Q3 2022 Costco Wholesale Corp Earnings Call

May 26, 2022

Households, and $116 6 million cardholders, both of those up over 6% compared to a year ago.

At Q3 end, our paid executive memberships were $27 9 million and Thats an increase of just about 800000 during the 12 weeks since Q2 and executive members now represent over 43% of our member base and over 71% of our worldwide sales.

Now before I move on I wanted to take just a minute and address the question that we've been getting a lot recently regarding the timing of a potential membership fee increase historically, we've raised fees every five years to six years with the last three increases coming on average at about five and a half year timeframe and our last increase coming in June .

<unk> of 2017 as.

As we approach this five and a half year, Mark there'll be more discussions with Greg Ron and the executive team, but for today, we have nothing more specific to report in terms of timing and.

In addition, given the current macro environment.

Historically high inflation and the burden is having on our members.

All consumers in general.

We think increasing our membership fee today ahead of our typical timing is not the right time.

We will let you know however, when that changes.

Okay moving on along the P&L, let's take a look at gross margins are recruited our reported gross margins in the third quarter were lower year over year by 99 basis points. This year coming in at $10. One nine as a percentage of sales and that can players to last year's 11, one eight that we reported a year ago.

So the 99 basis points down year over year, and excluding the negative input packs of gas inflation, we would have been down 53 basis points.

So if you would for me and as normal please jot down the following for our gross margin matrix and again as usual two columns. The first column being reported gross margin the second column being gross margin.

The impact of gas inflation, there are six rows, the first row being merchandise core circuit.

Ancillary and other business the third row, 2% rewards followed by LIFO.

Other and then total.

So in terms of our core merchandise margins on a reported basis. They were down 87 basis points versus last year down 46 basis points ex gas ancillary and other plus six reported and plus 18 ex gas.

2% rewards plus eight and plus three LIFO minus 25 basis points on a reported basis and minus 27 ex gas inflation.

And finally other minus one.

And without gas so again in total down 99 reported down <unk> 53, excluding the impact of gas inflation.

A little color more color on gross margins, starting with core merchandise core merchandise contribution to gross margin was lower by 46 basis points ex gas inflation in the quarter sales mix negatively impacted the core primarily from the lower sales penetration of total core sales relative to our gasoline.

Sales, which were very strong in the quarter.

In terms of the core margins on their own sales in Q3, our core on core margins were lower by 39 basis points approximately two thirds of this coming from fresh foods.

<unk> experienced a very difficult compare versus last year when the extraordinary volumes produced extraordinary volumes.

<unk> lowered the dnb and higher labor productivity a year ago.

Also contributing to the decline this quarter.

<unk> higher raw material costs, and higher labor costs due to our new wages.

Ancillary and other business gross margin again higher by six reported higher by 18 basis points ex gas inflation.

Gas travel and business centers were better year over year, offset somewhat by E com pharmacy and optical.

Again, 2% rewards higher by eight reported higher by three ex gas LIFO minus 25, and minus 27 ex gas as we recorded $130 million charge in the quarter for LIFO and other was minus one basis point, both with and ex gas inflation.

This included items from both years last year, we had $14 million of Covid expenses, primarily premium wages within gross margin.

This year, we had a one time charge discussed at the beginning of the call it $20 million of the $77 million of which related to gross margin. The net result of these two items again minus one basis point.

And while we continue to mitigate the impact of price increases as best as we can we remain comfortable in our ability to pass through higher costs, while providing great value to our members.

Moving to SG&A.

Showed good results.

Ported SG&A in the third quarter was lower or better year over year by 84 basis points coming in at 862% and that compares to last year's reported nine 4% 6% S.

SG&A figure, that's again 84 basis points, lower or better and 44 basis points, excluding the impact of gas inflation.

Again, if you jot down the following for our SG&A matrix again, two columns. The first column being reported SG&A. The second column SG&A ex the impact of gas inflation.

And we have five arose the first row operations second row Central third grille stock compensation expense third or fourth row. Other and then total is the fifth row in terms of our operations on a reported basis SG&A was better by 68 basis points and the benefit of gas inflation better.

By 35 central better by 15 reported better by 10 X gas stock compensation better by two reported better by one ex gas and other minus one and minus two ex gas again, all totaled 484 basis points, lower or better and 44, excluding the benefit of.

Gas inflation.

In Q3 year over year, the core operations component of SG&A was better by 68 again 35 ex gas keep in mind. This result includes the starting wage increase we instituted this past October as well as eight weeks of the new wage and benefit increases just implemented during Q3 on October 14th.

Of this year.

Central was better by 15 and better by 10 without gas stock comp plus two plus one without gas and again other minus one basis point minus two without gas inflation similar to gross margin. This included items from both years last year, we had $44 million of Covid expenses and this year, we had a one time.

Charge again discussed at the beginning of the call $57 million of the $77 million, which related to SG&A.

Result of these two items again minus one reported minus two ex gas inflation.

So all told reported operating income in Q3.

This year increased 8% coming in at 179 1 billion.

Below the operating income line interest expense was $35 million this year versus $40 million last year and interest income and other for the quarter was higher by 44 basis points year over year, primarily due to favorable FX.

Overall pre tax profit.

Pretax income came in for the quarter up 11% coming in at one 8% to $7 billion and that compares to $1 65 billion.

We reported a year ago.

In terms of income taxes, our tax rate in Q3 was 24, 9% that compares to 25 two in Q3 last year.

Overall for the year, our effective tax rate is currently projected to be between 26 and 27%.

A few other items of note warehouse expansion in Q3, we opened one net new warehouse plus two relocations.

Q3 year to date, we have opened 17 warehouses, including three relocations for a net of 2014, new warehouses. So far this fiscal year for the remainder of the fiscal year end and in Q4, we expect to open an additional 10, new warehouses, which will put us at 27% for the year, including three <unk>.

Three relocations and for a net of 24 net new warehouses for all of fiscal year 'twenty two.

For new warehouses by market are 14 in the U S. Two in Canada, and one each in Korea, Japan.

Australia, Mexico, Spain, France, China, and our first opening in New Zealand, which will occur in August of this year in terms of the new openings. This year. This is for fewer than what we projected in Q2.

Two of the four were impacted by some supply chain issues related to electrical equipment and the other two have been delayed due to third party site development issues. All four of these buildings are now scheduled to open.

By the end of calendar November this fall.

There are three in the U S and one in Australia that were delayed.

The one net new opening in Q3 was a business center located in San Marcos, California in the first of the 10 scheduled to open in Q4 opened this past week and Riverton, Utah, bringing our worldwide total to 830.

Costco's.

As of today and around around the world.

Regarding Capex Q3.

Turning to spend was approximately $854 million our full year Capex spend is estimated for the year to be just shy of about four.

<unk>.

In terms of our E comm business E Comm sales in Q3 ex FX increased seven 9%. This is on top of the 38% increase a year ago stronger departments in the quarter were special order patio and garden jewelry and home furnishings, our largest E comm merchandise department.

Majors, which includes consumer electronics appliances, Tvs was up a little bit better than mid single digits on a very strong sales increase a year earlier and Costco grocery, including our third party delivery.

Two day dry fresh and frozen continues to grow up low double digits in the quarter.

An update on Costco logistics, Costco logistics continues to drive big and bulky sales for US we averaged more than 58000 stops are weak in the third quarter for the full year, we estimate total deliveries will be up 23%.

<unk> 3 million.

Cost with logistics, we continue to transition from vendor drop ship to direct ship from our own inventory, particularly in big and bulky items. Overall this lowers the cost of merchandise and improved delivery times and service levels for our members.

Okay. A few now a few comments regarding inflation first of all it continues pressure.

Pressures from higher commodity prices higher wages higher transportation costs and supply chain disruptions all still in play.

For Q1, we estimated price inflation.

The four 5% to 5% range.

For Q2, we had estimated six ish, if you will and for for Q3 and talking to our merchants estimated price inflation was in the seven ish percent range. However, we did see inflation in fresh foods come in slightly lower in Q3 versus Q2, a year ago as we began cycling.

High meat prices.

We believe our solid sales increases and relatively consistent margins show that we have continued to strike the right balance in passing on higher costs.

Switching over to inventory for a minute our total inventory in Q3 was up 26% year over year versus up 19% in Q2, a couple of high level comments regarding inventory.

A material component of the increase year over year as inflation rather than unit growth.

We continue to expand open new locations 20, new in the last 12 months.

We're lapping some low stocks in certain departments as a result of last year's high demand.

And we are purposely building inventory in our E comm business, primarily in big and bulky categories as mentioned earlier in the call food.

Food and sundries and fresh is in very good shape are we supply is comparable year over year.

