While business remains strong, the fact that Costco’s stock is trading near a record high leaves very little room for error .
Shares of Costco Wholesale Corp. pulled back Tuesday, after Truist analyst Scot Ciccarelli recommended investors stop buying due to concerns that historically rich valuations increase the risk of a selloff.
Ciccarelli noted that the membership-based warehouse retailer’s business remains strong, it is gaining market share versus virtually all retail classes and likely has the highest barriers to entry in all of retail.
But with the stock’s (COST) recent outperformance, it is trading at a multiple of forward earnings estimates at “a multi-decade high,” he cut his rating to hold from buy until he sees a more attractive re-entry price.
Ciccarelli kept his stock price target at $873, which, prior to the downgrade, was the lowest of the 23 analysts surveyed by FactSet who were bullish.
The stock fell 1.6% in afternoon trading, after closing Monday at record $917.08. It has still run up 61.5% over the past 12 months, while the S&P 500 index SPX has advanced 32.6%.
Basically, Ciccarelli said that Costco has made some little changes to its in-store experience that could have a larger impact on the stock, given that its current high valuation leaves little room for error.
“While subtle, Costco has implemented some changes that may not be loved by all,” Ciccarelli wrote in a note to clients.
For example, Costco is rolling out a new way for members to enter its warehouses. Members now have to have their ID cards scanned on entry, rather than just show them to an employee.
“While this change should help reduce non-members from shopping without paying their membership fees, it does add a bit more friction to the shopping trip,” Ciccarelli said.
Another change, Costco has started to package their popular rotisserie chickens in plastic bags, rather than the more sturdy plastic containers. That has led to some complaints of a more “soggy” product when unpacked, and of leaks from the bag.
“While this change is likely cost effective and eco-friendly, lower member satisfaction for a core Costco staple is still negative at the margin, in our view,” Ciccarelli said.。
And while these are subtle changes and are far from being “game changers,” Ciccarelli said they could still “add some friction to sales, while the stock’s valuation leaves very little room for error.”
On top of that, the positives of a much-awaited membership-fee increase announced in July and a special dividend announced in December have been fading in the rearview mirror.
“With these actions now behind us, there appears to be fewer ‘incremental catalysts’ on the horizon to drive further multiple expansion,” Ciccarelli wrote.
In a separate note, Ciccarelli upgraded the shares of Walmart Inc. (WMT) to buy from hold, helping to push them into record territory. Walmart operates Sam’s Club, which like Costco is a membership-based warehouse retailer.