Reuters logo
Fitch Affirms Costco at 'A+'; Outlook Stable
April 7, 2017 / 1:33 PM / 5 months ago

Fitch Affirms Costco at 'A+'; Outlook Stable

(The following statement was released by the rating agency) CHICAGO, April 07 (Fitch) Fitch Ratings has affirmed Costco Wholesale Corporation's (Costco) Issuer Default Rating (IDR) at 'A+'. The Rating Outlook is Stable. Costco had $5.1 billion of debt outstanding at Feb. 12, 2017. Costco's ratings reflect its top three market position in North America food retailing with over 700 high-volume warehouses that generate nearly $119 billion in revenue, industry-leading comparable sales (comps), robust cash flow, and low financial leverage. The ratings also incorporate Costco's demonstrated willingness to periodically issue debt to return cash to shareholders and consider the recent modest slowdown in comps. Fitch expects non-fuel comp growth to pace in the 2% to 3% range over the near-to-intermediate term, versus 6% to 7% over the last five years, and projects total adjusted debt/EBITDAR will be sustained in low to mid 1.0x range. KEY RATING DRIVERS Growing Membership, High Retention: Fitch expects Costco's growing membership, which currently consists of 48.3 million paid members, and high retention rate to support future sales and operating income growth. The company's member base has grown at a 6% CAGR over the past five years. Renewal rates have approximated 90%, providing a stable stream of fee-based revenue. In fiscal 2016 (August), membership fees totalled $2.6 billion, representing a modest 2% of Costco's $118.7 billion of revenue but 72% of its $3.7 billion of reported operating income. Effective June 1, 2017, Costco will raise annual membership fees in North America by 9% for both standard and Executive status or to $60 and $120, respectively. The last fee increase was 10% back in November 2011. Membership renewal and growth has historically shown little sensitivity to fee increases. Fitch believes this is due to Costco's membership base consisting of households with higher incomes than the U.S. average and enhanced rewards and savings that generally follow fee increases and therefore does not expect the pending increase to negatively impact membership growth or renewal rates. Costco continues to upgrade members to the more profitable Executive membership, which offers additional savings and benefits. Executive members represented 39% of paid cardholders at the end of fiscal 2016. Comps Slow But Lead Industry: Costco's comps, excluding the impact of fuel and currency, have slowed from 6% to 7% during fiscal 2011 to fiscal 2015 to 4% in 2016 and 3% in the quarter ended Feb. 12, 2017 but continue to lead peers. Guest shopping frequency continues to be a positive contributor to sales but food and merchandise deflation, which reduces average ticket size, and new store cannibalization have negatively impacted comps. Growth in on-line sales has varied between the high single-digit to mid-teens rate over the past several years but is not making a significant contribution to comps because e-commerce only represents about 4% of Costco's net sales. Fitch projects comps (excluding fuel and foreign exchange) will pace near current levels in fiscal 2017 and fiscal 2018 as food deflation moderates and Costco continues to price competitively. Efficient Operations, Continued Investments: Costco offers a wide array of products but limits specific items in each product line to fast-selling models, sizes, and colors to enhance its operating efficiency and support its ability to invest in price. Warehouses maintain an average of 3,700 stock keeping units (SKUs) and are highly productive, generating more than $160 million of average annual sales each. During fiscal 2016, 57% of sales were food-related products, 15% were from ancillary businesses, 16% consisted of hardlines, and 12% were softlines. Costco has increased capex to about 2.2% of sales from 1.8% in fiscal 2014 to support mid-single digit square footage growth and investments in distribution logistics and website functionality to enhance the on-line member experience. Low but Steady Margins: Costco's high volume warehouses and operating efficiency allow the company to operate profitably with low but relatively stable gross margins in the 12% to 13% range and EBIT margins in the 3% range. Profitability should benefit from the company's new co-branded credit card arrangement with Citibank, N.A., which became effective in June 2016; due to lower merchant fees, royalties earned on external spend, and a bounty on new signups through Costco, as well as the pending membership fee increase. However, Fitch projects margins will remain near current levels given that Costco generally passes along savings to members to remain price competitive. Solid Cash Flow, Range-Bound Leverage: Over the past five years, Costco has generated an average of $3.6 billion of cash flow from operations (CFO) and nearly $900 million of FCF (CFO less capex and dividends) allowing the company to invest in its business and return cash to shareholders. Total adjusted debt/EBITDAR has remained range-bound in the low-to-mid 1.0x range. Fitch projects total adjusted debt/EBITDAR could decline to 1.0x in fiscal 2017, versus 1.3x in fiscal 2016, due to the repayment of $1.1 billion of 