Discount Merchandisers Facing Earnings Squeeze in 2014?

What Hurdles Discount Merchandisers Face in New YearI always want to know what Costco Wholesale Corporation (COST) has to say about its business. It’s a great benchmark stock and a barometer on spending.

The company’s latest quarter produced earnings that came in slightly below consensus. The great thing about this business is the membership fees. They are pure gravy and go a long way in padding the company’s bottom line.

In its fiscal first quarter of 2014 (ended November 24, 2013), the company’s sales grew five percent to $24.5 billion. Comparable store sales in the U.S. market grew three percent; international sales grew one percent. Excluding gasoline and foreign exchange (which the company always reports), U.S. comparable store sales grew four percent, while international sales grew six percent.

Membership fees actually came in pretty solid, growing to $549 million in the most recent quarter compared to $511 million during the same time last year.

Total quarterly earnings were $425 million, or $0.96 per diluted share. This compares to $416 million, or $0.95 per diluted share. Dividends paid grew to $0.31 a share, up from $0.275 per share, comparatively.

Costco’s shares sold off slightly after reporting its numbers. The company is in a solid financial position, but there has been a softening of results from other merchandisers.

Costco’s share price has been on a tear the last several years, but this is the second small crack in the company’s quarterly reporting, and I find it material. (See “Costco Membership Drop an Irksome Sign of Consumer Pullback.”) Costco’s five-year stock chart is featured below:

Costco Wholesale Corporation Chart

Chart courtesy of

The bright spot in Costco’s latest quarter was its membership fees. That’s the canary in the coal mine for this business. Higher-than-expected operating costs affected the company’s bottom line and a low-margin business such as Costco is very vulnerable to selling, general, and administrative costs (SG&A).

Street analysts immediately lowered their earnings expectations on the company for upcoming periods. By no means is Costco’s business turning south; comparable store sales were solid last quarter. But the stock is a little vulnerable near-term, as investors may reposition.

Any retailer that can convince consumers to pay an annual membership for the right to shop at its stores has an edge in the low-margin business of merchandising. Membership fees are everything in terms of discerning a big new trend among consumers and Costco’s business.

Wal-Mart Stores, Inc. (WMT) has held up well on the stock market, likely due to its more reasonable valuation. Wal-Mart’s U.S. comparable store sales declined 0.3% in the 13 weeks ended October 25, 2013. But the company’s U.S. operating income experienced a solid quarterly gain of 5.8% in contrast to Costco. Excluding fuel, Wal-Mart’s membership-only retail chain, Sam’s Club, saw a 9.4% gain in operating income last quarter.

For the 14 weeks ending January 2014, Wal-Mart expects its comparable U.S. store sales to be flat. It’s a developing trend that discount merchandisers are all likely to experience, which means investors should watch for a dip in Costco’s price for a possible buying opportunity.