMT.
    • COST's market cap is significantly larger than TGT's, indicating a larger scale of operations and potentially greater market influence.
    • COST's market cap is smaller than WMT's, suggesting that WMT has a larger market presence and potentially greater financial resources.
    • COST occupies a middle ground in terms of size and market influence within its peer group.

  2. Profitability and Efficiency:

    • COST's profitability metrics are generally lower than its peers, but higher than the industry average.
    • COST's efficiency in generating returns is generally higher than its peers and the industry average.
    • COST may have a lower pricing strategy or higher operating costs compared to its peers, but still manages to generate a positive profit margin.
    • COST is more efficient in utilizing its assets, equity, and capital to generate profits.

  3. Financial Health and Stability:

    • COST's liquidity is slightly better than its peers, but lower than the industry average.
    • COST's debt position is significantly better than its peers and the industry average.
    • COST has a strong financial foundation with a low level of debt, which could provide it with greater financial flexibility and stability.

  4. Valuation and Market Perception:

    • COST's valuation metrics are generally higher than its peers and the industry average.
    • The market perceives COST as a more valuable company compared to its peers and the industry, potentially due to its strong brand, loyal customer base, and growth potential.

  5. Cash Flow and Capital Management:

    • COST's cash flow generation strength is generally higher than its peers, considering their respective market caps.
    • COST is more efficient in generating cash from its operations and investing in its growth, which could provide it with greater financial flexibility and stability.

  6. Growth and Future Prospects:

    • COST shows consistently higher growth in sales, EBITDA, net income, and basic earnings per share compared to the peer group average.
    • COST's growth has been consistent and predictable, with standard deviations below the peer group average.
    • COST's growth has been accelerating in recent years, with its 3-year CAGR higher than its 5-year CAGR for the same metrics.
    • COST's growth is balanced across different metrics, with strong growth in sales, EBITDA, net income, and basic earnings per share.
    • COST's growth profile is strong and balanced, suggesting that COST is well-positioned for continued growth and success in the future.

  7. Potential for Investment:

    • COST is an attractive investment for investors seeking a company with a strong track record of profitability, efficient cash flow generation, and a low level of debt.
    • COST's growth potential is also attractive, with consistent growth in sales, EBITDA, net income, and basic earnings per share.
    • COST's higher valuation and slower free cash flow growth could be potential risks for investors.

  8. Key Risks and Considerations:

    • COST's lower gross profit margin suggests that it may have a lower pricing strategy or higher operating costs.
    • COST's slower free cash flow growth could be a concern for investors looking for strong cash flow growth.
    • COST's higher valuation could make it more vulnerable to market corrections.

  9. Overall Assessment:

    • COST is a financially strong company with a solid track record of profitability, efficient cash flow generation, and a low level of debt.
    • COST's growth potential is also attractive, with consistent growth in sales, EBITDA, net income, and basic earnings per share.
    • COST's higher valuation and slower free cash flow growth could be potential risks for investors.
    • Overall, COST is a well-positioned company for continued growth and success in the future.