Price/Costco Q4 & FY '96
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Price/Costco Q4 & FY '96
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(FOOL CONFERENCE CALL SYNOPSIS)* By Debora Tidwell (MF Debit)
Price/Costco, Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NASDAQ: PCCW)") else Response.Write("(NASDAQ: PCCW)") end if %> UNION CITY, Ca., October 13, 1996/FOOLWIRE/ --- Price/Costco reported Q4 sales of $6.1 billion, up 3% from last year. Last year had an extra week, so on a like-week basis, this figure would have been up about 9.5%. Same store sales were up about 5% for the quarter. For the fiscal year, sales were $19.2 billion, an increase of 7% and, again this would've been about 9.5% on a like-week basis. Comp store sales for the year were 5%. Quarter by quarter, comp store sales were 3% in Q1 and 5% in Q2, Q3, and Q4. Price/Costco started the year with 240 units, opened 20 new units (9 in the US, 10 in Canada, and 1 in the UK), and closed 8 (6 outright closings, and two relocations). Looking at the 9.5% normalized sales growth for the whole year, the core business was up about 7%, fresh foods was up about 20% (which adds another point on a weighted average basis), and then ancillary businesses were up 23-24% (another percentage point). They are pleased to report that the September sales results came in at a strong 7%, their strongest comp showings in 5 years, and a total sales increase of 10%. Had it not been for the timing of Thanksgiving in Canada, they would have reported comps of 8%. They have seen strength pretty much in all regions with the exception of Eastern Canada where they cannibalized themselves over the last year. The Northwest region for the year was up 4% and up 9% in September. California regions in the aggregate were up 4% for the year and 7% for September. The Northeast was up 11% for the year and 12% for September. The Southeast was up 8% for the year and 13% for the month. And the US overall was up 5% for the year and 9% for the month of September. In Canada, they were up 1% for the year and down 1% for September. Again, this was due to the timing of Thanksgiving. They are seeing strong results this current week. The UK which has 5 units total has 3 that are now comping with the other units. Their units were up 40% for both the year and the month. Mexico, which they do not consolidate into their figures, in pesos on a comparable basis for the most recent month was up 48% and even with the exchange rate difference in dollars were up 26%. They think that reflects the strength of the fresh food remodel they did down there over the last year. Of the 13 units, 11 of them have fresh foods now and all of them will shortly. To put merchandising color on the sales results, these comp results were achieved despite essentially a zero inflation factor and also despite increased sales penetration of private label. This is an area where they bring in items of like quality and size with average price points 20-50% less than the national brand. Despite that deflationary trend in some of those units, they saw positive results. From a merchandise standpoint, they have seen some inflation of late in the food and sundries area -- in chocolates, commodities like butter and cheese. There were declines in things like cereals related to the major cereal manufacturers lowering prices. On the non-food side, the strongest 3 areas were apparel, lawn and garden, and automotive. Their sales momentum continues for a lot of reasons. One of the concerns analysts have expressed in the past is what happens when Price/Costco finishes the remodels of Price Clubs with fresh foods or whatever else. The good news is that they are not finished and many of these things are continuing. Not only the fresh food remodels at many of the Price Clubs, but two levels of expanded fresh foods. They have an expanded version of fresh foods where they have added several thousand square feet in new products and categories. They have that now in 11 units. In addition, a modified version of that is now in 60 units. That would include party trays, some gourmet take-home items like gourmet ready-to-cook or ready-to-eat dinners. They are also continuing to relocate some units. Last year they relocated two units. They plan to relocate 7 units this year including one that they have already done in North Orlando Florida and in early November, Albuquerque. Also, they closed 6 units last year and have planned to close 2 more this year -- one in the Montreal area. The Passport was helpful. They are pleased with that. They are also doing some of the traditional blocking and tackling -- looking where they can to increase pack sizes, like taking a 6-pack of tuna fish and seeing if customers would like an 8-pack or making a 2-pack of pasta sauce a 3-pack. That is an ongoing focus. Year-over-Year Variance as a % of Sales
Q3 YTD Q4 FY96/95
Membership -0.09% -0.04% -0.07%
Gross Margin +0.28% +0.47% +0.34%
SG&A -0.06% +0.23% +0.11%
Operating Income +0.06% +0.30% +0.13%
