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Costco makes strides with grocery, omnichannel initiatives

Q3 sales rise 7.4% as comp-store gains remain solid

Costco Wholesale Corp. kept sales on the upswing in its fiscal 2019 third quarter as per-share earnings hit the high end of Wall Street’s estimates.

For the 12-week quarter ended May 12, net sales rose 7.4% to $33.96 billion from $31.62 billion a year earlier, Costco said late Thursday. Membership fee income increased 5.3% to $776 million.

Total comparable-store sales climbed 5.5% year over year. The warehouse club retailer’s core U.S. market led with 7% comp-sales growth, while the Canada and international segments edged up 1.3% and 1.7%, respectively. Traffic was up 3.7% worldwide and 3.4% in the United States. The average ticket size grew 1.8% overall.

On an adjusted basis, total comp sales grew 5.6%. U.S. adjusted comps gained 5.5%, with the Canada and international divisions up 5.1% and 6.9%, respectively. The average ticket size grew 1.9%. Adjusted comps exclude the impact of changes in fuel prices and foreign exchange (FX), as well as an accounting change concerning revenue recognition, the company said.

“Overall, our e-commerce sales increased on a reported comp basis of 22%, and 19.5% excluding FX and gas. These numbers do not include the increases that we're seeing with Instacart,” Chief Financial Officer Richard Galanti told analysts in a conference call late Thursday. “Instacart comes into our warehouses and purchases, and that goes into warehouse sales.”

Costco has been doing more business via Instacart as the online grocery provider has expanded its geographic footprint, according to Galanti. Members can shop for Costco groceries online from the retailer’s Instacart-powered site as well as through the Instacart marketplace.

“We’ve dramatically improved the value proposition over the last two years,” Galanti said of Costco’s relationship with Instacart. “It's growing at big numbers — high double-digit numbers — but it's on a small base,” he added.

Reported net earnings for the third quarter were $906 million, or $2.05 per diluted share, compared with $750 million, or $1.70 per diluted share, a year ago. Excluding the benefit from a non-recurring tax item of $73 million, or 16 cents per diluted share, adjusted earnings per share (diluted) for the 2019 quarter were $1.89.

Costco_grocery_shopping_website.PNGCostco offers two-day online grocery delivery across the continental U.S., and Instacart same-day delivery is available through virtually all of its U.S. locations.

Analysts, on average, had forecast adjusted EPS of $1.82, with estimates ranging from a low of $1.68 to a high of $1.90, according to Refinitiv/Thomson Reuters.

Jefferies analyst Christopher Mandeville reported that Costco had “another solid showing” in the third quarter in gross margin percentage for its core merchandise categories (food and sundries, hardlines, softlines and fresh foods), which grew 9 basis points year over year and 21 basis points from the previous quarter on a core-on-core basis.

“Management remains laser-focused on driving top-line growth by continuing to execute on various initiatives,” Mandeville said in a research note late Thursday. “Costco’s offering of private-label specialty items, both food and nonfood, as well as organics in fresh and shelf-stable products, continues to expand and resonate with members, as evidenced by consistent, positive mid- to high-single-digit monthly comps in these categories.”

During the quarter, Costco opened three new warehouses, one each in the U.S., South Korea and Australia. The Issaquah, Wash.-based retailer currently operates 773 warehouse clubs overall, up from 750 a year ago. That includes 536 locations in the U.S. and Puerto Rico, compared with 520 a year earlier. The company has 100 clubs in Canada (+2 versus a year ago), 39 in Mexico (+1), 28 in the United Kingdom, 26 in Japan, 16 in South Korea (+2), 13 in Taiwan, 11 in Australia (+2), two in Spain, and one each in Iceland and France.

So far in the 2019 fiscal year, Costco has opened 13 clubs, including three relocations. “In Q4, we'll open 13 locations — which includes two relos — so net of 11, which should put us in terms of net new openings for the fiscal year at 21, the same number that we had in fiscal 2018,” Galanti said in the call. “About three-quarters of the openings this year are in the U.S. and about a quarter internationally. This also includes our anticipation of opening our first Costco in China, in Shanghai, tentatively scheduled to open on Aug. 27, right before the fiscal year ends.”

Capital expenditures for the fiscal 2019 remain “in line with prior years,” he said. “We've got a lot of money being spent on fulfillment — both e-commerce and grocery expansion and automation — the chicken plant, ongoing expansion and depot infrastructure, as well as IT modernization.”

Costco also is moving ahead with efforts to support online channel growth. The retailer has been fulfilling two-day grocery delivery from its business center locations but is now migrating that function to six of its distribution depots.

“During the quarter, we completed the rollout of six regional grocery distribution centers located within our existing depots. Previously, since late 2017 when we began two-day grocery, we had fulfilled through our business centers. As it expands, we pushed that into our depot operations, and we'll also have in those cases regional assortments,” Galanti said.

Costco, too, is set to expand click-and-collect service via pickup lockers, which has been tested in 10 clubs. “We're in the process of rolling that out to an additional 100 locations over the next four or five months, before the September through December holiday season,” he said.

In the U.S., Costco also aims to double the number of locations with self-checkout, currently in about 125 clubs. “We're going to move to 250 in rapid order over the next several months,” said Galanti. “For us, it works best in high-volume locations, particularly if you have a credit card, where you can just use contactless. It's very fast, and customers are using it. And it's saving some labor at the front end.”

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