Non food inventories are up in certain categories. This is in part a result of being light in certain departments last year, specifically seasonal lawn and garden TV appliances, and sporting goods otherwise we are a little heavy in small appliances and domestics, primarily due to late arriving merchandise. This year. In addition, we.

Have a few hundred million dollars of extra inventory in both late arriving holiday merchandise from last season, which we're storing until this fall and some buying merchandise to ensure proper inventory levels in the face of these ongoing supply chain issues.

Speaking with Craig Ron and Claudine Domino, our new head of merchandising, we feel good about our current inventory levels.

Additional inventory, we're carrying in the right departments and they feel good about our ability.

To move it.

A quick update on China.

Our first opening in China located in Manhattan, Shanghai was closed for the last six weeks of the third quarter.

That closure had a negative impact in the quarter of approximately $35 million in sales as of May 18th.

We're happy to report that building is back open but operating under restrictions on the number of people that can be in the building at one time, among other cleaning and operating restrictions our second building in Xuzhou.

Which opened in December of this last December was largely has largely avoided the lockdowns and restrictions to this point.

We are currently targeting an opening date this December .

For our third Shanghai building in Pudong, the timing, although will somewhat depend on the area of remaining open for the next several months and not being more negatively impacted by Lockdowns.

For additional China buildings are currently underway and planned.

It was opening dates in the next two years.

These would be our first China openings outside of Shanghai I believe we have all of those.

As for <unk> in fiscal 'twenty, three and three in fiscal 'twenty four.

As a reminder, in terms of upcoming releases, we will announce our may sales results for the four weeks ending Sunday may 29th. This next week on Thursday June 2nd after market close. This is a day later than our traditional Wednesday release due to the memorial day holiday.

Before wrapping up a quick shout out to the 300000 worldwide Costco employees around the globe and the excellent work and proactive efforts they give each day to navigate during these most challenging environment, our merchants and operators are the best in the business and their hard work as reflected in our strong operating results.

Let me just say the price when we introduced the hotdog soda combo in the mid <unk> was $1 50. The price today is $1 50, and we have no plans to increase the price at this time.

With that I will turn it back over to Erica and open it up for Q&A.

As a reminder.

To ask a question you will need to press star one on your telephone to withdraw your question press the pound key please standby, while we compile the Q&A roster.

Yes.

Your first question comes from the line of Simeon Gutman with Morgan Stanley .

Hey, Hey, Bob How're you doing.

Good.

It was kind of who's going to win the answers if youre the one doing all of it.

Yeah.

I got it helpful.

Okay.

Can you tell me on the core on core margin ex gas it looks like underlying run rate got a little worse, which I don't think that's a big surprise given what we're hearing out there you mentioned in the core on core the perishable year over year, but is it safe that is it transport or is it there were some markdowns on erratic.

Inventory coming in can you talk a little about what's happening there. Thanks.

Yes on the fresh side.

Literally had no deanne D last year and we had.

We had very high labor productivity.

Because of the pounds that we were going to that we were that we were processing if you will.

So I think we've kept a lot of that leverage actually we're way above pre pandemic levels.

It's just that was extraordinary last year. So I think we will keep some of that.

But it's not all of that and then a little bit of it is like I said raw material cost. This year I mean, those eventually make their way into the price of our goods as good as you know we're not the first wanted to go up when we have higher costs.

I think just recently it may have been after the end of the quarter.

<unk>, but we took up the price of our muffins and our croissant I think a dollar.

The price there is a lot of those raw materials have continued to escalate to two and three and four times, what they were last year. So.

That's essentially what's going on there.

Got it.

Maybe my follow up is anything happening on trip consolidation items per trip rising anything that I'm sure. This is it.

And Youre ready for.

Yeah.

Honestly.

We're not seeing a lot of change in our in our throughput in the buildings I mean, we're seeing a lot of traffic.

We're not seeing a lot of we're not seeing trade down really we're seeing a little bit of shift in where people are spending their money.

Last year, there was more stuff for the home and that and this year, it's more sales and tickets in restaurants, and travel and tires and gas and things of that nature, but we're still holding our own in areas like apparel and furniture and jewelry Tvs and appliances all of those departments are.

Showing good decent sales growth on top of pretty good numbers, a year ago I would say overall.

There might be a very small amount of it in terms of the number of items in a basket. This year, a little less than last year, because there was more trip consolidation going on a year ago I think during COVID-19, but overall I think we feel pretty good about what we're seeing and how our members are shopping.

Okay, Thanks, Bob take care.

Your next question comes from the line of Chuck Grom with Gordon Haskett.

Okay. Thanks, a lot good job Bob correct.

I was just curious craig's view on balancing the desire to show value, particularly lately as the macro backdrop seems to get more uncertain.

Also passing on some price increases.

Like you articulated.

And placement up anywhere between 5% to 7%, but we don't want some cruises.

<unk> are much higher so just curious where quite a bit on that balance.

Well look I think we always want to be the best value in the marketplace.

And to the extent that we continue to show that I think it's easier for us to pass on higher pricing or higher freight costs raw material costs, assuming that we show that value in the marketplace and that's what it's all about really and I think we feel good about it.

Our most recent shops against who we watch most closely have not changed.

Every bit as competitive as we've been.

Notwithstanding the fact, we have taken some prices up in certain areas.

In food and sundries and fresh foods.

Okay, Great and then on the core on core you talked about two thirds being crushed I just wonder if you could just give us some color on some of the discretionary.

Categories.

Well I think the balance was slightly more than non foods than in foods in terms of the remaining third of the lower margins.

I'm not sure I have the.

Specifics right now on certain specific categories.

Again, it's not really a category, where an item business and so it's all about certain items, where we might move or not move.

Okay cool thanks, Bob.

Thanks Chuck.

Your next question comes from the line of Christopher <unk> with Jpmorgan.

Hi, Thanks, very much the first megawatt Alexander on for Chris.

A follow up to <unk> question are you seeing any pressure from rising fuel and diesel with regards to transportation and that core on core and if so it seems like they accelerated pretty quickly at the end of April .

Holding back any of the price increases on those cause such that its impacting current core.

Maybe maybe more than normal.

No I don't I don't believe so Megan.

Yes.

I think overall, there is higher transportation costs across the whole supply chain, whether it's <unk>.

Ocean freight or trucking or the price of fuel et cetera et cetera.

I think eventually those costs make their way into your yourself price again, it's not like anything else, we tend to to drag a little bit compared to others, but I.

I don't think there is a material change since the end of April in terms of how we're managing that.

Got it Okay. That's helpful. And then maybe just a quick follow up on lifestyle.

Price increases have continued its team does that pressure continue to accelerate going forward and then do we ever kind of get that back as we lap or does it depend on what the cost environment looks like yes.

Certainly can't be predicted and tell you exactly where it's going.

We've obviously seen more inflation as the year's progressed, if we stay at this level.

There will continue to be some impacts to our P&L.

If we start to see deflation if we were in an inflationary environment next year, yes, we would get some of that back but.

We've got a ways to go I think that I think everybody thinks we're still in a <unk>.

Cycle of more inflation versus stopping now to be fair. This is the first time when we get into Q4 that will actually start cycling. Some at the beginning of this last year and I think we had a small LIFO charge in Q4 a year ago.

So I'm not predicting but we saw a little bit of of.

The decline in our fresh food inflation.

This past quarter, where we see some other areas as we entered Q4 maybe.

But that could be offset by higher costs in other in other areas of the supply chain. So and then of course that higher level of inflation started hitting us in Q1 and Q2 at the beginning of this year. So.

I really can't predict where it's going to go but assuming we get more inflation will have more LIFO charges to the extent that reverse at some point, we will get some credits.

Got it thank you very much.

Sure.

Your next question comes from the line of Scot Ciccarelli with Truth Securities.

Yeah.

Hey, Bob how are you.

Good.

It's more of a business strategy question, if you will.

Some pretty good SG&A leverage which helped to offset the merch margin compression that you saw I guess my question would you tried to pass on more price increases to protect your gross margin. If you didn't think you'd have as much SG&A leverage as you were.

Okay.

Yes.

But.

The hard one to answer look it's all.

Look we would never.

<unk> prices, if we could get SG&A leverage in every single quarter from now until eternity.

Our goal would be to lower prices indefinitely and lower SG&A, It's all a balancing act sure.

The same can be said on gross margins I mean, everybody's read what's going on out there in the industry.

Our sales in gas we are very strong our gross margins were strong.

We're able to lever that into other areas of the business by holding prices. That's what we do that's retail.

Got it okay. Thank you.

Your next question comes from the line of John Baugh with Guggenheim.

Hey, Bob I want to start with.

Because we're in uncharted territory here.

Yeah.

In recent times to what degree you guys do.

Much of this blood test.

We're going to take pricing up in certain places and see what the consumer reaction is.

Then go more broadly.

Have you seen any item by item.

