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Costco Stock: Effective for Inflationary Times
Stock Analysis & Ideas

Costco Stock: Effective for Inflationary Times

Few stocks in this market have been more resilient than Costco (COST), which broke out to a new high above $600 per share just last week.

There’s no question that consumers are not taking inflation, which recently surged to 8.5%, lightly, doing everything in their power to delay or even resist the recent bout of price increases. It’s a daunting task that’s becoming harder by the day, though.

With some of the best bargains out there, Costco is one of few firms that may arise out of these inflationary times ahead of the pack. Though recent cost inflation has eaten into the firm’s operating margins, I think it’s safe to say that Costco is faring far better than most in easing the inevitable sticker shock that’s to come.

That’s thanks to the company’s willingness to absorb some of the earlier impact, reinforcing its reputation as one of the most economical places to get bulk-buying done.

As inflation eases, while the average consumer becomes more willing to pay higher prices, Costco will have the opportunity to build upon its operating margins again as it “stealthily” increases prices across a broader range of products. Arguably, the value of a Costco membership has been enhanced amid the pandemic and inflationary pressures.

Given Costco’s incredible operational management, I am bullish on the stock despite its hefty 46.9 times trailing earnings multiple.

Pandemic and High Inflation

Though the pandemic and high inflation have pressured Costco’s margins modestly, the bleak environment may actually be viewed as more of a long-term tailwind for the firm.

Indeed, many consumers are discovering the value of their memberships. Arguably, a Costco membership ought to be worth more in times like these, and I’m sure consumers would renew, even if the company were to raise the price of admission modestly.

Still, the company has held back from membership fee price increases, even as its digital retail peer Amazon (AMZN), does so with its Prime membership. Waiting for rivals to increase prices first is a genius move, in my opinion. I think it strengthens the brand, even though a lack of price hikes may come at the cost of results over the nearer term.

The company doesn’t need to impress its shareholders with margin-enhancing initiatives, as most other retailers are forced to hike prices and memberships. It’s already doing so well by partially sheltering many reluctant consumers from the hailstorm that is inflation.

I’ve noted in the past that Costco’s ability to reduce sticker shock through yet another inflationary pressure will likely make its membership stickier. Why? A Costco membership provides increasing value for its users and the lack of price hikes thus far, I believe, makes the membership a gift that keeps on giving.

Costco Continues Respectable Growth

Costco’s robust 14% second-quarter sales surge was remarkable, as too were the 3.5% operating margins, which were sound, given the inflationary headwinds familiar to all retailers.

Potential COVID-19 restrictions and surging food price increases have incentivized buying in bulk in a big way. Buying bulk isn’t just a great way to save money and resist the impact of inflation, but loading up on essential foodstuffs is also a wise way to prepare for any future shortages.

Add the potential sales-boosting impact of another wave of COVID-19 (the Omicron BA.2 and XE variants are on watch right now), and it’s not a mystery as to why shares of COST still have a respectable amount of momentum behind it.

Further, the potential for cost controls on items like food or gas may backfire, as they could induce shortages.

If inflation cannot be tamed by more traditional means (like Federal Reserve rate hikes), the odds of such cost controls increase, and the days of panic-buying in bulk may not be over, even if COVID is less of a concern than it was just two years ago.

Wall Street’s Take

According to TipRanks, COST stock comes in as a Strong Buy. Out of 19 analyst ratings, there are 15 Buy recommendations and four Hold recommendations.

The average Costco price target is $606.58, implying 2.7% upside potential. Analyst price targets range from a low of $527 per share to a high of $678 per share.

Bottom Line on Costco Stock

Despite Costco’s operational expertise and talents in steering the firm through inflationary times without having to pass all costs onto its consumers, I think most of such positives are already well baked in here.

Still, given management keeps making the right moves through challenging times, I think the stock deserves its premium. Even in the face of higher rates and a recession, I don’t see COST stock slowing down anytime soon. It’s incredibly well managed, with unique defensive characteristics.

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