5.5% senior unsecured notes that matured in March 2017. Fitch's projection assumes Costco does not issue debt prior to August 2017 fiscal year end to prefund $1.1 billion of 1.125% notes maturing December 2017. Fitch expects leverage to be sustained in the low to mid 1.0x range over the intermediate term as we expect the company to support share buybacks and potential special dividends with incremental debt. FCF is expected to approximate $2 billion in fiscal 2017, due to the acceleration of $1.7 billion of vendor payments in fiscal 2016 which resulted in FCF being negative $100 million. FCF is expected to range between $700 million to $900 billion thereafter, absent additional special dividends, reflecting lower comp growth. KEY ASSUMPTIONS Fitch's key assumptions within the rating case for Costco include: --Revenue grows at a mid-single digit rate annually due to 2% to 3% comps growth, excluding fuel and currency, and expansion; --EBITDA grows at a mid- single digit rate rising to above $6 billion by fiscal 2019; --Gross margins and EBIT margin remain near current levels as the negative impact of rising fuel prices on gross margins and information technology spending on SG&A are offset by benefits of the new co-branded credit card and higher member fees; --FCF approximates $2 billion in fiscal 2017 due to timing of vendor payments and at least $600 million thereafter, excluding special dividends; --Total adjusted debt/EBITDAR of low to mid 1x through the forecast period. RATING SENSITIVITIES Positive Rating Action: Continued strong operating momentum with comp growth (excluding the impact of fuel and currency changes) in the low- to mid-single digits and stable operating margins with a public commitment to maintain total adjusted debt/EBITDAR in the low-1x range could result in an upgrade in Costco's ratings. Negative Rating Action: Sustained weakness in operating trends, caused by meaningfully lower comps (excluding the impact of fuel and currency changes) and membership declines combined with shareholder-friendly actions that lead to increased debt levels would be viewed negatively. A sustained period of total adjusted debt/EBITDAR in the high-1x range could lead to a downgrade in Costco's ratings. LIQUIDITY Costco's liquidity is supported by the company's significant cash and short-term investments balance. At February 12, 2017, cash totalled $4.7 billion and short-term investments totalled $1.2 billion. Approximately 30% of the company's cash and investments were held in foreign subsidiaries in fiscal 2016. Costco also had $406 million of availability under uncommitted credit facilities, $333 million of which was at international operations, at Feb. 12, 2017. FULL LIST OF RATING ACTIONS Fitch has affirmed the following ratings: Costco Wholesale Corporation --Long-Term IDR at 'A+'; --Senior unsecured notes at 'A+'. The Rating Outlook is Stable. Contact: Primary Analyst Carla Norfleet Taylor, CFA Senior Director +1-312-368-3195 Secondary Analyst David Silverman, CFA Senior Director +1-212-908-0840 Committee Chairperson Monica Aggarwal, CFA Managing Director +1-212-908-0840 Media Relations: Alyssa Castelli, New York, Tel: +1 (212) 908 0540, Email: alyssa.castelli@fitchratings.com. Summary of Financial Statement Adjustments - Financial statement adjustments that depart materially from those contained in the published financial statements of the relevant rated entity or obligor must be disclosed below. --Historical and projected EBITDA is adjusted to add back non-cash stock-based compensation and one-time charges. --Fitch views operating leases as debt-like obligations, so capitalizes gross rent expense using a multiple of 8x for its total adjusted debt/EBITDAR calculation. Additional information is available on www.fitchratings.com Applicable Criteria Criteria for Rating Non-Financial Corporates (pub. 10 Mar 2017) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here _id=1021855 Solicitation Status here Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT <a href="https://www.fitchratings.com">WWW.FITCHRATINGS.COM.. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. DIRECTORS AND SHAREHOLDERS RELEVANT INTERESTS ARE AVAILABLE AT <a href="https://www.fitchratings.com/site/regulatory">HTTPS://WWW. FITCHRATINGS.COM /SITE/REGULATORY. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE. Copyright © 2017 by Fitch Ratings, Inc., Fitch Ratings Ltd. and its subsidiaries. 33 Whitehall Street, NY, NY 10004. Telephone: 1-800-753-4824, (212) 908-0500. Fax: (212) 480-4435. Reproduction or retransmission in whole or in part is prohibited except by permission. All rights reserved. In issuing and maintaining its ratings and in making other reports (including forecast information), Fitch relies on factual information it receives from issuers and underwriters and from other sources Fitch believes to be credible. Fitch conducts a reasonable investigation of the factual information relied upon by it in accordance with its ratings methodology, and obtains reasonable verification of that information from independent sources, to the extent such sources are available for a given security or in a given jurisdiction. The manner of Fitch’s factual investigation and the scope of the third-party verification it obtains will vary depending on the