Business context and reporting period
Costco Wholesale Corporation operates membership warehouses and online businesses. This unaudited Form 10-Q covers the 12 weeks and 24 weeks ended February 14, 2016, compared with the corresponding periods ended February 15, 2015. Costco operated 698 warehouses worldwide at quarter-end.
Financial performance and position
Unless noted, amounts are in millions of dollars.
| Metric | 12 weeks ended Feb. 14, 2016 | Prior-year comparable | 24 weeks ended Feb. 14, 2016 | Prior-year comparable |
|---|---|---|---|---|
| Net sales | $27,567 | $26,872 | $54,194 | $53,156 |
| Total revenue | $28,170 | $27,454 | $55,390 | $54,320 |
| Operating income | $856 | $877 | $1,623 | $1,647 |
| Net income attributable to Costco | $546 | $598 | $1,026 | $1,094 |
| Diluted EPS | $1.24 | $1.35 | $2.32 | $2.47 |
| Gross margin as % of net sales | 11.24% | 11.07% | 11.26% | 11.05% |
| SG&A as % of net sales | 10.28% | 9.94% | 10.41% | 10.10% |
Membership-fee revenue was $603 million in the quarter, up 4%, and $1,196 million for the first half, up 3%. Paid members totaled 46.1 million; renewal rates were 91% in the U.S. and Canada and 88% worldwide.
First-half operating cash flow was $1,602 million, versus $2,028 million a year earlier; investing cash outflow was $952 million and financing cash outflow was $1,787 million. Cash and cash equivalents were $3,633 million and short-term investments were $1,222 million at February 14, 2016, together $4,855 million versus $6,419 million at August 30, 2015. Capital expenditures were $1,339 million in the first half.
Total long-term debt was $4,975 million, including $89 million current and $4,886 million noncurrent, compared with $6,135 million at fiscal year-end. Costco repaid $1.2 billion of 0.65% Senior Notes in December 2015. Management said cash and operating cash flows should meet liquidity and capital requirements for the foreseeable future.
Material changes versus prior comparable periods
- Quarterly net sales rose 3%, but comparable sales increased only 1%; first-half net sales rose 2% while comparable sales were flat. Excluding foreign exchange and gasoline-price changes, comparable sales rose 5% for the quarter and 6% for the first half.
- Foreign-exchange changes reduced quarterly net sales by approximately $945 million and first-half net sales by approximately $2,060 million. Lower gasoline prices reduced sales by approximately $213 million and $950 million, respectively.
- Quarterly net income declined 9%; first-half net income declined 6%. Prior-year earnings benefited from discrete tax benefits, including a benefit associated with a special cash dividend to 401(k) participants; management cited approximately $43 million, or $0.10 per diluted share, for the quarterly comparison.
- Gross margin percentage improved, but SG&A increased as a share of sales. Management attributed expense pressure to employee costs, stock compensation, information-systems modernization, and certain non-recurring items.
- First-half operating cash flow declined, primarily due to the timing of payments to merchandise vendors. Cash declined following the debt repayment and ongoing investment and shareholder distributions.
Outlook, commentary, and risks
- Costco expected to open up to 20 additional warehouses during the remainder of fiscal 2016, including two relocations, and planned fiscal-year capital spending of approximately $2.8–$3.0 billion. These plans were subject to change.
- The current quarterly dividend rate was $0.40 per share. The prior-year comparable included a special dividend, explaining the unusually high prior-period declared-dividend figures.
- Management emphasized comparable-sales growth, member loyalty, pricing, and cost control. It noted that gasoline prices, currency movements, competition, employee and benefit costs, and consumer spending can affect results; modest margin or expense changes can significantly affect profitability.
- Risks and contingencies include ongoing legal matters, state unclaimed-property examinations, and inquiries concerning controlled-substance prescription practices. The company recorded an immaterial accrual for one matter; it said a loss, including one exceeding any accrual, was reasonably possible in certain cases but generally could not be estimated. Management did not expect pending matters, individually or in aggregate, to materially affect financial position, while noting an unfavorable outcome could materially affect an individual quarter.
- No material changes to previously disclosed risk factors or market risks were reported. Management stated disclosure controls were effective.
Important facts for investors to verify
- Whether reported sales and comparable-sales trends improve after separating currency and gasoline-price effects, particularly given flat first-half comparable sales.
- Whether gross-margin gains can offset higher SG&A and employee-related costs, and the effect of reduced U.S. co-branded-card bounty revenue pending a new arrangement.
- Execution of the warehouse-opening and $2.8–$3.0 billion capital-spending plans, and the resulting effect on cash and returns.
- Liquidity and debt developments after the $1.2 billion note repayment, including access to short-term borrowing facilities.
- Developments in the disclosed legal, unclaimed-property, and controlled-substance matters, including any potential material quarterly charge.