Interactive Investor

What to do with a share that’s tripled?

This stock is on a roll and our overseas investing expert is confident it can take upcoming change in its stride. But can solid growth continue?

20th December 2023 09:56

Rodney Hobson from interactive investor

There is to be an immediate change at the top at membership-only retailer Costco Wholesale Corp (NASDAQ:COST) but shareholders need not worry about there being upheaval at this well-run company. The handover should be smooth and successful.

Chief executive officer Craig Jelinek plans to step down on 1 January, but he will remain with Costco until April to help with the transition. Stepping up is chief operating officer Ron Vachris, who has held that post for less than two years. However, he knows the company inside out, having joined as a forklift driver more than 40 years ago.  

Vachris takes over with Costco on a roll, a success largely of his making. In the 17 weeks to 3 September, the latest figures available, sales rose 9% to $77.4 billion, plus $1.5 billion worth of membership fees on top. That beat analysts’ expectations, although not by a wide mark it must be admitted.

With margins widening despite inflationary pressures on the supply side, net income climbed 16% to $2.16 billion, with earnings per share up a similar percentage to $4.86. The policy of keeping costs down by avoiding costly shop displays and using tightly controlled warehouses that are strategically placed has really paid off.

Net sales for the 53-week financial year were 6.7% higher at $237.7 billion and net income improved 7.7% to $6.3 billion, so the final quarter showed greater percentage rises than in the first nine months, particularly for net income. This is good news going into the important Christmas period, which falls in Costco’s first quarter.

Source: interactive investor. Past performance is not a guide to future performance.

Costco was originally very much an American concept, spreading out slowly but surely from its base in Seattle on the west coast. It concentrated on buying in bulk at low prices and passing on the benefits to its subscribers, preferring to keep its ranges narrow rather than offer a wider selection at less-favourable prices. Goods on offer include food, non-food merchandise, pharmacy products and, at most outlets, fuel.

It has expanded carefully, avoiding overextending its management and facilities, but has eventually moved into retailing in a comparatively modest way. It now has approaching 900 outlets, mostly in the United States, following its policy of expanding where it knows its markets best.

However, the overseas operations are now coming into their own. Like-for-like sales outside the US grew by 5.5%, easily outstripping the US. Most of the 270 overseas warehouses are in neighbouring Canada and Mexico but Costco now has a strong foothold in Japan and the UK.

One slightly worrying feature is that existing warehouses and stores seem to be reaching the limit of their sales, which means that more outlets will need to be opened to maintain sales growth. The low-cost structure may be challenged, as setting up new outlets is more expensive than expanding existing ones.

Costco shares have more than tripled in value over the past five years, from $200 to a peak of $680, despite a sharp fall during the pandemic when Costco suffered heavily from having a low level of online sales. This climb has pushed the price/earnings ratio up to a hefty 46, while the yield is only about 0.6%, so the market is assuming continued solid growth, which could well happen.

Hobson’s choice: I drew attention to Costco shares in October last year when they had fallen from $600 to £472 over the previous six months for no good reason. I said the shares were a buy below $480 with the downside limited to $450.

In fact, $454 proved to be a solid floor so the chance to get in below $480 was not available for long, but those who acted quickly have been well rewarded. If you are in for the long term, hold on. However, the shares are fully valued for now so if you are thinking of buying, it is probably best to hold off and hope for a correction.

Rodney Hobson is a freelance contributor and not a direct employee of interactive investor.

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