- Costco has reported October sales that show the company's growth continues to suffer due to the effects of low gasoline prices and a strong dollar.
- Low gas prices and currency headwinds are likely to continue negatively impacting the company's growth in 2016.
- A weak year in 2015 has, however, set up easier growth comps in 2016.
Costco (NASDAQ:COST) has reported sales numbers for the month of October. The company said that net sales grew 1% year on year to $8.78B. Costco reported comparable sales in the U.S. grew +1% while comparable sales growth in Canada came in at -8%. The company’s ‘‘Other International’’ segment grew -6%. Excluding the effects of low gasoline prices and currency headwinds, Costco’s comparable sales grew a healthy 5% -- +4% growth in the U.S., +10% in Canada and +4% in Other International segment.
It’s therefore really clear that the effects of low gas prices and a strong dollar are continuing to negatively impact Costco’s growth. Costco’s comparable store sales have declined 1% for the first three quarters of the year while earnings have grown just 2.64% compared to 15.48% in 2014. Luckily, investors have not lost faith in the company, and Costco shares are up 11.2% YTD.
Costco Year-to-Date Share Returns
Low Gas Prices and Strong Dollar to Persist in 2016 but Comps to Improve
Costco started selling gas in 1995 as a means to attract and retain members, and also as a means to grow its revenue. The strategy has been very successful, as evidenced by Costco’s 91% customer retention rate, one of the highest in the retail industry. Costco’s store traffic has grown at a steady 4% annual clip as customers continue flocking to the company’s warehouses to buy cheap merchandise en masse. Costco’s sales of more than $1,100 per square foot is unrivalled by other big box retailers. In comparison, Walmart (NYSE:WMT) U.S. and Sam’s Club can only lay claim to sales of $400 and $680 per square foot, respectively.
Although gas prices have recovered somewhat from their recent lows, they are still less than 50% of where they stood 18 months ago before the slide began. The general feeling out there is that gas prices are likely to remain depressed for at least two years, with some analysts fearing they might never fully recover.
Meanwhile, the strong dollar is likely to maintain its strength in 2016. The U.S. dollar has appreciated more than 20% against a basket of leading world currencies since the beginning of the year, and shows no signs of letting off steam. The U.S. economy, while not exactly glowing, happens to be doing much better than its contemporaries. Unemployment rates continue to fall while wages continue to steadily rise. The U.S. happens to be the prettiest house on an ugly block, something that is likely to change any time soon.
A strong dollar means that people living in foreign countries have to pay more for the same goods than they previously did. Costco has about one-third of its 686 warehouses located in international markets. That’s a significant number, which unfortunately means the world’s largest warehouse retailer is unlikely to enjoy some reprieve from the currency headwinds that have been decimating its growth.
But the good news is that a tough year in 2015 has automatically set up easier comps for Costco in 2016. So compared to 2015, growth in 2016 is likely to look a lot better ceteris paribus. The long-term outlook remains good as well. Costco is projected to grow earnings at 8.9% CAGR over the next five years as the company continues expanding into international markets. The foreign markets that Costco is targeting such as Europe and Asia are not quite as saturated as the domestic market--the ratio of large retailers for every one million people in Europe and Asia stands at less than two compared to about four in the U.S.. This gives the company good growth runways.
Costco’s unique cost advantage due to its competitive advantages supports an intangible asset. Costco buys its goods in bulk directly from manufacturers at low prices and marks it up only about 15% compared to more than 25% by the average large retailer. Costco is able to not only survive but thrive on low-margins primarily because of its unique membership fee structure--about 75% of the company’s operating profits comes from membership fees. The good thing is that Costco has room to increase its membership fees in the not-so-distant future since the company has not done so over the past four years.
Although the headwinds that have stymied Costco’s growth in 2015 will likely still be around in 2016, comps in 2016 are bound to be a little easier due to an easier base. Costco still has ample opportunities to grow both its top and bottom lines in real terms over the medium and long-term. Costco stock remains one of the best retail picks in the investment world.