Costco Wholesale (COST) Results Better, Now Look To Catalysts - Morgan Stanley

Morgan Stanley analyst, Simeon Gutman, is incrementally bullish after the Costco Wholesale (NASDAQ: COST) announcement. Investors were braced for an EPS miss given a litany of headwinds. That EPS beat ($1.24 vs $1.22 consensus) and appears to be of good quality with EBIT dollars coming in stronger by $18 million, shows that the business was well-managed in what could have been a weaker quarter. The firm maintained an Overweight rating and price target of $165.

EPS of $1.24 was two pennies ahead of consensus. The outperformance came from stronger gross margins and to a lesser extent higher membership income. Gross margin expanded +34 bps. COST’ GM is likely benefitting from lower product acquisition costs and perhaps from deflation in food categories. Q3 EPS growth (+6.1%) is below average by COST’ historical standards, but this was already factored into expectations.

Tough compares persist and there is potential for disruption around the June Visa transition but the medium to longer term setup remains favorable for 3 reasons:

1) The credit card changeover takes place in late June and the analyst would expect to see a pickup in spending as customers take advantage of a more favorable rewards program and membership sign-ups accelerate as confusion surrounding the credit card changeover dissipates.

2 Easier comps. COST will cycle +6% US comp growth over the next 5 months, after which they moderate to +3.5% in October and beyond and the gas price reduction anniversaries. From May 2015 to October 2015, retail gas prices declined -26% YoY vs. -16% from November 2015 to April 2016.

3) Possible membership fee increase. The analyst believes a membership fee hike is likely in the next 12 months, which could add over +$0.50 to F’17 EPS.

SI NOTE: Costco (COST) was highlighted in the Stealth Growth in the Stealth Growth Insider newsletter on 5/25.

For an analyst ratings summary and ratings history on Costco Wholesale click here. For more ratings news on Costco Wholesale click here.

Shares of Costco Wholesale closed at $144.54 yesterday.

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