Morningstar | Strong Quarterly Results Highlight Costco's Enduring Strength, but Shares Trade Above our Valuation
Wide-moat Costco's second-quarter earnings and the time value of money are likely to lead us to raise our $192 per share valuation by a mid-single-digit percentage. While February sales were somewhat sluggish (in part due to adverse weather in the United States and Canada and the timing of Chinese New Year), first-half results indicate the firm is ahead of our full-year targets, and we anticipate improvement in March and April as transitory pressures ease. Our long-term forecast (mid-single-digit top-line growth against adjusted operating margins just above 3%) remains largely intact. Despite the uptick, we suggest investors await a more attractive entry point.Costco's first-half revenue rose 8.7% against a virtually flat operating margin (at 3.1%), ahead of our 7.7% and 6 basis point pre-announcement growth and deleverage expectations, respectively. Adjusted first-half global comparable store sales growth of 7.0% is ahead of our 5% pace. Although February sales slowed (4.6% adjusted global store comparable sales growth), we expect the transitory weather and timing factors to abate.
The firm continued its strong e-commerce growth, posting 26% adjusted first-half comparable sales growth that exceeds the 20% we had estimated for fiscal 2019 prior to the announcement. While we continue to believe Costco's greatest strengths lie in store, we expect the firm to perform well even as retail's digitization challenges conventional sellers. With a loyal membership base (roughly 90% retention rate) driving fee revenue that accounts for well over half of the firm's operating income, a low-frills store environment, and prodigious purchasing power concentrated over a small range of items, we anticipate Costco is poised to deliver consistent returns performance for decades to come (we forecast adjusted returns on invested capital of around 20% over the next 10 years, on average). Costco's sustainably low relative cost structure and strong brand underpin our wide-moat rating.
Costco Wholesale and its subsidiaries are principally engaged in the operation of membership warehouses based on the concept of providing its members low prices on a selection of nationally branded and private-label products. The company's merchandise are: food and sundries, which include dry foods, packaged foods, and groceries, snack foods, candy, alcoholic and nonalcoholic beverages, and cleaning supplies; hardlines, which include appliances, electronics, health and beauty aids, hardware, and garden and patio; fresh food, which include meat, produce, deli, and bakery; softlines, which include apparel and small appliances; and ancillary, which include gas stations and pharmacy businesses.
Morningstar, Inc. is a leading provider of independent investment research in North America, Europe, Australia, and Asia. The company offer an extensive line of products and services for individual investors, financial advisors, asset managers, and retirement plan providers and sponsors.
Morningstar provides data on approximately 530,000 investment offerings, including stocks, mutual funds, and similar vehicles, along with real-time global market data on more than 18 million equities, indexes, futures, options, commodities, and precious metals, in addition to foreign exchange and Treasury markets. Morningstar also offers investment management services through its investment advisory subsidiaries and had approximately $185 billion in assets under advisement and management as of June 30, 2016.
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