Costco shares tumble 5.5% after earnings but analysts see few causes for concern

Costco issued a warning about its financial reporting, but analysts are still bullish about the warehouse retailer.

Costco’s high-income, loyal customers and growing e-commerce business are providing insulation

Costco Wholesale Corp. shares fell 5.5% on Friday after the company warned about internal controls on its financial reporting, but analysts say the warehouse retailer is insulated from most threats by its loyal customer base and other factors.

Costco COST, -5.55% said it expects to report a “material weakness in internal control” in its fiscal 2018 10-K annual report.

“The access issues relate to the extent of privileges afforded users authorized to access company systems,” Costco said in the release. “As of the date of this release, there have been no misstatements identified in the financial statements as a result of these deficiencies, and the Company expects to timely file its Form 10-K.”

Remediation efforts are under way, with the process expected to be complete before the end of fiscal 2019, the company said.

CFRA’s Cathy Seifert is upbeat about Costco’s upward trajectory, including the full-year revenue growth to $141.58 billion from $129.03 billion last year, and same-store sales growth of 9.5% for the quarter and the year.

“[B]ut our view is tempered by Costco’s disclosure,” Seifert wrote. “We think this disclosure may remove a near-term catalyst from shares.”

CFRA rates Costco shares hold, but raised its price target to $230 from $206.

“It sounds as though staffers with access to back-end controls did not have their permissions revoked after they left the company,” according to Dennis Howlett, co-founder of Diginomica. The important bit is where Chief Financial Officer Richard Galanti says, on the call, according to a FactSet transcript, that the company “has found no issues whatsoever in terms of misstatements or breaches.”

“So, on the one hand, he is confirming there were no unauthorized changes that impact the numbers during times when those people had access,” Howlett told MarketWatch. “But equally, he is saying that post departure, no one whose permissions should have been revoked used their credentials to gain access. If that’s the case then they were fortunate.”

Other analysts focused their attention on Costco’s strengths, of which they think there are many.

“We believe Costco is well positioned to continue delivering double-digit earnings growth over the near-to-medium term driven by square footage growth, membership revenue growth, and industry leading physical store traffic growth,” wrote Cowen analysts led by Oliver Chen. “Costco’s higher income customer base (average household income of ~$73k) is faring better economically than low-to-middle income consumers, who continue to struggle with wage growth.”

Cowen rates Costco shares outperform with a $242 price target.

JPMorgan analysts think Costco has an “unrivaled value proposition” and a “fiercely loyal consumer base” along with opportunities for growth around the world and favorable merchandise mix of retail and consumer staples.

“Given the company’s expanding online offering and improved value prop from its Visa credit offering, we see a runway of share opportunity both in-store and online,” JPMorgan wrote. “Finally we note the membership fee increase and competitor Sam’s [Club] closing ~63 stores in the US and Puerto Rico to start the year; we believe this is a good time to own Costco.”

Sam’s Club is a Walmart Inc. WMT, -0.96% warehouse retail chain. Walmart announced in January that it would close locations nationwide.

JPMorgan rates Costco shares overweight and cut its price target to $252 from $255.

Stifel analysts highlight a slowdown in e-commerce growth, up 26.2% for the fourth quarter compared with 36.8% growth in the previous quarter.

On the call, Galanti said the company has “a lot of new things” to come, and that “there’s still plenty of low-hanging fruit” for the company to capitalize on.

“We view any potential slowdown in e-commerce as a watchpoint, as our Proprietary Consumer Spending Survey suggests that those consumers who shop on and at Costco warehouses shop more frequently across categories than those who do not (except grocery),” the Stifel note said.

Stifel rates Costco shares buy with a $245 price target.

BMO Capital Markets analysts led by Kelly Bania think Costco has much e-commerce development to come.

“We rate Costco shares outperform as we believe an acceleration in Costco’s online business is in the early stages and could continue to support a strong comp outlook and higher valuation as the company widens its competitive moat with a deeper digital relationship with its loyal customer base,” the note said.

BMO Capital Management lowered its price target to $258 from $260.

Costco executives also used the earnings call to address the minimum-wage issue that after Inc. AMZN, -0.95% raised its minimum wage to $15.

Galanti notes that the minimum wage at Costco was raised to $14 and $14.50, and he thinks the average U.S. hourly wage is $22.50, “which, we believe, dwarfs any other retail or retail-type entity out there on a big scale.”

Costco shares have rallied 17.6% for the year to date while the SPDR S&P Retail ETF XRT, -0.74% is up 8% and the S&P 500 index SPX, -0.55% is up 8% for the period.

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