Investing Club: Even after strong earnings, Costco isn't cheap — but here's why we're still buyers

Published Thu, Mar 3 20227:52 PM ESTUpdated Fri, Mar 4 20227:30 AM EST

Club holding Costco (COST) reported strong fiscal second-quarter results Thursday evening. Total revenue increased 15.9% year-over-year to $51.904 billion and beat estimates of $51.534 billion. Earnings per share grew 36% to $2.92 and exceeded estimates of $2.76. Over the full 12-week period, U.S. comps increased 15.8% and 11.3% on an adjusted basis, which excludes the impact of gasoline and foreign exchange. In Canada, comparable sales increased 16% and 12.4%, while for the rest of international, comps increased 6.2% and 9.0%. E-commerce comparable sales, meanwhile, increased 12.5% and 12.6%. For the total company, comparable sales increased 14.4% and 11.1%, beating estimates of 10.1%. Bottom line It was a better-than-expected quarter from Costco tonight as the company's size and scale continue to help it effectively navigate a challenging inflationary and supply chain environment — a one-two punch that has hurt many retail peers. Although Costco is not cheap based on earnings, the market is more than willing to give this stock a premium multiple. That's because the big-box retailer is dependable and a market share gainer no matter the economy or geopolitical situation. And with two potential catalysts on the horizon — a special dividend and higher membership dues — we remain buyers, not sellers, of Costco. Shares of Costco dipper slightly in after-hours trading to about $525. Membership stats Revenue from membership fees is a closely followed metric because that's where Costco earns most of its profits. Membership fees increased about 9.8% year-over-year to $967 million, beating estimates of $952 million. Costco ended its quarter with 114.8 million total cardholders, an increase over 113.1 million total cardholders last quarter. Paid executive members ended the quarter at 27.1 million, up 644,000 from last quarter. Renewal rates in the United States and Canada were 92.0%. That's up 0.4 of a percentage point from last quarter. The worldwide renewal rate was 89.6%, up 0.6 of a percentage point. Auto-renewals continue to be a driver of the strong retention rates. Another reason: increased penetration of executive members, who tend to renew at a higher rate than non-executive members. Plus, Costco is seeing more first-year renewal rates from new members. Margins Gross margins were lower 32 basis points year-over-year, but increased 5 basis points excluding inflation. Company margins were pressured in the quarter by core merchandise, where margins fell 75 basis points on a reported basis and 43 basis points excluding gas inflation. While these figures are down, core merchandise margins are still up from where they were two years ago before the pandemic. Ancillary and other businesses' margins increased 40 basis points on a reported basis and 49 basis points ex gas inflation. Elsewhere, "2% reward" reported margins increased 3 basis points but declined 1 basis point on a reported basis. LIFO (last in, first out) margins fell 14 basis points both ways, a sign of inflation. And other margins increased 14 basis points both ways. Collectively, we think these are pretty good results considering that inflationary pressures have only increased in the past few quarters. February comps In addition to earnings, Costco provided comparable sales for February. In the 4-week period, U.S comps increased 17.4% and 12.9% on an adjusted basis. In Canada, comparable sales increased 11.7% and 8.8%. For other international, comps fell 0.9% but increased 1.3%.. E-commerce comparable sales rose 10.2% and 10.4%. For the total company, comparable sales increased 14% and 10.6%. Other items The global popularity of Costco means the company still has plenty of room for expansion. Management now expects to open a net total of 28 new warehouses this year. That's one more than what they said last quarter but a push out to the next fiscal year is always on the table. On the supply chain, CFO Richard Galanti pointed to the usual factors: port delays, container shortages, COVID disruptions, shortages of various components, raw materials, ingredients, and supplies, labor cost pressures, and truck and driver shortages. One thing Costco is doing to alleviate its shipping challenges is chartering small container vessels. Potential catalysts During the conference call, management was asked about how they are thinking about membership pricing. Historically, Costco has increased its fees three times in the past 15 years, or about every 5.5 years on average. The 5-year anniversary of the last hike in June 2017 is approaching, so we expect this conversation to pick up this summer. With Costco's loyalty rates as strong as they are, Costco can probably increase its membership fee with little resistance from customers because they offer the most competitive prices on goods. No decision yet on a special dividend, which is something Costco has paid out four times in the past eight years. But Costco's cash balance is now roughly double the level it operated with prior to the pandemic. The last time Costco announced a special dividend was November 2020. (Jim Cramer's Charitable Trust is long COST. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust's portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

A look at an aisle in the grocery section of a Costco located in Clifton, New Jersey.

Megan Leonhardt | CNBC