Costco Breaking Out on its Fifth Attempt (COST)
Posted on | August 27, 2009 Time: 12:57 pm |
Everyone’s favorite home for 5 lb. cracker bags, 50 rolls of TP, and grab-bag inventory, Costco is finally breaking through the $50 level that has plagued shares since the beginning of the March rally. On no less than 5 separate occasions, shares of this low-beta name have pushed strongly from the $46 level towards $50, but only ending a dime above that resistance level for one day before drifting back down.
But this week seems to have all the right catalysts in place. With the broad market looking ever more like a marathon runner hitting the “wall” mid-race, Costco’s value proposition and defensive stature is looking quite shiny of late. Throw in an upgrade from William Blair (one of the few firms that has some genuine ’street cred’ on the buy side) and a membership fee-driven earnings quality that is unrivaled in the retail space (more on that in my earlier post), and you have all the makings for a nice little ramp.
I chose to hold Costco through the weak times, knowing that the valuation would not be able to hold the 22x-plus level if comps spent any time in negative territory. They did just that, dipping to -1% and -2% (excluding fuel) in June & July. But now the consumer trends look to be stabilizing, as seen in the positive results from Big Lots, Whole Foods, and the like. And with gas prices on the rise, headline sales figures will get the positive juice they need to entice sideline investors and customers will go back to driving 20 miles out of their way to save $.25/gallon on fuel. And as so often happens in the case of the latter, many will come in and shop on the same trip.
So investors find themselves staring at what needs to be thought of as a relative floor in valuation, as the membership fees alone drop $1.2b per year to the bottom line like a rock. Based on today’s mkt cap, that values the company at just over 18x what is essentially guaranteed income. Throw in the fact that net margins have been in a shockingly narrow (read:stable) range for the past 5 years, and you get the whole of the retailer’s operating profits as a free kicker.
I would add to the COST position today if it wasn’t already a 6% position in the Secular Trends Portfolio. But in a market where everyone - pro, novice, and all grades between - are unsure of what’s a safe bet and what’s not, Costco sits in some rarified air.
Ryan Barnes
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