Costco Stock: Higher Oil Prices are Bringing Customers to Costco

SUMMARY

Parkev Tatevosian, CFA, analyzes Costco's recent sales growth, highlighting the impact of higher oil prices on customer traffic and the company's enduring value proposition. Despite strong fundamentals and resilience to economic cycles, he maintains a hold rating due to the stock's premium valuation.

MAIN POINTS

• Costco reports a 10.7% increase in net sales and an 8.9% rise in comparable store sales, with higher gas prices contributing to customer traffic. [0:00]
• Management notes that new store openings can cannibalize existing locations, but Costco achieves high sales per location compared to competitors like Walmart. [2:00]
• Costco maintains low profit margins by passing savings to customers, building a reputation as a low-cost provider and fostering customer loyalty. [3:01]
• Costco's business is resilient during economic downturns, as value-conscious customers are drawn to its offerings, offsetting cyclical risks. [5:00]
• Despite its strong business model, Costco trades at a high forward price-to-earnings ratio, exceeding that of major tech companies, and is considered overvalued by discounted cash flow analysis. [6:01]
• The analyst reiterates a hold rating on Costco, citing its consistent long-term performance but limited opportunities to buy at an attractive valuation. [7:00]

DETAILED ANALYSIS

Costco has demonstrated robust sales growth, with net sales rising 10.7% and comparable store sales up 8.9% in the most recent month. This performance is partly attributed to higher gasoline prices, which, while not significantly boosting profitability, attract value-conscious customers seeking savings at the pump. The company's strategy of conservative new store openings aims to maximize value from existing locations and avoid cannibalizing sales, resulting in Costco achieving nearly half the sales of Walmart with only about 10% of the store count, making its sales per location among the highest in the industry.

Despite this operational efficiency, Costco operates on thin profit margins, with a record-high operating margin of just 3.82%. The company intentionally maintains a gross margin of around 15% by passing supplier savings directly to customers, reinforcing its reputation as a low-cost leader and reducing the need for customers to comparison shop. This approach has fostered strong customer loyalty and confidence in Costco's value proposition.

Costco's business model is notably resilient to macroeconomic fluctuations. During economic downturns, the company attracts new customers who become more price-sensitive, while in prosperous times, some customers may opt for competitors offering a more comfortable shopping experience. This dynamic helps stabilize Costco's performance across business cycles, making it less cyclical than many retailers.

However, the stock's valuation remains a concern. Costco is currently trading at a forward price-to-earnings ratio of 43, which is higher than many leading technology companies. A discounted cash flow analysis estimates the fair value at $757 per share, while the current market price is significantly higher, indicating the stock is overvalued.

Historically, opportunities to purchase Costco at a discount have been rare, and the analyst maintains a hold rating, recognizing the company's exceptional quality but cautioning against buying at current elevated prices.

LINKS

• YouTube channel membership for exclusive perks and early access.
• Special offer for The Motley Fool Stock Advisor.
• Link to Parkev Tatevosian's book on stock investing.
• Discounted access to Fiscal.ai for investment research.
• Webull sign-up link with bonus shares offer.
• Subscription link for Parkev Tatevosian's Substack newsletter.

KEYWORDS