Novice Investing - Costco Getting Cheaper

Date: Monday 13th 2008f October 2008 06:16:51 PM

Costco Getting Cheaper - 08/30/2006

By: Novice Investing Staff

Costco Wholesale Corp. (COST) cut its profit guidance on lower-than-expected gross margins and tax reserve. Costco now expects earning in the fourth quarter ending Sept 3 to be in the range of 68 to 71 cents. Analysts' estimate is calling for 77 cents per share. At the same time, Costco also reports that same store sales rose 7 percent while total sales for August rose 11% to $ 4.55 Billion.

Gross margin is critically important at Costco. It is the pioneer of the membership warehouse where average folks can buy bulk goods at a wholesale price while paying for a Costco membership card. Further, Costco stores also feature gas stations where margin is low. It hopes that shoppers will go inside and shop in the store as they fill their tank. Analysts suspect that the rising gasoline price this summer affect Costco's gross margin for the quarter. For a discount retailer like Costco, gross margin performance is absolutely important. One percentage point of gross margin difference will affect its bottom line more than other companies such as say Microsoft or Intel.

In fiscal year 2005, Costco posts a 12.4% of gross margin, less than even Walmart's 24.3% gross margin. Obviously, Costco takes so little mark up to drive sales to its stores. Walmart, which is known for its cutthroat competitive price, actually takes in higher markup than Costco. Thus, a 1% decline in gross margin will reduce Costco's overall profit more than similar decline at Walmart. Every cents count and surprisingly, Costco is known for companies that give out health benefits even to most of its part-time workers. .

Balance sheet is quite solid at Costco, with more cash than its long term debt. Meanwhile, Walmart actually has a lot more long term debt than it has cash. Thus, Costco is well-positioned during its short-term hiccup. What is concerning about Costco is its share price. With expected EPS of $ 2. 33 for August 2006 fiscal year, it is recently trading at 21 times earnings. Meanwhile growth estimate is slowing at 15% per annum. At this price, you would find a hard time making profits investing in Costco. Looks like the share price is down a bit on the earning warning news. However, it is still to early to buy Costco as a turnaround play.

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Disclaimer: The sole purpose of this article is educational. This article is merely the opinion of the writer and is not in any way a buy/sell recommendation regarding Costco Wholesale Corp. (COST) or any other securities.

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