As far as membership, in Q4 last year, not only was there an extra week, it was an extra first-of-the-month week where they get a disproportionate amount of the monthly renewal mail-in notice income. That alone accounted for 3-4 basis points in Q4. So, they think the continued emphasis on getting their non-renewals, new member sign up programs, cooperative marketing efforts for membership sign ups, and the additional $5 that they started charging back in April is seeming to work. Their estimate for this year is that they will be pretty much flat as a percentage of sales, or maybe down a couple of basis points. Their renewal rates continue to be strong. They have been a little more aggressive over the past year in pursuing expired members and members who aren't shopping as frequently. They also continued the Passport coupon book program. They started a private label credit card that can only be used at Price/Costco currently. The risk is taken by Beneficial National Bank. They believe it is the most competitive card out there. It offers a 1% rebate to the member for purchases (starting at the first dollar spent). They are not competing for another place in the member's wallet, it doubles as a membership card. The interest rates, while still in the mid-teens, are attractive relative to the other form of credit that they offer (Discover). It is speeding up the lines. It is revenue sharing, rather than paying a merchant fee to Discover and it is cheaper than processing a check. They mailed out about 3.5 million pre-approved mailers. Other people will be invited through the normal renewal process and the "take one" applications. Of the 2/3 of the 3.5 million mailers already mailed to date, they already have over 600,000 activated cards. They are also finding that there is a long life to these mailers. The Phase 1 mailings went out nearly four months ago (July 1st) and they are still getting 0.5% to 1% of the original mailings renewing every week. Right now they are getting about 50,000 new credit card activations per week over the last 3 weeks. An example of what the credit card program has meant in the stores. In an early unit where they started the program, before the cards they were receiving about 69% of their payments by check. That is now down to 61%, so the convenience factor is important to the member. Cash stayed about the same. Some of the increase of their private label card has come from Discover. In this particular store use of the Discover card has gone from 11% to 7%. Use of the private label card has gone from 0% to 9% and debit card transactions have gone from 0% to 4%. Both the private label cards and the debit cards are faster in terms of getting the customer through the line and are more profitable transactions for Price/Costco. The Passport program is about the same as last year. They added Canada this year. They saw a much smaller shortfall in terms of vendor participation this year. Overall it was a successful program with support from vendors and the warehouses. Last year in the Fall they tested a catalog with 600,000 pieces. In the Spring of 1996 they did a 1.5 million piece catalog mailing. And this holiday season they are mailing 4.2 million catalogs. It is not a big money maker yet, but they are continuing forward with it. Some advantages of the catalog is that it appeals to some of their higher-end customers, to businesses for gifts and supplies, and some product companies are willing to work with Price/Costco to have products sold through the catalog who are unwilling to let Price/Costco sell their products in the warehouse stores -- so it is a way to get access to some products they haven't been able to in the past. MARGINS Q3 YTD Q4 FY96/95 Core businesses +0.18% +0.30% +0.23% Ancillary businesses +0.07% +0.05% +0.06% UK/International +0.05% +0.05% +0.05% LIFO +0.01% +0.15% +0.05% Other -0.03% -0.08% -0.05% Total +0.28% +0.47% +0.34% As in Q3 where they saw a big benefit from the dramatic improvement in fresh foods, they saw a slightly less but similar effect in fresh foods. They also saw a strong benefit in soft lines where last year they took some excessive markdowns and this year they actually picked up a little from markdown accruals. The improvement in UK/International has more to do with increasing sales penetration than improving margins there. The LIFO increase was explained in the press release. In fiscal 1995 overall, they had a $9.5 million LIFO charge and spread out between the quarters $2.5 million in each of the first 3 quarters and $2 million in Q4. This year, they had a zero LIFO charge, again $2.5 million in each of the first 3 quarters and a reduction of $7.5 million to zero it out in Q4. In the "Other" category, there was nothing unusual in Q4 other than some changes in certain year-end margin adjustments, accruals, etc. Margins are working pretty well in all areas. They continue to see improved purchasing power and they are able to keep some portion of that while they pass on some of it to the customer. Also helping their margins were increased margin percentages in some of the private label items where they want to maintain the same gross margin dollars. Fresh food margins are improving and that benefit should continue for at least the next two quarters. The other thing that added a few basis points was their strong shrink results. They take physical inventories twice a year and the second half inventory results were the best ever by 2-3 basis points. In fact in their 2nd half inventories their shrinkage as a percentage of sales was down below 25 basis points. For the ancillary businesses, in the quarter they opened 11 additional pharmacies, 3 food courts, 8 one-hour photo labs, 5 optical shops, 5 additional hearing aid centers, and they closed the 36 remaining Quest interactive kiosks. Quest is still providing the travel and car referral service for auto sales. They did 7 more fresh food remodels in the original Price Club units that didn't have fresh food. They now have 47 units done. They are going to do 14 more between now and Christmas so they will have 61 done by Christmas with the remainder done during calendary 1997. 