Despite fears of sharp discounts and a weakening American consumer, the third-quarter retail earnings period was not all that bad. Walmart (WMT, Financial) CEO Doug McMillon warned analysts that the back half of October was not as strong as was seen earlier in the quarter, but the SPDR S&P Retail ETF (XRT, Financial), graphed below, notched its best weekly settle since August. Costco Wholesale Corp. (COST, Financial) will offer more clues this week with its November same-store sales report on Wednesday afternoon.
I am neutral on the stock as I see it as richly priced compared to its sector, but must acknowledge that technical strength is impressive and its fundamental business model looks as strong as ever.
XRT Retail ETF pacing for a strong November
Source: Stockcharts.com
Company description and risks
For background, Costco operates a membership-based chain of retail warehouse clubs offering a selection of branded products, including its popular Kirkland Signature private label. With 861 stores worldwide, the company continues its global expansion.
Key data
The Washington-based $262 billion market cap company operating within the consumer staples sector trades at a high 37.8 forward non-GAAP price-earnings ratio and pays a small 0.7% dividend yield. With earnings due out in the middle of December, shares trade with a low 18% implied volatility percentage while short interest on the stock is modest at just 1% as of Nov. 24. Option Research & Technology Services reports the current consensus operating earnings per share estimate for its first quarter is $3.41, which would be a 10% increase from $3.10 reported in the same period a year earlier.
Earnings review
Back in September, Costco reported a healthy set of third-quarter numbers. GAAP earnings per share were verified at $4.86, topping analysts' estimates by 9 cents, while revenue of $78.9 billion increased 9.5% compared to the fourth quarter of 2022, impressively beating expectations by more than $1 billion. Fourth-quarter adjusted comp store sales rose 3.1% in the U.S. with strength in its international segments. With more foot traffic and less online activity, Costco's E-commerce segment endured a slight 0.6% sales dip. Despite lower ticket prices, its gross margin ticked up, driven by core merchandise sales improvements and favorable last in, first out comps.
What I found encouraging were sequential gains in e-commerce, suggesting underlying strength as the calendar year progresses. With Black Friday and Cyber Monday sales expected to have been strong, I would like to see that reflected in a robust set of November same-store sales data. Meanwhile, there remains the expectation that membership prices will eventually be on the rise, according to comments made by Chief Financial Officer Richard Galanti during a conference call in September.
Valuation
On valuation, analysts at Bank of America see earnings growth decelerating this fiscal year compared to 2023, but still growing at a solid pace. Per-share profits are expected to approach $16 this year and then progress toward $18 by 2026. That is also about where the current Wall Street consensus estimates stand. With a forward non-GAAP price-earnings multiple slightly under 40 and still above 30 using 2026 earnings expectations, the stock has among the richest non-tech valuations in the S&P 500. Dividends, meanwhile, are expected to continue to climb as free cash flow increases over the coming quarters.
If we assume $16.30 of next 12 months operating earnings per share and apply the company's five-year average 35 multiple, then shares should be near $570, making the stock slightly overvalued today. With technical strength I will detail later, there is reason to be long the stock from a momentum perspective, but the growth at a reasonable price case is a stretch, in my view.
Costco earnings, valuation, dividend yield and free cash flow forecasts
Source: BofA Global Research
Competitor analysis
Compared to its peers, Costco is just about the most expensive of the bunch, but its growth history and trajectory appear solid while its membership and general merchandise sales model is one of the most robust in the consumer marketplace. The company also sports strong share price momentum versus its big-box peers and earnings per share revisions have been favorable heading into the earnings event in three weeks.
Event outlook
Looking ahead, corporate event data provided by Wall Street Horizon show a confirmed first-quarter 2024 earnings date of Thursday, Dec. 14 at market close. As mentioned earlier, November sales data hits the tape this Wednesday after the bell. Also keep the annual shareholders meeting on Jan. 18, 2024 on your calendar.
Source: Wall Street Horizon
The technical take
With the stock priced for near-perfection, perhaps with the hope that membership fee hikes are in the cards, the technical situation looks strong. Notice in the chart below that shares broke out from a symmetrical triangle consolidation pattern back in June. While there have been some fits and starts in the third quarter and earlier this quarter, shares are near 52-week highs today, within earshot of all-time highs. A solid set of November numbers and first-quater 2024 results would likely be enough to carry Costco above the $612 high water mark.
As it stands, I see the $571 to $577 area as near-term support, and the rising long-term 200-day moving average confirms the bulls are in control from a technical point of view. What's more, there is a high amount of volume by price from $575 down to $470, which should provide support on pullbacks from here. We can even project a measured move price objective based on the height of the symmetrical triangle – the $200 height added on top of the $515 breakout point suggests upside to the low $700s could be in play longer term.
Overall, the technical situation is sanguine, and being long from a momentum perspective could work over the coming weeks.
Shares encroach on all-time highs, eyeing $700 amid favorable technicals
Source: Stockcharts.com
The bottom line
Swing traders certainly may like Costco here, but the valuation is at the very least fair and perhaps slightly overvalued.
