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Costco earnings: Wage inflation 'a continued issue' for the retailer, analyst says

Costco CFO Richard Galanti said the pressure to raise wages 'comes from ourselves.'

Costco (COST) earnings topped Wall Street's expectations, but investors remained somewhat wary of wage inflation and sales weakness.

The wholesale retailer posted beats on the top and bottom lines for the fiscal fourth quarter. Costco stock was up about 1% on Wednesday afternoon after paring some premarket losses in early trading.

"I think there were some positives and negatives in terms of margins," CFRA analyst Arun Sundaram told Yahoo Finance Live Tuesday following earnings. "Gross margins did increase about 40 to 50 basis points year over year, which is a big positive. ... But on the other side, it looks like wage inflation seems to be a continued issue. And that will likely continue next fiscal year as the wage pressures [are] going to impact Costco as well as the rest of retail."

In a note out on Wednesday, Citi analysts said the company made a recent "unplanned investment" in starting salaries for new employees last week, which was "off their typical cadence" of every March.

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This move came after competitor Walmart (WMT) changed its pay structure over the summer, which lowered certain starting wages by $1 while providing pay increases to other employees. On the earnings call, Costco CFO Richard Galanti said Walmart's pay change was not a factor in Costco's decision.

"Our pressure comes from ourselves," Galanti said, adding that the company provides "the best hourly wage package out there" in the US when it comes to wages, benefits, and retirement savings contributions.

In Q4, selling, general, and administrative (SG&A) expenses — including labor costs — rose 8.96%, up from 8.53% a year ago.

Meanwhile, sales were dragged lower by weakness in spending on big-ticket items and discretionary purchases. Costco's average ticket size was down 3.9% worldwide and 4.5% in the US from a year ago while same-store sales, including gas and foreign exchange, came in slightly lower than anticipated — up 1.1% compared with estimates of 1.87%.

TETERBORO, NJ - JUNE 28: A staff speaks to customers inside a Costco store on June 28, 2023 in Teterboro, New Jersey. Costco is cracking down on membership card sharing at its stores. (Photo by Kena Betancur/VIEWpress)
A Costco worker speaks to customers inside a Costco store on June 28, 2023, in Teterboro, N.J. (Kena Betancur/VIEWpress) (VIEW press via Getty Images)

Is Costco recession-proof?

There was still plenty for Costco to celebrate in Q4. This year, Costco shares are up roughly 23%.

"Bigger picture, it's actually doing very, very well," Forrester Research retail analyst Sucharita Kodali told Yahoo Finance. "It's held up in spite of some of these issues related to consumer confidence and the fact that people are pulling back from discretionary."

Major headwinds like higher gas prices, student loan repayments, and higher interest rates, among others, have started to take a toll on Americans' wallets. However, the wholesale retailer historically does well during macro uncertain times. From early 2008 to 2011, shares increased roughly 27%.

The Costco business "does tend to be fairly recession-proof," Kodali explained, adding that Costco is "similar to other mass merchants like Walmart in large part because when a consumer may have lower expectations for the future, they're going to fly to value."

Although Costco's valuation has some experts like Sundaram, who has a Hold rating on shares, hesitating, others think the valuation is justified. Over the past ten years, the company went from a $100 billion market cap to being worth north of $250 billion.

"We believe COST's consistency stands out as another factor that supports its premium valuation," BMO Capital Markets analyst Kelly Bania said.

One key driver is its membership fee revenue, and the members-only business continues to boom for the wholesale retail giant.

Membership fees revenue came in at $1.51 billion, higher than Wall Street expectations of $1.46 billion. In the third quarter, the company brought in $1.04 billion in membership fee revenue.

Paid household members are also up 7.9% to 71 million compared to last year, and cardholders are up 7.6% to 127.9 million.

Costco delayed increasing membership costs again this quarter, though Costco's Galanti reiterated that the fee increase is "a question of when, not if."

The company typically raises prices every five years and seven months on average. Costco last raised membership prices in June 2017, and a Costco Gold Star membership costs $60 per year, while an Executive Membership goes for $120.

As inflation moderates, CFRA's Sundaram said a price increase could happen "by the end of this year." Sundaram expects the memberships to be between $5 and $10 more.

Brooke DiPalma is a reporter for Yahoo Finance. Follow her on Twitter at @BrookeDiPalma or email her at bdipalma@yahoofinance.com.

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