Business Context and Reporting Period
Company: Costco Wholesale Corporation
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: 12 weeks ended May 11, 2008 (Third Quarter of Fiscal 2008) and 36 weeks ended May 11, 2008.
Operations: As of May 11, 2008, Costco operated 505 warehouses globally (388 in the U.S., 75 in Canada, and others in the U.K., Japan, Korea, and Taiwan). The company operates on a 52/53-week fiscal year.
Key Financial Metrics
| Metric (in thousands) | 12 Weeks Ended May 11, 2008 | 36 Weeks Ended May 11, 2008 |
|---|---|---|
| Total Revenue | $16,613,717 | $49,383,133 |
| Net Sales | $16,262,793 | $48,351,255 |
| Net Income | $295,066 | $884,897 |
| Diluted EPS | $0.67 | $1.99 |
| Operating Cash Flow (36 weeks) | $1,763,211 | |
| Cash and Cash Equivalents | $2,848,658 | |
| Short-term Investments | $805,963 | |
| Total Debt (Current + Long-term) | $2,284,429 | |
| Gross Margin % | 10.54% | 10.64% |
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 13.4% in the third quarter and 12.4% for the 36-week period compared to the prior year. This was driven by an 8% increase in comparable warehouse sales and the opening of 25 new warehouses since the prior year's quarter end.
- Profitability: Net income increased 31.7% to $295.1 million for the quarter and 24.6% to $884.9 million for the 36-week period. Adjusted net income (excluding unusual items from the prior year) increased 20% and 16%, respectively.
- Margin Expansion: Gross margin as a percentage of net sales increased 33 basis points in the quarter and 22 basis points for the 36-week period. Selling, general, and administrative (SG&A) expenses as a percentage of net sales decreased 26 basis points in the quarter.
- Membership Fees: Increased 10.4% in the quarter due to new sign-ups and higher penetration of the Executive Membership program.
- Investment Impairment: The company recognized an impairment loss of $4.2 million on certain short-term investments (enhanced money funds) during the 36-week period due to restricted liquidity in specific funds.
Guidance, Outlook, and Risks
- Expansion Plans: Management intends to spend approximately $1.6 billion to $1.7 billion in fiscal 2008 on real estate, construction, and equipment. Approximately $1.15 billion has been spent through the third quarter. Plans include opening 12 to 14 additional warehouses for the remainder of the fiscal year.
- Dividends: The Board declared a quarterly cash dividend of $0.16 per share, an increase from $0.145, representing an annualized rate of $0.64.
- Stock Repurchases: The company repurchased 3.75 million shares in the quarter for $240.9 million. Approximately $1.31 billion remains available under approved repurchase plans.
- Risks and Contingencies:
- Legal Proceedings: The company is involved in multiple class actions regarding overtime compensation, wage statements, and membership practices. A $5.5 million reserve was established for a settlement regarding membership reward certificates.
- Investment Liquidity: Three enhanced money funds (Columbia, BlackRock, Merrill Lynch) have restricted liquidity or are being liquidated. While $371 million was reclassified from cash equivalents, management does not expect future losses to be material.
- Regulatory: Ongoing investigations by the U.S. Attorney's Office regarding stock option practices and EPA inquiries regarding air-conditioning and refrigeration equipment compliance.
Key Facts for Investor Verification
- Comparable Sales Growth: Verify the sustainability of the 8% comparable sales growth, noting the significant contribution from gasoline sales and foreign currency strength (particularly in Canada).
- Investment Portfolio Risk: Monitor the status of the $306.9 million remaining in restricted/liquidating money funds and potential for further impairment losses.
- Legal Exposure: Track the resolution of the multiple California class actions regarding employee compensation and the finalization of the membership reward settlement.
- Capital Allocation: Confirm the execution of the $1.6–$1.7 billion capital expenditure plan and the pace of stock repurchases against the remaining $1.31 billion authorization.
- Margin Pressure: Assess the impact of rising supplier costs and fuel prices on future gross margins, as management noted price increases may not be fully passed through to consumers.