Any elasticity, where you'd say, okay, where we've been.

I'm not going to roll it out or roll.

Rollout the price increase will roll it back.

Yes, John honestly, we don't we don't really test markets are well.

I'll take a market like Seattle and test, taking our price up beyond our comfort level and it all comes down to a value proposition and if we feel like we can take the price up and pass on some of the costs that we're incurring in our goods.

And the value proposition is still there.

We will go there.

<unk>.

We're not testing all of these items across the space.

Okay. I mean it is it is unprecedented times I will tell you that because of our limited SKU counts and the small number of.

Skews that each buyer actually manages they have a pretty good understanding of where their competitive situation is in the marketplace and they have a pretty good feel about what kind of business. They can do at what price and I think that helps us in terms of managing that.

Okay, and then maybe secondly gas gallon right. So what is what does that end up.

And I guess historically right.

Higher gas prices have translated into share gains for you.

Are you starting to see that accelerate drive.

Incremental traffic to the clubs.

Well that's a good question, obviously our value proposition in the marketplace is as best in class and it's actually accelerated versus where it was a year ago I think the industry demand and gallons from gas is in the 1% to 2% range.

And what I can tell you is we are much better than that.

In the high teens to low twenties in terms of where we've been trending.

I will say, we're certainly getting a lot of shops in the building when when people buy gas, but given the extraordinarily high level. We're also getting a lot more members come by and top off their tank.

Just because the value proposition in some cases over a dollar a gallon and those members will come by and.

By five or six gallons and then beyond that way so.

It's difficult to measure because of the.

The huge amount of volume we are getting through our stations right now.

Okay. Thank you.

Yes.

Your next question comes from the line of Karen short with Barclays.

Hi, Thanks very much.

Two questions.

Bob obviously address the membership.

Component.

Everyone has on their mind, but I guess, what I'm curious to hear from you.

Thank you Labour.

In one direction and then another direction like based on the last four months and so I'm curious to hear why you are steadfast now that you would not raise membership fee.

I think you said, but.

Obviously, you've taken a stance. So that's my first question.

I don't think we've really wavered I think once we get a year out or a year and a half out from that five five year cycle. We frankly, just start to get a lot of questions about it.

And.

The commentary in the prepared remarks is really more about just saying at this time, we don't think it's right for us.

We're not saying that we're not going to do it we're just saying it's not right for US right now and I think that's the same answer we had three months ago. When we talked about it on the second quarter call. So I don't think anything's really changed.

Other than we're just not at that five five year cycle yet.

Okay.

Yeah that makes sense and then.

You made two comments just in terms of.

Thank you said you were a little heavy and small clients and holiday or I'm, sorry, but you've still got about your ability to clear their I'm, sorry, So I just wanted to clarify what exactly.

Matt in terms of.

Preparing to Pennsylvania for a slowdown with the <unk>.

And or you're thinking or maybe <unk>.

My opinion, there is and then where are you at on that well.

Well I can't I can't tell you, whether I think theres going to be more pullback in.

A month or two months or three months I mean again, we feel really good about our ability to drive.

<unk> and driver members in and.

Frankly, the ability to drive the top line when I spoke to Ron yesterday about this.

Look.

He thinks we got a couple extra weeks supply in a couple of areas anything so we can move through the inventory.

Without really a lot of heartburn or problem on the seasonal stuff that a lot of that is just Christmas stuff that came in late we've got it indeed freeze and we're going to put it out this fall.

Ken.

We're probably going to put it out at a pretty good values because of the pricing and all that stuff has gone up so we feel pretty good about being able to move that and then the other comment I made is just.

More.

More inventory that we think makes sense to have like masks and things like that where if there is some kind of hiccup in.

And Covid, we're well prepared so I.

I don't want to say strategic but it's you know.

It's a little bit more inventory than we might typically carry in a kind of non environment like we're in now.

Okay, sorry, just to sneak one last one in terms of the fuel obviously, that's a huge draw for you to your stores is there any update on the conversion into the store during your open hours in terms of people filling up the tanks.

Then actually going into the store conversion because I think that's historically been 70% during open hours.

No I don't know that number has been like 50% I'm not sure we're 70% came from that.

That number that number has come down slightly.

And again, because what I mentioned earlier, we have lot more members coming by and topping off their tank.

But the overall number of shops from people buying gas is probably up.

The percentage is down because we have way more people going through the stations.

So the penetration is down a little bit, but the number of relative shops is up probably.

Okay I thought it was I thought it was 70% during open hours and 50 overall.

Maybe I was wrong.

Thank you.

Yep.

Your next question comes from the line of Edward Kelly with Wells Fargo.

Hi, guys. Good afternoon, I was hoping maybe you could share some thoughts on the outlook for the gross margin in fiscal Q4.

As we sort of think about some of the pieces year over year, the core compare kind of easier, but it's not really on a two year basis.

It seems like you're probably still going to have LIFO I don't think fuel margins are off to a very good start at all but maybe that's just because gas prices are rising and obviously its a long quarter.

Just kind of curious is that like the expectation that we should have around.

Around around the current quarter.

Yes, and I wish I could be more.

More transparent about what.

What our budgets are everything, but we really don't guide in terms of where gross margins are going to be.

I think it's it continues to be a challenging environment I think we feel good about our ability to pass through.

Certain costs.

In other areas.

Don't feel as good about it.

And we want to hold prices.

So I think it's I can't tell you where exactly it's going to be I think I think it's.

If I had to kind of it'll be looked much like what you are looking at this quarter.

Maybe a little less maybe a little more.

But other than that we really just don't we don't guide.

Yes, yes, okay. That's helpful.

Yeah, Alright, well the other thing that I wanted to ask about and you've kind of touched on it is just.

How you're navigating product cost inflation and pass through the customers and I know historically, you would lag competition.

I think maybe those like that that the length of that lag has maybe been.

Reduced to some extent I don't know if that's true just sort of color there and then.

What have you been able to do from a vendor standpoint, because you don't sell a lot of Skus right. So you do have.

Some real scale advantage within those within those products. So I'm just kind of curious as to how those negotiations are going on as well.

Well look like we've always said our first goal is to mitigate any price increase.

And our first goal is to partner with our vendor and figure out if there's a way to mitigate it for both of us.

And that's that.

What's the strategy.

It's certainly more difficult times, because there is more pressure is coming from different areas. Its not just raw material costs labor.

There's more factors involved in it but look as you as you alluded to we haven't we do a lot of volume in a relatively small number of skus were very important.

Our suppliers in terms of the volume we're doing some of these and so they worked with us.

And I think.

At the end of the day again, it's about showing the best value proposition in every item that we have on the shelf and to the extent, we're able to pass on some of those costs.

And we still show a great value in that item then that's great.

Some instances, maybe we're not able to do that as effectively but overall I feel pretty good about our merchants being able to navigate through this we've had a lot to navigate through the last couple of quarters.

And I think I feel good about our ability to continue to do it as we look out into Q4, and then into next fiscal year.

Okay, great. Thank you.

Your next question comes from the line of Peter Benedict with Baird.

Oh, Hey, guys. Thanks, Thanks for taking the question follow up nice job.

A question on private label.

<unk> penetration, just maybe where that sits relative to maybe a year ago and are you seeing any yet.

Any particular areas, where youre getting stronger.

Stronger traction or growth rates are picking up there just curious how the consumer's behavior around private label.

Yeah.

We actually took a look at that and.

We were up a little bit in terms of penetration, probably 30 or 40 basis points. So we're still doing a lot of a lot of business there, but again, we're not as I mentioned earlier when I was talking about the consumer and we're not seeing I don't think a lot of trade trade down or trade out into.

Branded into our private label. So we continue to grow it but I think.

In a way that makes sense for our business and our consumers really arent changing how they're shopping with US I think we're up four tenths I think somewhere around the 26.

26, and change a number in terms of penetration on a global basis.

Got it Okay. That's helpful. And then just I think you mentioned.

The higher year, one renewal rates. So I'm just curious maybe how long you've been seeing that is that are you.

This dynamic is.

Our national dynamic is happening everywhere and maybe.

Yes.

Frame the numbers a little bit just how much better.

Thank you sure yes, sure we have historically been depending on the country and the area somewhere in the kind of low 50 percents to low sorry high Fifty's.

Maybe 60, low <unk> and those numbers now are depending on the country in the high <unk> low 70, so we've gradually seen over the last two years since the pandemic started about a 10% bump in our first year renewal or first year members. If you will.

Which we view as very favorable because we obviously signed up a lot of new members that hadn't tried us before the pandemic. They tried us had a good experience and we're seeing better retention rates out of those members.

Okay.

Yep.

Certainly better than that going into the opposite direction. So.

Good job thanks, very much thanks, Thanks Peter.

Your next question comes from the line of Paul <unk> with Citi.