11 of their 191 units in the US have their full-blown version of expanded fresh foods with everything from rotisserie chickens to gourmet foods, fresh pastas, expanded cheese departments. They are pleased with those results. Some units they don't have the room for that, but they will continue to put that in additional units. An an abbreviated version of that expanded fresh foods is in 60 units currently. They just opened their fourth gas station. The first two were in Tucson and Scottsdale Arizona. They have since opened in Santa Clara and Oxnard California. And, on November 8th they will be opening with the relocation of Albuquerque to a much larger facility and they will open a gas station there so they will have 5 by Christmas. They expect to open several more next year. The test is going to take more than 4-5 units and they are not by any means rolling it out everywhere yet, but where it makes sense they will. SG&A EXPENSES
Q3 YTD Q4 FY96/95
Core businesses +0.06% +0.07% +0.06%
Central +0.05% +0.05% +0.05%
Ancillary -0.07% -0.05% -0.06%
UK/International -0.08% -0.06% -0.07%
Other -0.02% -0.24%* -0.09%*
(+ means better or lower expenses, - means worse or higher expenses)
*relates to bonus accrual. Excluding bonus accrual,
Q4 would have been -0.05% and FY96/95 would have been -0.03%
Again, the core businesses continue to show improvement. In Eastern Canada where they opened a bunch of units last year and have seen significant cannibalization, breaking down the +0.07 in Q4 between US and Canada, the US was +0.11% and Canada was -0.15% to be a weighted average +0.07%. So they are pleased and are seeing progress in their core business. While ancillary and UK will continue to negatively affect SG&A, it will also impact margins positively and that will bode well for them over the next few years. Pre-opening expense for the quarter was $9.1 million and for the year $29.2 million -- in line with expectations. The new units were about $4 million in the quarter and $15.2 million for the year. The remaining part is pretty much evenly split between remodel activity and international activity which has been skewed up because of the entry into the Far East. In terms of the entry into the Far East, all of the expenses associated with not only getting Taiwan open but sending several of the senior executives over there to live and run it. Their first unit in Taiwan will open in mid-January. They are pleased to report that this is really the first year in four fiscal years that they have hit their earnings targets for the company. There are over 700 people that participate in the bonus plan, so in each of the past 3 years prior to fiscal 1996 in Q4 they tended to pick up a benefit because they had accrued a certain amount for bonuses assuming that they might hit their numbers and then brought it back when they didn't. This year, they hit the numbers so they paid it out in bonuses. The other thing they hadn't talked about or no one really expected was a charge for closing costs in Q4. That is due to all the relocations and closings as well as closing the East Coast Boston office and consolidated into Virginia last year and that was about $1.5 million last year. They sold their one-hour photo lab to Qualex earlier in the year and that was about $1 million in closing charges. Also they closed Colton California which was $900,000 and was a sales tax abatement deal that they were foregoing. All of those things caused the closing cost charge last year to be about $10 million. They have also got a little bit in there for the upcoming charges. Their plans for the upcoming year include a closing cost charge in Q1 somewhere in the $3-3.5 million range and somewhere in the second half of the year of about an additional $4 million. All told, operating income for Q4 was up 16% and for the year was up 13%. There were no surprises in interest expenses. They did see a big improvement in the line item "Interest Income and Other." For the quarter it was $5.4 million versus $300,000 last year and for the year nearly $11 million this year versus $3 million last year. The big difference is not Interest Income, it's Other and there are two things. One is the elimination of the Quest kiosks. At the end of last year they took a writedown on some of the inventory and some of the kiosks which they downsized as well as some operating losses. That has essentially gone away now. The other thing is Mexico. They did not consolidate Mexico into their numbers so any profits or losses from Mexico are included in Interest Income and Other. That went from a very small loss in 1995 to a