Earnings Preview – $COST

by Dan March 2, 2016 2:53 pm • Commentary• Trade Ideas

Event: Costco reports fiscal Q2 results after the close. The options market is implying a 4% one day move, which is more than double the 4 qtr average of a little less than 2% and the 10 year average of about the same. In early December, the stock declined 5.4% after reporting their Q1 results.

Price Action / Technichals:  COST is down about 5.5% on the year, and down about 10% from its all time highs made in early December, you guessed it on the day of their Q1 earnings.  COST is trading a few bucks above its one year average price of $149.  

The one year chart below shows the stock’s 16% peak to trough decline from its December highs to its early February lows.  The stock this week found some support at its 200 day moving average at at bout $149:

[caption id="attachment_61853" align="aligncenter" width="600"]COST 1yr chart from Bloomberg COST 1yr chart from Bloomberg[/caption]

Taking a longer term view from its 2009 financial crisis lows, the stock has held its very steady uptrend like a boss, but might have gotten a little ahead of its self with a parabolic move from its 52 week lows made on August 24th to its December highs:

[caption id="attachment_61854" align="aligncenter" width="600"]COST 8 year chart from Bloomberg COST 8 year chart from Bloomberg[/caption]

On a pull back the stock could easily re-test the uptrend near $140, down about 9%, and on the upside the stock finds resistance at the prior highs in the high $160s.

ESTIMATES From Bloomberg

  • Feb. comp. sales (incl. gas) est. unchanged (Retail Metrics, avg of 19)
    • Feb. comp. sales U.S., ex-gas est. +4.1% (avg of 11)
  • 2Q adj EPS est. $1.28 (range $1.18-$1.36)
  • 2Q rev. est. $28.55b (range $28.00b-$30.40b)
  • 2Q U.S. comp. sales est. (ex-gas, FX) +4.9%, intl comp. sales est. (ex-gas, FX) +6.1%; (Consensus Metrix, avg of 23)
    • 2Q U.S. comps. incl. gas, FX est. +4.3%, intl -2.3%
    • 2Q consolidated comp. sales est. (ex-gas, FX) est. +5.4%; incl. gas, FX est. +1.4%


  • Bloomberg Intelligence: 2Q results may benefit from higher membership renewal rates in U.S., growing private-label organics line, e-commerce business
    • Stronger U.S. dollar, falling fuel prices will drag on results
    • 3Q forecast may reflect FX pressures
    • COST’s “treasure hunt,” value propositions should drive traffic, sales (ex-FX)
  • Goldman (neutral): COST’s EPS trajectory remains subdued, based largely on FX pressure, slightly slower sales, after year (FY15) driven by “normative” expense trends, impact of lower gas prices on margin, benefits of reignited buyback
    • Expects reacceleration in FY17 on membership fee hike, potential upside from top-line if appeal of COST’s new co-branded Visa card resonates with consumers
    • Looks for details on recent membership trends, duration of food inflation impact on sales; doesn’t believe Amazon Prime is “meaningfully cannibalizing” COST memberships
  • Stifel (buy): Expects Feb. core comp. trends to “somewhat stabilize” after Super Bowl, weather impacts in Jan.; avg gas price in Feb. down 26% y/y
    • COST should continue to face pressures of weaker high-income sentiment; potential for friction of credit card transition; minimal membership fee growth until later 2016, early 2017 increase
  • Sterne Agee CRT (buy): Expects COST to have easier time lapping gas profitability from last year, primarily given sequential drop in gas prices thru 2Q
    • COST remains “a Top Pick”; cites strong underlying business, easing traffic comparisons, likely L-T benefits from Visa/Citi deal

Options Volatility Snapshot: The 4% implied move, double the long term average drives home the point that short dated options prices are expensive. A chart of 30 day at the money implied volatility shows the massive spike in August, off of very low levels. COST was one of the hardest hit large cap stocks that day.  Since nearly making new lows in the fall, IV has made a series of higher highs and higher lows:

[caption id="attachment_61855" align="aligncenter" width="600"]from Bloomberg from Bloomberg[/caption]

If the company does not issue any surprises and the stock under-performs the implied move, short dated options prices will be back in the teens.

My View: the company has executed very well over the last couple years in a very difficult retail environment, with lower gas prices (they sell gas) and the strength of the dollar serving as a headwind.  The problem I have with the stock is valuation to its own history and to peers. The stock is trading at nearly 30x trailing earnings, very close to an all time high, and 28x expected 2016 earnings that consensus sees growing only 4% year over year, on a 5% sales increase.  For comparison sake, TGT and WMT both trade about 15.5x expected 2016 eps, which consensus sees being flat for TGT and down 10% for WMT.

Right now the converging 50 and 200 day moving averages are acting as a magnet with the stock in between and inline with expectations could mean a stock around $150 for a while. But I could easily see the stock $160 on a beat and raise, or in the low $140s in the event of their second consecutive disappointment in the days after the event.