Hey, this is Brandon Cheatham on for Paul.

I just wanted to ask about supply chain bottlenecks any particular categories that.

Have improved and gotten worse, but I think some of your competitors have mentioned general merch and furniture.

Some categories that have been challenging I'm just wondering if you all are seeing that as well.

Yes, I'm, just I'm sitting here with Ron and he is indicating to me that we're pretty much across the board improving everywhere slightly from where we were.

Not really in any one particular categories I think part of that is.

There's 40 or 50 ships.

Now instead of 100 or $120 million and.

The fact that we've been able to utilize our own ships.

You kind of help get product over here.

I think it's just improved a little bit across the board in all in everything that we're purchasing.

Thanks.

You know I think in the past you've mentioned that.

If you did have shortages, you would be able to kind of switch out of vendor or.

Utilize an existing member vendor for for new product is that kind of slowed because of the supply chain has improved.

Well look we are certainly are able to pivot more easily because we have less we have less category business and more item business. So to the extent, we're having difficulty in a particular item or have a hard time showing value in a particular item, we are able to pivot over into something else.

Put it in the warehouse.

I think thats, just part of our DNA and what we do here every day, whether it's in the environment.

We're operating in now or in a normal environment. So I think it's just a competitive advantage based on our the structure of our business.

Got it appreciate it thanks and good luck, okay, great. Thanks.

Your next question comes from the line of <unk> Parikh with Oppenheimer.

Good afternoon vaccine Erica eiler on for Pam. Thanks for taking our question. So I guess first you touched on gas prices and driving traffic.

And.

I was just curious given the gas price dynamics out there right now do you think that driving more memberships at all to cloud at perhaps consumers.

Seek out more value in the environment sure sure Yeah sure.

I mean look I think every member that signs up.

No.

Has a different reason, but sure absolutely it, particularly given the extreme value proposition in that product in that and gas right now.

Okay, and then just shifting gears kind of back back discretionary you touched on seeing consumers.

Daniela other category.

What we're hearing from.

Everyone out there right now and just curious based on what Youre seeing today.

Has anything surprised you in terms of the shift by category that you're seeing right now that you had planned for.

Not really I mean, some of the areas I mentioned like sporting goods will all the gyms are opening up again and a lot of it within sporting goods, it's really exercise equipment.

Hum.

We sold a lot a year ago and this year. The people are back into Jim's office is down a little bit and again people were setting up home offices and working from home a year ago. So it's no surprise to us.

<unk> is a little bit softer than a year ago.

So I'm not really I think the categories that we're seeing b, a little bit softer than we expected or categories that we'd expected to be soft.

Not a big surprise.

Okay, great. Thank you.

Sure.

Your next question comes from the line of Kelly Bania with BMO capital.

Thanks, and well done Bob.

Just another another question as you think about that 7% inflation that you mentioned.

Can you maybe give us a little color on how that looks on the food and consumable side versus the discretionary side of the business.

And as well is there any.

Difference in your ability or willingness to pass on some of the inflation.

On either side of the aisle there.

I would say.

I would say in terms of our we're certainly seeing.

Higher inflation in certain non food areas.

Although mix is bringing that down.

Youre going to sell fewer.

Hey.

I'm, making this up but patio sets that are up say, 10% then you RSA piece of apparel that it might be up less so.

It's going to be less of an impact on our smaller priced item.

Overall, the inflation that we're seeing is relatively the same again, where an item business. So we're certainly seeing it higher than that in some items and lower than that in other areas of the business.

And I think again I hate to keep using this term, but it's all about the value proposition and our willingness to take pricing along.

Or take pricing up depends on what our position is in the marketplace.

And to the extent, we continue to show great value, it's a little easier.

To do that.

Okay, and maybe just just to follow up in terms of.

Big ticket in general.

Just maybe talk about how that's trending and.

Do you think about maybe planning big ticket, just a little bit more conservatively or or just help us understand the internal thought process about big ticket in the current environment.

Yes, well again.

Again not to keep using this term it we're an item business and I think we're seeing great strength in furniture right now we're seeing great strength in patio, we didn't have as good inventory supplies a year ago, we had more inventory now and so we're able to move that product.

Things like exercise equipment isn't as selling as much because or barbecues. For example, everybody bought a barbecue last year, because everybody was home and cooking from home.

Those those certain items like that are not selling as well this year.

I think the good thing for US is we're so broad based in terms of the merchandise that we sell.

We don't really have I guess, we don't really look at it as big ticket.

Appliances is another example of appliances are very strong. This year now again, we had a little bit of a supply constraint last year more issues with chips, that's getting better its not solved but we're in better stock. This year and we're certainly selling more appliances than we did a year ago and those are the biggest ticket items. So.

Well.

What about it.

Oh.

My guys are saying travel not not really.

Big ticket, but in experiencing everybody pent up for.

For two years and not traveling yeah that business has taken off like man. So theres a lot of discussion and talk about a recession coming.

You look at our buildings and you look at it and you have you been on an airplane lately you would never notice it.

Yes.

Perfect. Thank you.

Your next question comes from the line of Laura Champine with loop capital.

Thanks for taking my question can you talk specifically about what youre seeing in renewal rates in China I know that at first you had such great member.

Growth there but.

Im interested in how how well you've retain those customers just given what they've been through over the past few years.

Laura.

Have those.

Front of me actually.

If you want to pin me offline, we can maybe give you a little bit more color.

Do know that they are slightly lower than we've seen in some markets because we signed up so many members in those first two.

Two warehouses and so I know the retention rates are a little bit lower as a percentage, but part of that is when we opened our first building there.

Was the only building and now that we have two buildings with a third coming on the Shanghai market.

It's going to change the dynamics a little bit.

Got it and then just a detail on that one time charge.

Did you add a vacation days basically because juneteenth was made a holiday or is there something else going on there.

No. It was just for each and every employee to us as they fit.

Essentially a an additional floating holiday that each employee can use for a specific data that's important to them.

Got it thanks.

Why don't we take one or two more and then the day.

David Josh and myself will be available for some offline questions.

Okay. Your next question comes from the line of Greg <unk> with Evercore ISI.

Thanks.

Bob could you give us a little more insight into the ancillary businesses margin going up is that travel coming back.

What's really driving that.

Well certainly gas was the biggest driver in there and I think we mentioned that travel.

It was also one of the benefactor benefit actuaries what was it.

Yes.

And and was so.

Penny profit in gas, we should accept that that was actually up year over year.

Every year, but keep in mind the price of gas was up 40% year over year.

Yep Yep Yep.

Got it and then a housekeeping on the.

Dave vacation the charge the $77 million.

An accrual for the year or is that now in the base and we should see that each of the next four quarters.

Uh huh.

It's both.

The $77 million was essentially to get on the books at one time the cost of that vacation for each employee at that time on March 14th If you will and then the ongoing cost of that is in our regular SG&A and benefit costs each quarter correct.

Got it.

And those costs for Q3 or I should say the eight weeks of Q3 were just in the regular SG&A numbers.

Got it so now so presumably that was eight weeks of Q3, and we can just look at the weekly and sort of use that running forward.

Well, we didn't give you what it was by week, that's what it was for the year.

Oh, that's what it was for the so the 77 was for the year correct. There are additional cost quarter relating to the eight weeks for that benefit.

Got it okay.

Alright.

That's great. Thanks, a lot.

Thanks, Greg.

Right.

Your next question comes from the line of Stephanie Wissink with Jefferies.

Yes.

Thanks for squeezing us and wanted to see if you could give any color on new member growth you talked about gas was a benefit to attracting members and you didn't see a lot of trade down for existing members, but didn't know if you could talk about maybe any new members joining the club for savings on food or.

Non foods specifically.

Yes.

Well, we don't we don't really ask each member when they when they sign up why they are signing up.

I'm, hoping that there's a different value proposition for each and I remember that entitles them to be a member and sign up.

The one thing I can add on to that as we are getting.

More strength in terms of the number of members that sign up digitally and that's really grown throughout the pandemic and become a bigger percentage of our growth as well and I think some of that has to do with some of our online offering.

Particularly in say grocery if you don't live within 10 or 15 miles of the club, but in the pandemic you tried as you lose a little bit further away you had a good experience.

You sign a digitally and you stay digitally and he might users have digitally and half in the warehouse. So I think it's a different reason for everybody really.

It just it just depends on.

Your preferences.

Okay, and then lastly on renewal rate that was strong in the quarter I'm just wondering how that was versus your expectations and also the MFA growth.

What's your expectations as well thank you.

Okay.

Okay. My guys are telling me I didn't know, but I think that was pretty much in line with what our expectations were.

I mean, we continue when you kind of take a look at what's driving that we continue to.

