There’s something about a stock, that has gained over 16,000% in the span of 30 years, that really gets the blood pumping.
Costco Wholesale Corporation (NASDAQ: COST) is one of the best performing stocks in history, and there are only a handful of names that can truly compete.
(But what makes Costco such a winner?)
It is certainly not their net income margins, which barely go above an average of 2% on any given year. Nor, is it their lackluster amount of cash and cash equivalents, at least compared to some of the largest tech companies in the world. And it’s definitely not their free cash flow, which is barely 2-3% of their revenues. So, what contributes to their near $245 billion valuation?
The keyword here is; consistency.
If there’s one thing that Wall Street loves, it’s consistency. Costco has beaten so many earnings estimates over the years, you might as well fire all the Street analysts (and hire Costco’s accounting team instead).
Since 2005, Costco has only once, shown a decline in sales (2009) and they’ve never let themselves be overleveraged with debt. Say what you want about their “small” cash flow margins, they have continued to churn out more cash in the last 15 years than most companies have in their current market capitalization.
So, we understand that, fundamentally, Costco is a top-class establishment, and that’s not even mentioning how wonderful the shopping experience at the store actually is. But we are investors here, not shopaholics, so let’s look at valuations.
As of today’s date, Costco is valued at $245 billion, with last year’s Cash from Operations totaling somewhere around $9 billion, leaving the stock trading around 27x TTM CFO. That’s on par with top companies like Apple, Microsoft and Amazon. Is putting your money in Costco, as safe of an investment, as putting your money in FAANG? (Facebook, Apple, Amazon, Netflix and Google). While the answer is yes, there is a slight issue with the valuation.
If we look at the current iteration of the FAANG stocks (plus Microsoft) and identify their average annual revenue growth over the last 5 years, this is what we discover:
In terms of growth, Costco has the lowest average sales growth rate, year-over-year, that any FAANG stock. This means that, at the current valuation, it might actually take an investor 27 years to make up their money in Costco if they stopped growing.
But here comes that million-dollar question; will they stop growing? Or if not, how much growth do they have left in their tank? Can they continue to grow at thousands of percent per decade as previously done?
Let’s look deeper.
Currently, Costco operates 815 warehouses worldwide while their biggest competitor (by retail standards), Walmart (NYSE: WMT), owns and operates over 5,000 stores in the US alone. Combined, the total number of stores Walmart operates is closer to 12,000, meaning that Costco has a ton of room to continue growing their number of warehouses.
Now, neither can compete with the sheer advantage of being an E-commerce juggernaut such as Amazon (NASDAQ: AMZN). In reality, who wants to lug 10 cases of wholesale sponges and Clorox sprays home from the store, just because the price is 20% less than the competition?
Truthfully, millions of people.
Even though Walmart, and even Amazon to an extent, have been long time winners in terms of discounted prices, they can’t compete with Costco in one measure; volume.
When you go to Costco, you’re going to buy a lot.
Much of that is due to nature of their memberships and their careful placements of their stores (far from most urban cities) which means most people are going to visit Costco, at least, a few times a year as opposed to a daily basis.
It’s only proper that customers buy as much as they can to avoid constantly waiting in humongous lines, and the drive back home with your trunk full of toilet paper, and a new flat screen T.V.
Oh yeah, and they sell pretty much everything. Clothes, groceries, watches, and electronics, you could buy it all for some of the lowest prices available.
Costco is one of the best places to get a complete shopping experience, and that means that Costco is willing to keep their profit margins low, if it means that they can continue to attract customers to their deliciously low prices.
Did you know that Costco loses money every one of their “famous” rotisserie chickens that they sell? Maybe that’s a testament to the great success of Costco Wholesale Club.
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