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Is Costco Wholesale Corporation (COST) the Perfect Retail Investment?

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Costco Wholesale Corporation (NASDAQ:COST)Fool columnist Alyce Lomax wrote a great article on Costco Wholesale Corporation (NASDAQ:COST) this week, and it got me to thinking. With the explosive growth of internet commerce leading to the death of big-box retailers of all kinds, from booksellers to specialty retailers, how could a company already generating over $100 billion in annual sales be the perfect retail investment? At its current size, how much larger can it grow? And with the advent of inexpensive next-day and expanding same-day delivery, won’t challenges from Amazon.com, Inc. (NASDAQ:AMZN) begin to cut into its growth? Let’s dig in, and see if Costco Wholesale Corporation (NASDAQ:COST) has any legs as the best place to put your money.

The power of predictability

Famed investor and CEO of Berkshire Hathaway Inc. (NYSE:BRK.A), Warren Buffett, has talked about the value of predictable revenue and income for decades. One only has to look at the assortment of subsidiaries under the Berkshire Hathaway Inc. (NYSE:BRK.A) umbrella to see this in action. Whether it’s utilities like Mid-American Energy, the massive insurance (GEICO) and re-insurance (General Re) premiums, or stock holdings in Wells Fargo & Co (NYSE:WFC), and its rock-solid traditional banking business, all of these businesses had a long history of generating consistent cash flow and repeating the performance every year, before Buffett ever made a single investment in them.

Costco Wholesale Corporation (NASDAQ:COST) offers this exact same value to shareholders like you and me. It has consistently retained members at a rate well over 80% internationally, with domestic membership rates of over 90% based on the most recent quarter. Add in that it is still growing same-store sales at around 6% on top of plenty of room to expand its footprint, and you should see why I am a fan.

But where’s the profits? Keep the long view!



COST Operating Margin TTM data by YCharts

Compared to Wal-Mart Stores, Inc. (NYSE:WMT), Costco Wholesale Corporation (NASDAQ:COST)’s operating margins are nearly half. And while Amazon.com, Inc. (NASDAQ:AMZN) is showing negative margins, it’s important to remember that its pouring cash flow back into the business as it expands its distribution footprint to meet demand, and moves into new markets like grocery delivery and same-day delivery.

On the other hand, Costco Wholesale Corporation (NASDAQ:COST)’s operating income is a result of its relentless focus on keeping its promise to members to pass savings along to them. The vast majority of its income is produced by those membership fees. And I think it’s fair to say that the renewal rates make it clear that members see the value. Over time, the only way operating margins will increase is for each store’s membership base to keep growing. And as the economy improves, this is a likely trend.

It’s also worthwhile to put Berkshire Hathaway Inc. (NYSE:BRK.A) itself in this conversation. Here’s a list of popular consumer brands, all owned by Berkshire Hathaway:

HH Brown, maker of shoe brands like Dexter, Double-H boots, and a cadre of professional and specialized footwear

Brooks running shoes

Justin Brands, which includes Justin, Tony Lama, and Nocona boots; some of the most popular work and western footwear

Fruit of the Loom, which includes the Russel Athletic and Vanity Fair brands

I’d even include Dairy Queen and See’s Candies in this mix

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