To convert more base members to the executive member program, who tend to renew at a higher rate and have more loyalty with us that's contributing to that we see that every week. So we know that's going to help the renewal rates.

And so.

So I think based on watch and then of course, the first year renewal rates that are improving we know that's going to help that.

Number as well and signing up more members. So all of that I think is contributing to.

To those improved metrics if you will.

Thanks, Bob Thats helpful.

Okay.

And auto Bill Yeah.

Yeah.

Okay. If there's no more questions we'll call it a wrap I appreciate everybody dialing in today and again.

David and Josh and myself are available if you guys have any follow ups.

Have a good day.

Yes.

This concludes today's conference call. Thank you for participating you may now disconnect.

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Good day and thank you for standing by welcome to the Costco Wholesale Corporation third quarter earnings Conference call. At this time, all participants are in a listen only mode. After the speaker's presentation. There will be a question and answer session to ask a question. During the session you will need to press star one on your telephone.

Please be advised that today's conference is being recorded if you require any further assistance. Please press star zero I would now like to hand, the conference over to your speaker for today. Thank you. Please go ahead.

Okay.

Thank you Erica and good afternoon to everyone. This is Bob Nelson Senior VP of finance and Investor Relations here at Costco. Thank.

Thank you for dialing in today into today's conference call to review, our third quarter fiscal year 'twenty two operating results.

Before we begin a couple of housekeeping items to take care of.

First as you have surmised Richard is not with US today. He is doing great and wishes he could be on the call. He is in Italy with his family on a rescheduled vacation that was canceled early in the pandemic.

He wanted me to pass along his best to everyone and in his absence I will be filling in for him today.

Secondly, and before we get into the details of today's earnings results I need to read our safe Harbor disclosure.

Let's begin.

Discussions will include forward looking statements within the meaning of the private Securities Litigation Reform Act of 1095. These statements involve risks and uncertainties that may cause actual events results and our performance to differ materially from those indicated by such statements. The risks and uncertainties include but are not limited to.

Those outlined in today's call as well as other risks identified from time to time in the company's public statements and reports filed with the SEC.

Forward looking statements speak only as of the date. They are made and the company does not undertake to update these statements.

<unk> as required by law.

Okay with that out of the way let's.

Get to it.

In today's press release, we reported operating results for the third quarter of fiscal 'twenty to the 12 weeks ended this past may eight.

Net income for the quarter was 135 3 billion $3 <unk> per diluted share the reported three or four.

<unk> included a one time $77 million pre tax charge 13 per diluted share for incremental benefits awarded under the new employee agreement effective. This past March 14th last year's third quarter net income was $1 2 billion.

$2 75 per diluted share, which included $57 million pretax or <unk> <unk> per diluted share for cost incurred primarily from COVID-19 premium wages.

In terms of this year is $77 million pre tax charge. This was in conjunction with our new employee agreement again effective this past March 14th and was primarily to adjust our benefit accrual to account for one additional day of vacation, which is awarded to each employee immediately and the continuing.

The impacts of the wage and benefit enhancements are reflected in SG&A and margin for this quarter.

And we will be.

And for Us.

As well as for subsequent quarters.

Net income for the first 36 weeks of fiscal 'twenty, two was $3 98 billion.

$8 94 per diluted share and that compares to 334 billion or $7 51.

Per diluted share last year.

Now, let's now review the metrics of our P&L is always starting with sales net sales for the third quarter increased 16, 3% to $51 six 1 billion and that compares to 44 three.

<unk> three 8 billion reported last year in Q3.

In terms of comparable sales for the third quarter.

For the 12 weeks on a reported basis the U S was better or up by 16, 6%.

Canada, better by 15, 2% other international up five 7% and total company again up 14, 9% our E com business in the third quarter reported better by seven 4% versus year ago.

For the 12 weeks, excluding the benefit of gas inflation and the headwinds.

FX the U S came in at up 10, 7%, Canada better by $12 eight.

Other international up $9, one and on a total company basis ex gas inflation and FX headwinds better by 10, 8% and E Commerce, just below 8% seven 9% for the quarter.

In terms of Q3 comp metrics traffic or shopping frequency increased six 8% worldwide and up five 6% in the U S. Our average transaction was up seven 6% worldwide and up 10, 4% in the U S. During the quarter.

And foreign currencies relative to the U S dollar negatively impacted sales by just a little over 1% and our gasoline price inflation.

Positively impacted sales in the quarter, just a little bit more than 5%.

The best performing categories in Q3 were candy sundries tires toys jewelry.

Home furnishings apparel bakery and deli.

Underperforming departments, where liquor office sporting goods and hardware all of which were quite strong a year ago in terms of other business sales. The best performers came in from gasoline travel food course in our business centers. So overall, our sales grew nicely in the quarter and for the most part we're pretty broad based.

Moving down the income statement to membership fee income reported in Q3.

$984 million or $1 91, as a percentage of sales compared to last year's $901 million or two or three as a percentage of sales that's up $83 million year over year or a nine 2% increase and excluding headwinds from FX of about $10 6 million membership was up.

10.4%.

In the quarter in terms of renewal rates, we hit an all time, we hit all time highs at Q3 end, our U S and Canada renewal rate was 92, 3%.

Three tenths of a percent from 12 weeks earlier at Q2 end and the worldwide rate came in at 90% for the first time in company history, and Thats up four tenths of a percent from what we reported in Q2 and.

Renewal rates continue to benefit.

From the increased penetration of both of both auto renewals and more executive members and <unk> and in addition to that higher first year member renewal rates than what we've historically seen.

In terms of member counts.

Number of member households, and cardholders that Q3, and we ended Q3 was $64 4 million paid households, and $116 6 million cardholders, both of those up over 6% compared to a year ago.

At Q3 end, our paid executive memberships were <unk>.

$7 9 million and that's an increase of just about 800000 during the 12 weeks since Q2 and executive members now represent over 43% of our member base and over 71% of our worldwide sales.

Now before I move on I wanted to take just a minute and address the question that we've been getting a lot recently regarding the timing of the potential membership fee increase historically, we've raised fees every five to six years with the last three increases coming on average at about five and a half year timeframe and our last increase coming in June .

Of 2017 as.

As we approach this five five earmark there'll be more discussions with Greg Ron and the executive team, but for today, we have nothing more specific to report in terms of timing. In addition, given the current macro environment. The historically high inflation and the burden is having on our members and all consumers in general.

We think increasing our membership fee today ahead of our typical timing is not the right time.

We will let you know however, when that changes.

So the 99 basis points down year over year, and excluding the negative input packs of gas inflation, we would have been down 53 basis points.

So if you would for me and as normal please jot down the following.

Our gross margin matrix and again as usual two columns. The first column being reported gross margin the second column being gross margin without the impact of gas inflation. There are six rows. The first row being merchandise core second ancillary and other business the third row.

<unk>, 2% rewards followed by LIFO other.

Other and then total.

So in terms of our core merchandise margins on a reported basis. They were down 87 basis points versus last year down 46 basis points ex gas ancillary and other plus six reported and plus 18 ex gas, 2% rewards plus eight and plus three LIFO minus two.

25 basis points on a reported basis and minus 27 ex gas inflation and.

And finally, other minus one with and without gas. So again in total down 99 reported down 53, excluding the impact of gas inflation.

Sales, which were very strong in the quarter in terms of the core margins on their own sales in Q3, our core on core margins were lower by 39 basis points approximately two thirds of this coming from fresh foods fresh experienced a very difficult compare versus last year when the extraordinary volumes produced.

Extraordinary volumes.

Produced lower.

And higher labor productivity a year ago.

Also contributing to the decline in this quarter, where raw higher raw material costs and higher labor costs due to our new wages.

Ancillary and other business gross margin again higher by six reported higher by 18 basis points ex gas inflation gas travel and business centers were better year over year offset somewhat by E com pharmacy and optical.

Again, 2% rewards higher by a reported higher by three ex gas LIFO minus 25, and minus 27 ex gas as we recorded a $130 million charge in the quarter for LIFO and other was minus one basis points, both with and ex gas inflation.

This included items from both years last year, we had $14 million of Covid expenses, primarily premium wages within gross margin.

This year, we had a onetime charge discussed at the beginning of the call $20 million of the $77 million of which related to gross margin. The net result of these two items again minus one basis point.

And while we continue to mitigate the impact of price increases as best as we can we remain comfortable in our ability to pass through higher costs, while providing great value to our members.

Moving to SG&A.

We showed good results.

Reported SG&A in the third quarter was lower or better year over year by 84 basis points.

Coming in at 862% and that compares to last year's reported 946%.

G&A figure.

Again, 84 basis points, lower or better and 44 basis points, excluding the impact of gas inflation.

Again, if you jot down the following for our SG&A matrix again, two columns. The first column being reported SG&A. The second column SG&A ex the impact of gas inflation and.

