Costco Misses Q2 Earnings and Revenue Estimates

After missing the Zacks Consensus Estimate by 6.8% in the first quarter of fiscal 2016, Costco Wholesale Corporation (COST - Analyst Report) again succumbed to a negative earnings surprise of 3.1% in the second quarter. The company reported earnings of $1.24 per share that missed the Zacks Consensus Estimate of $1.28 and also declined 8.1% from $1.35 posted in the prior-year quarter due to higher operating expenses. Lower traffic count and foreign currency headwinds impacted the quarterly results as well.

Delving Deeper

The warehouse retailer’s total revenue, which includes net sales and membership fee, rose 2.6% to $28,170 million in the reported quarter. Quarterly net sales went up 2.6% year over year to $27,567 million, whereas membership fee increased 3.6% to $603 million. However, total revenue fell short of the Zacks Consensus Estimate of $28,584 million, thus marking the fifth straight quarter of revenue miss.

Costco’s comparable-store sales (comps) for the second quarter inched up 1%, following a decline of 1% in the preceding quarter, reflecting a 3% increase at U.S. locations, partially offset by a 7% fall in locations at Canada and a 3% drop at Other International outlets.

Excluding the effect of lower gasoline prices and currency headwinds, the company witnessed comps growth of 5% during the quarter, with U.S., Canada and Other International comps registering an increase of 4%, 10% and 6%, respectively.

Costco’s operating income in the quarter under review dropped 2.4% year over year to $856 million, whereas operating margin (as a percentage of total revenue) contracted 20 basis points to 3%.

February Sales Results

Costco reported flat comps for February, following flat comps for January, an increase of 1% in December, flat comps in November and a 1% decline in October. Comps for February reflect an increase of 2% at the company’s U.S. locations, offset by a 2% fall at its Canadian locations and a decrease of 8% at Other International locations. While lower gasoline prices impacted U.S. comps, currency fluctuations adversely affected international comps.

However, excluding the adverse impact of foreign currency headwinds and gasoline price deflation, Costco’s comps for the month under review rose 4%. The company recorded comparable sales growth of 4% and 10% across its U.S. and Canadian locations, respectively, while comps at Other International outlets remained flat.

On the sales front, the company reported a 1% improvement in net sales to $8.28 billion for the four-week period ended Feb 28, 2016.

Financial Aspects

Costco ended the quarter with cash and cash equivalents of $3,633 million and long-term debt (including current portion) of $4,975 million. The company’s shareholders’ equity was $11,000 million, excluding non-controlling interests of $234 million.

Let’s Conclude

Costco continues to be one of the dominant retail wholesalers based on the breadth and quality of the merchandise it offers. Its strategy to sell products at highly discounted prices has helped in sustaining growth amid soft economic conditions. Also, the company’s diversification strategy acts as a natural hedge against risks that may arise in specific markets.

However, Costco faces stiff competition from Target Corporation (TGT - Analyst Report) and Sam’s Club, a division of Wal-Mart Stores Inc. (WMT - Analyst Report) that follow a similar business model, which pushes through high volumes of merchandise at low prices in membership-only warehouse clubs. Thus, aggressive pricing to gain market share and drive traffic amid stiff competition, may depress sales and margins, going forward.

Costco currently operates 698 warehouses, comprising 488 warehouses in the U.S. and Puerto Rico, 90 in Canada, 36 in Mexico, 27 in the U.K., 24 in Japan, 12 in Korea, 11 in Taiwan, 8 in Australia, and 2 in Spain.

Zacks Rank

Costco currently carries a Zacks Rank #3 (Hold). A better-ranked stock in the retail space is Ross Stores Inc. (ROST - Analyst Report), holding a Zacks Rank #2 (Buy).