nature of the rated security and its issuer, the requirements and practices in the jurisdiction in which the rated security is offered and sold and/or the issuer is located, the availability and nature of relevant public information, access to the management of the issuer and its advisers, the availability of pre-existing third-party verifications such as audit reports, agreed-upon procedures letters, appraisals, actuarial reports, engineering reports, legal opinions and other reports provided by third parties, the availability of independent and competent third- party verification sources with respect to the particular security or in the particular jurisdiction of the issuer, and a variety of other factors. Users of Fitch’s ratings and reports should understand that neither an enhanced factual investigation nor any third-party verification can ensure that all of the information Fitch relies on in connection with a rating or a report will be accurate and complete. Ultimately, the issuer and its advisers are responsible for the accuracy of the information they provide to Fitch and to the market in offering documents and other reports. In issuing its ratings and its reports, Fitch must rely on the work of experts, including independent auditors with respect to financial statements and attorneys with respect to legal and tax matters. Further, ratings and forecasts of financial and other information are inherently forward-looking and embody assumptions and predictions about future events that by their nature cannot be verified as facts. As a result, despite any verification of current facts, ratings and forecasts can be affected by future events or conditions that were not anticipated at the time a rating or forecast was issued or affirmed. The information in this report is provided “as is” without any representation or warranty of any kind, and Fitch does not represent or warrant that the report or any of its contents will meet any of the requirements of a recipient of the report. A Fitch rating is an opinion as to the creditworthiness of a security. This opinion and reports made by Fitch are based on established criteria and methodologies that Fitch is continuously evaluating and updating. Therefore, ratings and reports are the collective work product of Fitch and no individual, or group of individuals, is solely responsible for a rating or a report. The rating does not address the risk of loss due to risks other than credit risk, unless such risk is specifically mentioned. Fitch is not engaged in the offer or sale of any security. All Fitch reports have shared authorship. Individuals identified in a Fitch report were involved in, but are not solely responsible for, the opinions stated therein. The individuals are named for contact purposes only. A report providing a Fitch rating is neither a prospectus nor a substitute for the information assembled, verified and presented to investors by the issuer and its agents in connection with the sale of the securities. Ratings may be changed or withdrawn at any time for any reason in the sole discretion of Fitch. Fitch does not provide investment advice of any sort. Ratings are not a recommendation to buy, sell, or hold any security. Ratings do not comment on the adequacy of market price, the suitability of any security for a particular investor, or the tax-exempt nature or taxability of payments made in respect to any security. Fitch receives fees from issuers, insurers, guarantors, other obligors, and underwriters for rating securities. Such fees generally vary from US$1,000 to US$750,000 (or the applicable currency equivalent) per issue. In certain cases, Fitch will rate all or a number of issues issued by a particular issuer, or insured or guaranteed by a particular insurer or guarantor, for a single annual fee. Such fees are expected to vary from US$10,000 to US$1,500,000 (or the applicable currency equivalent). The assignment, publication, or dissemination of a rating by Fitch shall not constitute a consent by Fitch to use its name as an expert in connection with any registration statement filed under the United States securities laws, the Financial Services and Markets Act of 2000 of the United Kingdom, or the securities laws of any particular jurisdiction. Due to the relative efficiency of electronic publishing and distribution, Fitch research may be available to electronic subscribers up to three days earlier than to print subscribers. For Australia, New Zealand, Taiwan and South Korea only: Fitch Australia Pty Ltd holds an Australian financial services license (AFS license no. 337123) which authorizes it to provide credit ratings to wholesale clients only. Credit ratings information published by Fitch is not intended to be used by persons who are retail clients within the meaning of the Corporations Act 2001

Our Standards:The Thomson Reuters Trust Principles.
0 : 0
  • narrow-browser-and-phone
  • medium-browser-and-portrait-tablet
  • landscape-tablet
  • medium-wide-browser
  • wide-browser-and-larger
  • medium-browser-and-landscape-tablet
  • medium-wide-browser-and-larger
  • above-phone
  • portrait-tablet-and-above
  • above-portrait-tablet
  • landscape-tablet-and-above
  • landscape-tablet-and-medium-wide-browser
  • portrait-tablet-and-below
  • landscape-tablet-and-below