Gas inflation.

On October 14th.

Of this year.

Charge again discussed at the beginning of the call $57 million of the $77 million, which related to SG&A.

Net result of these two items again minus one reported minus two ex gas inflation.

So all told reported operating income in Q3.

This year increased 8% coming in at 179 1 billion.

Overall pre tax profit.

Pretax income came in for the quarter up 11% coming in at one 8% to $7 billion and that compares to $1 65 billion.

We reported a year ago.

In terms of income taxes, our tax rate in Q3 was 24, 9% that compares to 25 two in Q3 last year.

Overall for the year, our effective tax rate is currently projected to be between 26 and 27%.

A few other items of note warehouse expansion in Q3, we opened one net new warehouse plus two relocations.

Three relocations and for a net of 24 net new warehouses for all of fiscal year 'twenty two.

The 24, new warehouses by market or <unk> in the U S. Two in Canada, and one each in Korea, Japan, Australia, Mexico, Spain, France, China, and our first opening in New Zealand, which will occur in August of this year in terms of the new openings.

This year this is for fewer than what we projected in Q2.

Two of the four were impacted by some supply.

Supply chain issues related to electrical equipment and the other two have been delayed due to third party site development issues. All four of these buildings are now scheduled to open.

By the end of calendar November this fall.

There are three in the U S and one in Australia that were delayed.

One net new opening in Q3 was a business center located in San Marcos, California in the first of the 10 scheduled to open in Q4 opened this past week and Riverton, Utah, bringing our worldwide total to 830.

Costco's.

As of today at around around the world.

Regarding Capex Q3.

Turning to spend was approximately $854 million our full year Capex spend is estimated for the year to be just shy of about $4 billion.

Two day dry fresh and frozen continues to grow up low double digits in the quarter.

<unk> 3 million.

Costco with logistics, we continued to transition from vendor drop ship to direct ship from our own inventory, particularly in big and bulky items. Overall this lowers the cost of merchandise and improved delivery times and service levels for our members.

Okay. A few now a few comments regarding inflation first of all it continues pressures.

Pressures from higher commodity prices higher wages higher transportation costs and supply chain disruptions all still in play.

For Q1, we estimated price inflation was in the four 5% to 5% range.

High meat prices.

We believe our solid sales increases and relatively consistent margins. So that we have continued to strike the right balance and passing on higher costs.

Switching over to inventory for a minute our total inventory in Q3 was up 26% year over year versus up 19% in Q2, a couple of high level comments regarding inventory.

A material component of the increase year over year as inflation rather than unit growth.

We continue to expand open new locations 20, new in the last 12 months.

We are lapping some low stocks in certain departments as a result of last year's high demand.

And we are purposely building inventory in our E comm business, primarily in big and bulky categories as mentioned earlier in the call.

Food and sundries and fresh is in very good shape, our weak supply is comparable year over year.

Have a few hundred million dollars of extra inventory in both later rising holiday merchandise from last season, which we're storing until this fall and some buying merchandise to ensure proper inventory levels in the face of these ongoing supply chain issues.

Speaking with Craig Ron and Clouding Domo, our new head of merchandising, we feel good about our current inventory levels.

Additional inventory, we're carrying in the right departments and they feel good about our ability.

To move it.

A quick update on China.

Our first opening in China located in Manhattan, Shanghai was closed for the last six weeks of the third quarter.

That closure had a negative impact in the quarter of approximately $35 million in sales as of May 18th.

Which opened in December of this last December was largely has largely avoided the lockdowns and restrictions to this point.

We are currently targeting an opening date. This December for our third Shanghai building in Pudong, the timing, although will somewhat depend on the area of remaining open for the next several months and not being more negatively impacted by Lockdowns.

For additional China buildings are currently underway and planned.

It was opening dates in the next two years.

These would be our first China openings outside of Shanghai I believe we have all of those.

Four one is in fiscal 'twenty, three and three in fiscal 'twenty four.

Before wrapping up a quick shout out to the 300000 worldwide Costco employees around the globe.

Excellent excellent work and proactive efforts they give each day to navigate during these most challenging environment, our merchants and operators are the best in the business and their hard work as reflected in our strong operating results.

Finally, I want to address some incorrect information floating around on social media and a few other media outlets, claiming that we have increased the prices of our $1 50, hotdog and soda combinations sold in our feed course, let me just say the price when we introduced the hot dog soda combo in the mid <unk> was $1 50, the price today is a one.

And we have no plans to increase the price at this time.

With that I will turn it back over to Erica and open it up for Q&A.

Thank you.

As a reminder to ask a question you will need to press star one on your telephone to withdraw your question press the pound key please standby, while we compile the Q&A roster.

Yes.

Your first question comes from the line of Simeon Gutman with Morgan Stanley .

Hey, Hey, Bob How're you doing.

Good.

It was kind of who's going to win for the answers if youre the one doing all of that.

Yeah.

I got it.

Okay.

Can you tell me on the core on core margin ex gas it looks like underlying run rate got a little worse, which I don't think it's a big surprise given what we're hearing out there you mentioned in the core on core the perishable year over year, but is it safe that is the transport or is it there's some markdowns on erratic.

Inventory coming in can you talk a little about what's happening there. Thanks.

Yes on the fresh side.

Literally had no DMD last year, and we had we.

We had very high labor productivity.

Because of the pounds that we were going to you know that we were that we were processing if you will.

I think we've kept a lot of that leverage actually.

Hey above pre pandemic levels.

That was extraordinary last year so.

We will keep some of that.

But it's not all of that and then a little bit of it is like I said raw material cost. This year I mean, those eventually make their way into the into the price of our goods as good as you know we're not the first wanted to go up when we have higher costs.

I think just recently it may have been after the end of the quarter.

Reluctantly, but we took up the price of our muffins and our croissant I think a dollar.

As the price of a lot of those raw materials have continued to escalate to two and three and four times, what they were last year. So.

That's essentially what's going on there.

Got it.

Maybe my follow up.

Thing happening a trip consolidation items per trip rising anything that I'm sure. You know this is a question youre ready for.

Yeah.

Honestly we're.

We're not seeing a lot of change in our in our.

Our throughput in the buildings I mean, we're seeing a lot of traffic.

But we're not seeing a lot of we're not seeing trade down really we're seeing a little bit of shift in where people are spending their money.

Last year, there was more stuff for the home and and that and this year, it's more sales and tickets in restaurants, and travel and tires and gas and things of that nature, but we're still holding our own in areas like apparel and furniture and jewelry Tvs and appliances all of those departments are showing good.

Decent sales growth on top of pretty good numbers, a year ago I would say overall.

Our members are shopping.

Okay, Thanks, Bob take care.

Your next question comes from the line of Chuck Grom with Gordon Haskett.

Okay. Thanks, a lot good job Bob correct.

Just curious Craig's view on.

Answering the desire to show value quickly lately as the macro backdrop continues to get more uncertain.

So passing on some price increases.

Like you articulated.

And placement up anywhere between 5% to 7%, but we don't want some cruises the pressures are much higher so just curious where quite a bit about that balance.

Look I think we always wanted to be the best value in the marketplace.

Our most recent shops against who we watch most closely have not changed.

Every bit as competitive as we have been.

Notwithstanding the fact, we have taken some prices up in certain areas.

Food and sundries and fresh foods.

Okay, Great and then on the core on core you talked about two thirds being crushed I just wonder if you could just give us some color on some of the discretionary categories.

Well I think the balance was.

Slightly more in non foods than in foods in terms of the remaining third of the law.

Lower.

Margins.

I'm not sure I have the.

Specifics right now on certain specific categories.

Again, it's not really a category, where an item business and so it's all about certain items, where we might move or not move.

Okay. Thanks, Bob.

Thanks Chuck.

Your next question comes from the line of Christopher <unk> with Jpmorgan.

Hi, Thanks, very much this is meghan Alexander on for Chris.

Holding back any of the price increases on those cause such that its impacting core on core.

Maybe maybe more than normal.

No I don't I don't believe so Megan I mean.

I think overall, there is higher transportation costs across the whole supply chain, whether it's <unk>.

Ocean freight or trucking or the price of fuel et cetera et cetera.

Sure.

I think eventually those costs make their way into your yourself price again, it's not like anything else, we tend to to drag a little bit compared to others, but.

I don't think there is a material change since the end of April in terms of how we're managing that.

Got it Okay. That's helpful. And then maybe just a quick follow up on lifestyle.

Certainly can't be predicted and tell you exactly where it's going.

We've obviously seen more inflation as the year's progressed, if we stay at this level.

There will continue to be some impact to our P&L.

If we start to see deflation if we were in a deflationary environment next year, yes, we would get some of that back but.

We've got a ways to go I think there I think everybody thinks we are still in it.

So I'm not predicting but we saw a little bit of of.