couple-million-dollar profit this year and they expect that to grow. So, they expect that line to show improvement next year. They expect their tax rate to drop slightly in FY 1997 and are using a 41% rate for their internal plans. BALANCE SHEET HIGHLIGHTS They ended the year with $102 million in cash, $1.501 billion in inventory, total current assets of $1.828 billion, net fixed assets of $2.888, and total assets of $4.912 billion. On the other side: notes payable is $60 million, accounts payable is $1.220 billion, other is $492 million, total current is $1.772 billion. Long term debt, $800 million of which are the convertibles, is $1.229 billion. Other liabilities which is principally deferred taxes is $61 million. Minority interest is $72 million (UK & Taiwan investments). Stockholders equity is $1.778 billion. Payables are down a little bit, principally due to Canada. They had to do some FASB 121 writedowns which is reflected on the income statement as a non-cash charge. The cumulative effect they will book in Q1 and in the future fiscal year end -- impairment pre-tax will be about $60-65 million. On an after-tax basis that is $35-38 million or $0.16 - $0.17 per share. That's a little less than 2% of book value of those assets. In addition it includes a couple of units which were relocations where the facilities will be more difficult to sell. But, on an ROI basis, with the new facility they are seeing such great results that it certainly makes sense for them. As well, it includes a couple of the closed units. They believe that these impairment numbers are conservative. They have assumed the most conservative view and if it is a little better, they will be able to take that back. It also excludes any expectations where they have property where they will get a gain. So until they dispose of those properties, they won't realize any of those gains. EXPANSION AND TWO NEW CONCEPTS BEING TESTED In Q1 this year they are going to open 9 units, 6 new and 3 relocations. In addition they have the one outright closure in Canada for a net of 5 in the quarter. Two months ago they relocated their Linwood warehouse which was their 6th Costco opening in 1984 in their first year of operations. That was relocated to Everett 10 miles north.
In addition they are doing a test -- one of two tests going on right now. They took the old Linwood site, about 120,000 square foot site, and opened it last week as a new concept called Costco Business Center. This is an opportunity to focus even more on the primary business customer. It is a concept that is going to test servicing all businesses and food service businesses and office needs. They have looked at what others have done from Smart and Final and Jethro and regional cash-and-carries like United Grocers and food service operators like Sysco and this unit has about 4500 SKUs. They are not sure what the margins are going to be because they are not sure what the weighted average sales are going to be but they expect it to be in the 8-11% range. They will offer discount business services including copying, printing, and custom signage. They will also have drop off for things like Airborne and UPS. They will provide business delivery and the hours are a little different. 4 out of 5 business days per week they will be open from 7 a.m. to 5 p.m. and one day per week from 7 a.m. to 7 p.m. And on Saturdays they will be open from 7 a.m. to 1 p.m. and on Sundays they will be closed. So, it is a way to see how to recycle some older facilities, serve business customers better, and see how this cannibalizes nearby warehouse club operations. So far, interestingly, they haven't seen a lot of cannibalization because a lot of the items in this store are items that are not available in their traditional warehouses. It doesn't have the consumer excitement, but that's not what it is about. In these stores you walk in and see $4000 gas ovens for restaurants, big freezers, 100 gallon soup containers, and every imaginable size, shape and form of styrofoam container. Outside Portland, at an old site that was relocated to Tigert, they will open next week a new concept called Sports Nation. This is a team sports facility that offers team basketball, volleyball, indoor soccer, field hockey, rock climbing, weights, aerobics. It is family oriented. It includes babysitters. You must be a Price/Costco member and there will be monthly individual and family charges based on different programs. The gas stations, again, is another new concept that is going good so far. They are saving the customer $0.06 to $0.10 per gallon which is a good message to their members. They are seeing some increased membership signups as a result of it because you get a better deal if you are a member. And, it's a great ROI. For the year overall they expect to open 25 new units and close 9 including 2 outright closures and 7 relocations. That's about a 6.5% increase in number of units. In Mexico they will open a couple more units. * A Fool conference call synopsis represents an effort to highlight the salient points of a conference call and should not be taken as an authoritative accounting or transcription of the entire event. |
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Copyright 1996, The Motley Fool |