The decline in our fresh food inflation.

This past quarter will we see some other areas as we entered Q4 maybe.

I really can't predict where it's going to go but assuming we get more inflation will have more LIFO charges to the extent that reverse at some point, we will get some credits.

Got it thank you very much.

Sure.

Your next question comes from the line of Scot Ciccarelli with Truth Securities.

Hey, Bob how are you.

Good.

It's more of a business strategy question, if you will.

Pretty good SG&A leverage which helped to offset that.

Merch margin compression that you saw I guess the question is would you tried to pass on more price increases to protect your gross margin. If you didn't think you would have as much SG&A leverage as you were.

Alright.

Yes.

But that's what it is.

A hard one to answer look it's all.

Look we would never.

<unk> prices, if we could get SG&A leverage in every single quarter from now until eternity.

Our goal would be to lower prices indefinitely and lower SG&A, It's all a balancing act sure.

The same can be said on gross margins I mean, everybody's read what's going on out there in the industry.

Our sales in gas we are very strong our gross margins were strong and to the extent, we're able to lever that into other areas of the business by holding prices. That's what we do that's retail.

Got it okay. Thank you.

Your next question comes from the line of John <unk> with Guggenheim.

Hey, Bob I want to start with.

Because we're in uncharted territory here.

In recent times to what degree you guys you do much of this blood test.

Going to take pricing up in certain places and see what the consumer reaction is.

And then go more broadly.

Have you seen any item by item.

Any elasticity, where you'd say, okay, we're not going to roll it out or roll.

Rollout the price increase roll it back.

Yes, John honestly, we don't we don't really test markets.

Don't take a market like Seattle and test, taking our price up beyond our comfort level and it all comes down to the value proposition and if we feel like we can take a price up and pass on some of the costs that we're incurring in our goods and the value proposition is still there.

We will go there.

We're not testing all of these items across the space.

Okay.

It is unprecedented times I will tell you that because of our limited SKU counts and the small number of.

Okay, and then maybe secondly gas gallon right. So what is what does that then up.

And I guess historically right.

Higher gas prices have translated into share gains for you.

Are you starting to see that accelerate and drive.

Incremental traffic to the clubs.

And what I can tell you is we are much better than that.

The high teens to low twenties in terms of where we've been trending.

I will say, we're certainly getting a lot of shops in the building.

People buy gas, but given the extraordinarily high level. We're also getting a lot more members come by on top off their tank just because the value proposition in some cases over a dollar a gallon and those members will come by and.

By five or six gallons and then beyond that way so.

It's difficult to measure because of the just the huge amount of volume we are getting through our stations right now.

Okay. Thank you.

Yep.

Your next question comes from the line of Karen short with Barclays.

Hi, Thanks very much.

Two questions.

Bob obviously address the membership.

Components.

Everyone has on their mind, but I guess, what I'm curious to hear from you.

Thank you Labour.

<unk> and then another direction like based on the last four months and so I'm curious to hear why you are steadfast now that you would not raise membership being not that I necessarily think you said, but.

So you've taken that stance. So that's my first question.

I don't think we've really wavered I think once we get a year out or a year and a half out from that five five year cycle. We frankly, just start to get a lot of questions about it.

The commentary in the prepared remarks is really more about just saying at this time, we don't think it's right for us.

<unk>.

Other than we're just not at that five five year cycle yet.

Okay.

Yeah that makes sense and then.

You made two comments just in terms of I think you said you were a little heavy and small clients and holiday or I'm, sorry, but you've still got about your ability to <unk> I'm sorry.

I just wanted to clarify what exactly.

Matt in terms of.

Preparing to Pennsylvania for a slowdown with the <unk>.

And or you're thinking maybe if youre not thinking there is.

Where are you at on that.

I can't I can't tell you, whether I think theres going to be more pullback in <unk>.

A month or two months or three months I mean again, we feel really good about our ability to drive.

Rafik and driver members in and frankly, the ability to drive the top line when I spoke to Ron yesterday about this.

Look.

He thinks we got a couple extra weeks supply in a couple of areas and he thinks we can move through the inventory without really a lot of heartburn or problem on the seasonal stuff that a lot of that is just Christmas stuff that came in late we've got it indeed freeze and we're going to put it out this fall and.

More.

More inventory that we think makes sense to have like masks and things like that where if there is some kind of hiccup in.

And Covid, we're well prepared so I.

I don't want to say strategic but it's you know.

It's a little bit more inventory than we might typically carry in a kind of non environment like we're in now.

I'm actually going into the store conversion because I think that's historically been 70% during open hours.

No I don't know that number has been like 50% I'm not sure we're 70% came from that.

That number that number has come down slightly.

And again, because what I mentioned earlier, we have lot more members coming by and topping off their tank.

But the overall number of shops from people buying gas is probably up.

The percentage is down because we have way more people going through the stations.

So the penetration is down a little bit, but the number of relevant shops is up probably.

Okay I thought it was I thought it was 70% during open hours and 50 overall.

Thank you.

Yep.

Your next question comes from the line of Edward Kelly with Wells Fargo.

Hi, guys. Good afternoon, I was hoping maybe you could share some thoughts on the outlook for the gross margin in fiscal Q4.

As we sort of think about some of the pieces that year over year, the core compare kind of easier, but it's not really on a two year basis.

It seems like you probably still going to have LIFO I don't think fuel margins are off to a very good start at all but maybe that's just because gas prices are rising and obviously its a long quarter.

Just kind of curious is that the expectation that we should have around.

Around around the current quarter.

Yes, and I wish I could be more.

More transparent about what our budgets are everything, but we really don't guide in terms of where gross margins are going to be.

I think it's it continues to be a challenging environment I think we feel good about our ability to pass through.

Certain costs.

In other areas, we don't feel as good about it.

And we want to hold prices.

So I think it's I can't tell you.

Where exactly it's going to be I think I think it's.

If I had to kind of it'll be it look much like what you are looking at this quarter.

Maybe a little less maybe a little more.

But other than that we really just don't we don't guide.

Yeah, Yeah, Okay. That's helpful.

Yeah, Alright, well the other thing that I wanted to ask about and you've kind of touched on it is just.

How you're navigating product cost inflation and pass through the customers and I know historically, you would lag competition.

I think maybe those like that that the length of that lag has maybe been reduced to some extent I don't know if that's true just sort of color there and then.

What have you been able to do from a vendor standpoint, because you don't sell a lot of Skus right. So you do have.

Some real scale advantage within those within those products. So I'm just kind of curious as to how those negotiations are going as well.

Well look like we've always said our first goal is to mitigate any price increase.

And our first goal is to partner with our vendor and figure out if there's a way to mitigate it for both of us.

And that's that.

That's the strategy.

It's certainly more difficult times, because there is more pressure is coming from different areas. Its not just raw material costs labor.

There's more factors involved in it but look as you as you alluded to we haven't we do a lot of volume in a relatively small number of skus were very important.

Our suppliers in terms of the volume we're doing some of these and so they worked with us.

And I think.

At the end of the day again, it's about showing the best value proposition in every item that we have on the shelf and to the extent, we're able to pass on some of those costs.

And we still show a great value in that item then that's great.

And I think I feel good about our ability to continue to do it as we look out into Q4, and then into next fiscal year.

Okay, great. Thank you.

Your next question comes from the line of Peter Benedict with Baird.

Oh, Hey, guys. Thanks, Thanks for taking the question follow up nice job.

A question on private label.

<unk> penetration, just maybe where that sits relative to maybe a year ago and are you seeing any yet.

Any particular areas, where youre getting stronger.

Stronger traction or growth rates are picking up there just curious how the consumer's behavior around private label.

Yeah.

We actually took a look at that and.

Branded into our private label. So we continue to grow it but I think.

In a way that makes sense for our business and our consumers really arent changing how they're they're shopping with US I think we're up four tenths I think somewhere around the 26.

26, and change a number in terms of penetration on a global basis.

Got it Okay. That's helpful. And then just I think you mentioned.

The higher year, one renewal rates I'm, just curious maybe how long you've been seeing that is that a U S dynamic.

National dynamic is it happening everywhere and maybe.

Maybe.

Frame the numbers a little bit just how much better.

Thank you sure yes, sure we have historically been depending on the country and the area somewhere in the kind of low 50 percents to low sorry high Fifty's.

Maybe 60, low sixty's and those numbers now are depending on the country in the high <unk> low 70, so we've gradually seen over the last two years since the pandemic started about a 10% bump in our first year renewal or first year members. If you will.

Which we view as very favorable because we obviously signed up a lot of new members that hadn't tried us before the pandemic. They tried has had a good experience and we're seeing better retention rates out of those members.

Okay.

Yes.

Certainly better than that go into the opposite direction. So.

Good job thanks, very much thanks, Thanks Peter.

Your next question comes from the line of Paul <unk> with Citi.

Hey, this is Brian shoot them on for Paul.

Just wanted to ask about supply chain bottlenecks any particular categories that.

Have improved and gotten worse, but I think some of your competitors have.

I'm sure you know general merch and furniture.

Some categories that have been challenging I'm just wondering if you all are seeing that as well.

Yes, I'm, just I'm sitting here with Ron and he is indicating to me that we're pretty much across the board improving everywhere slightly from where we were.

Not really in any one particular categories I think part of that is.

There's 40 or 50 ships in L. A now instead of 100 or 120 and and the.

The fact that we've been able to utilize our own ships.

Kind of help get product over here.

I think it's just improved a little bit across the board in all and everything that we're purchasing.

Thanks.

You know I think in the past you've mentioned that.

If you did have shortages, you would be able to kind of switch out of vendor or.

Utilize an existing member vendor for for new product is that.

Slowed because of the supply chain has improved.

Put it in the warehouse.

That's just part of our DNA and what we do here every day, whether it's in the environment.

We're operating in now or in a normal environment. So I think it's just a competitive advantage based on our the structure of our business.

Okay.

I appreciate it thanks and good luck.

Thanks.

Your next question comes from the line of <unk> Parikh with Oppenheimer.

Good afternoon vaccine Erica eiler on for Pam. Thanks for taking our question. So I guess first you touched on gas prices.

Driving traffic.

And.

I was just curious you know given the gas price dynamics out there right now do you think that driving more memberships at all to cloud at perhaps consumers.

Seek out more value in the environment sure sure Yeah sure.

I mean look I think every member that signs up.

No.

Has a different reason, but sure absolutely it, particularly given the extreme value proposition in that product in that and gas right now.

Okay, and then just shifting gears kind of back back in discretionary you touched on.

Tumors.

And your other categories.

What we're hearing from.

Everyone out there right now and just curious based on what Youre seeing to date.

Has anything surprised you in terms of the shift by category that you see.

Being right now that you had planned for.

Not really I mean, some of the areas I mentioned like sporting goods will all the gyms are opening up again and a lot of it within sporting goods, it's really exercise equipment that.

Hum.

Department is a little bit softer than a year ago.

So I'm not really I think the categories that we're seeing b, a little bit softer than we expected or categories that we'd expected to be soft as it is not a big surprise.

Okay, great. Thank you.

Sure.

Your next question comes from the line of Kelly Bania with BMO capital.

Thanks, and well done Bob.

Just another another question as you think about that 7% inflation that you mentioned can you maybe give us a little color on how that looks on the food and consumable side versus the discretionary side of the business.

And as well is there any.

Difference in your ability or willingness to pass on some of the inflation.

On either side of the aisle there.

I would say.

I would say in terms of are we are certainly seeing.

Higher inflation in certain non food areas.

Although mix is bringing that down.

Youre going to sell fewer.

Hey.

I'm, making this up but patio sets that are up say, 10% then you RSA piece of apparel that it might be up less so.

It's going to be less of an impact on our smaller priced item.

And I think again I hate to keep using this term, but it's all about the value proposition and our willingness to take pricing along.

Or take pricing up depends on what our position is in the marketplace.

And to the extent, we continue to show great value, it's a little easier.

To do that.

Okay, and maybe just to follow up in terms of.

Big ticket in general can you just maybe talk about how that's trending and.

Do you think about maybe planning big ticket, just a little bit more conservatively or or just help us understand the internal thought process about big ticket and in that current environment.

Yes, well again.

Again not to keep using this term it we're an item business and I think we're seeing great strength in furniture right now we're seeing great strength in patio, we didn't have as good inventory supplies a year ago. When we had more inventory now and so we're able to move that product.

Things like exercise equipment isn't as selling as much because or barbecues. For example, everybody bought a barbecue last year, because everybody was home and cooking from home.

Those those certain items like that are not selling as well this year.

I think the good thing for US is we're so broad based in terms of the merchandise that we sell.

We don't really have I guess, we don't really look at it as big ticket.

Appliances is another example appliances are very strong this year now again, we had a little bit of a supply constraint last year more issues with chips, that's getting better its not solved but we're in better stock. This year and we're certainly selling more appliances than we did a year ago and those are the biggest ticket items. So.

Okay.

Yes.

What about it okay.

<unk>.

My guys are saying travel not not really.

Big ticket, but in experiencing everybody pent up for.

Two years are not traveling yeah that business has taken off like Matt So.

There's a lot of discussion and talk about a recession come in but if you. If you look at our buildings and you look at it and you have you been on an airplane lately you would never notice it.

Yes.

Perfect. Thank you.

Your next question comes from the line of Laura Champine with loop capital.

Thanks for taking my question can you talk specifically about what youre seeing in renewal rates in China I know that at first you had such great member.

Growth there but.

Im interested in how how well you've retain those customers just given what they have been through over the past few years.

Yeah Laura.

Have those in front of me actually.

If you want to pick me offline, we can maybe give you a little bit more color I do know that they are slightly lower than we've seen in some markets because we've signed up so many members in those first two.

Two warehouses and so I know the retention rates are a little bit lower as a percentage, but part of that is when we opened our first building there.

It was the only building and now that we have two buildings with a third coming on the Shanghai market.

Got.

That's going to change the dynamics a little bit.

Got it and then just a detail on that one time charge.

Did you add a vacation days basically because juneteenth was made a holiday or is there something else going on there.

Okay.

No. It was just for each and every employee to us as they fit.

Essentially a an additional floating holiday that each employee can use for a specific data it's important to them.

Got it thanks.

Why don't we take one or two more and then.

David Josh and myself will be available for some offline questions.

Okay. Your next question comes from the line of Greg <unk> with Evercore ISI.

Thanks.

Bob could you give us a little more insight into the ancillary businesses margin going up is that travel coming back.

Whats really driving that.

Well certainly gas was the biggest driver in there and I think we mentioned that travel.

It was also one of the benefactor benefit actuaries what was it.

Yes.

And and was and.

So penny profit in gas, we should accept that that was actually up year over year. It was up year every year, but keep in mind the price of gas was up 40% year over year.

The margin Yep Yep Yep.

Got it and then a housekeeping on the Dave.

Dave vacation the charge the $77 million.

An accrual for the year or is that now in the base and we should see that each of the next four quarters.

Uh huh.

It's both.

The $77 million was essentially to get on the books, one time the cost of that vacation for each employee at that time on March 14th If you will and then the ongoing cost of that is in our regular SG&A and benefit costs each quarter correct.

Got it.

And those costs for Q3 or I should say the eight weeks of Q3 were just in the regular SG&A numbers.

Got it so now so presumably that was eight weeks of Q3, and we can just look at the weekly and sort of use that running forward.

Okay.

Well, we Didnt give me what it was by week, that's what it was for the year.

That's what it was for the so the 77 was for the year correct. There are additional cost quarter relating to the eight weeks for that benefit got it okay.

Alright.

That's great. Thanks, a lot.

Yes, Thanks, Greg.

Right.

Your next question comes from the line of Stephanie Wissink with Jefferies.

Yes.

Thanks for squeezing us and wanted to see if you could give any color on new member growth.

Talked about gas was a benefit to attracting members and you didn't see a lot of trade down for existing members, but didn't know if you could talk about maybe any new members joining the club for savings on food or non foods specifically.

Yes.

Well, we don't we don't really ask each member when they when they sign up why they are signing up.

I'm, hoping that there's a different value proposition for each and every member that entitles them to be a member and sign up.

The one thing I can add onto that as we are getting.

Particularly in say grocery if you don't live within 10 or 15 miles of the club.

In the pandemic you tried as you alluded a little bit further away you had a good experience.

If you sign a digitally and you stay digitally and you might use this half digitally and half in the warehouse. So I think it's a different reason for everybody really.

It just it just depends on.

Your preferences.

Okay, and then lastly on renewal rate that was strong in the quarter I'm just wondering how that was versus records patients and also the MFA growth.

Versus your expectations as well thank you.

Okay.

Okay. My guys are telling me I didn't know but.

That was pretty much in line with what our expectations were.

I mean, we continue when you kind of take a look at what's driving that we continue.

And so.

So I think based on watch and then of course, the first year renewal rates that are improving we know that's going to help the number as well and signing up more members. So all of that I think is contributing to.

To those improved metrics if you will.

Thanks, Bob Thats helpful.

Alright.

And auto Bill Yeah.

Okay. If there's no more questions we'll call it a wrap I appreciate everybody dialing in today and again.

David and Josh and myself are available if you guys have any follow ups.

Have a good day.

Okay.

This concludes today's conference call. Thank you for participating you may now disconnect.

Q3 2022 Costco Wholesale Corp Earnings Call

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