Costco Wholesale (COST)

Q2 2012 Earnings Call

February 29, 2012 11:00 am ET

Executives

Richard A. Galanti - Chief Financial Officer, Executive Vice President and Director

Analysts

Deborah L. Weinswig - Citigroup Inc, Research Division

Charles X. Grom - Deutsche Bank AG, Research Division

Robert W. Carroll - UBS Investment Bank, Research Division

Brian W. Nagel - Oppenheimer & Co. Inc., Research Division

Adrianne Shapira - Goldman Sachs Group Inc., Research Division

Gregory S. Melich - ISI Group Inc., Research Division

Christopher Horvers - JP Morgan Chase & Co, Research Division

Mark Wiltamuth - Morgan Stanley, Research Division

Robert F. Ohmes - BofA Merrill Lynch, Research Division

Charles Edward Cerankosky - Northcoast Research

Mark R. Miller - William Blair & Company L.L.C., Research Division

John Heinbockel - Guggenheim Securities, LLC, Research Division

Presentation

Operator

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Good morning. My name is Dawn, and I will be your conference operator today. At this time, I would like to welcome everyone to the second quarter and year-to-date operating results for fiscal year 2012 and February sales conference call. [Operator Instructions] Thank you. Mr. Richard Galanti, CFO, you may begin your conference, sir.

Richard A. Galanti

Thank you, Dawn. Good morning. This morning's press release reviewed our second quarter fiscal year 2012 operating results for the 12 weeks ended February 12 and our February sales results for the 4 weeks ended this past Sunday, February 26.

As with every conference call, let me start by stating that the discussions we're having will include forward-looking statements within the meaning of the Private Securities and Litigation Reform Act of 1995 and that these statements involve risks and uncertainties that may cause actual events, results and/or 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.

To begin with, our 12-week second quarter results, for the quarter, earnings per share came in at $0.90, up 14% from last year's second quarter earnings per share of $0.79. This was on a 10% sales increase and there weren't any big unusual items either in this year's or last year's second quarter earnings. But as we go through our note, you'll note comparison includes not only a 10% overall sales increase, an 8% comp sales increase and normalized 7% comp increase, excluding gas inflation and FX impact.

The FX impact on our foreign operations year-over-year in Q2, assuming flat year-over-year FX rate, essentially hit us by about $5 million pretax earnings in the second quarter. We had an 8% increase in membership fee income. This included very little impact from the recent announced fee increase, a little less than $1 million. This is due to the nature of deferred accounting, and I'll talk about that in a minute.

We had a lower year-over-year gross margins as we continue to invest in pricing. We had good SG&A expense improvement and we had a smaller year-over-year LIFO charge, $6 million last year in the quarter versus $2.5 million and we had a favorable year-over-year income tax rate comparison.

In terms of sales for the second quarter, reported total sales were up 10% and our 12-week reported comparable sales for the year was up 8%. For the quarter, both total sales and comp sales were positively impacted by gas price inflation, offset a little bit by the slight weakening of foreign net currencies relative to the U.S. dollar year-over-year. On a comp basis, the 8% U.S. sales increase reported in Q2, excluding gas inflation, would have been 7%. The reported 8% international comp figure, assuming flat year-over-year FX rates, would have been plus 10% and total company comps reported again at 8% for the quarter, excluding both the gas inflation and FX, would have been plus 7% for the company. And this plus 7% quarterly comp sales increase figure, it's the same level of increase achieved in each of the past 3 fiscal quarters, again on a normalized basis, including the effects of gas pricing and FX.

In terms of sales for the 4-week month of February, it's pretty similar to the quarter. Excluding gas inflation, the 8% reported U.S. comp was 7%; the 8% international comp was plus 9% in local currency and excluding both of those, total company reported comp of 8% would have been a plus 7%.

Other topics of interest are opening activities. After opening 4 new locations in the Q1, which ended last November 20, one each in Pennsylvania, Texas, Wisconsin and Georgia, we opened 2 new locations in the second quarter, both in Japan, one in Yawata, near Osaka; and one in Zama, near Tokyo. Since Q2 end, on February 12, we opened last week one new location in Kobe, near Osaka, Japan. And also, last week, we reopened our Tamasakai warehouse in Japan. This had been closed since the tragic earthquake last March 11. All told, that would put our fiscal 2012 expected opening schedule at 17 net new units, the 8 we have opened fiscal year-to-date and 9 more to open by fiscal year end. And these 17 consist of 10 in the U.S., 1 in Canada, 2 in Korea and 4 in Japan. With the opening last week, the 2 openings last week, we now operate 600 locations around the world. I'll also touch on costco.com, membership results, additional discussion about margins and SG&A and our recent stock repurchase activities.

So on to the results. Sales for the quarter were $22.5 billion, up 10% from last year's $20.4 billion. Again on a reported comp basis, Q2 sales were reported at plus 8% and plus 7%, what I’ll call normalized after excluding gas and FX. For the quarter, our 8% reported comp figure was a result of a combination of the average transaction size of plus 2.4% and an average frequency increase of plus 5.2%. The frequency trend during the past 3 months of December, January and February was plus 5%, plus 5.5% and plus 5.3% and, again, for the 12-week quarter it was plus 5.2%.

We're now going into our fourth calendar year of year-over-year frequency increases over 4%, and that, of course, is after years of frequency increased figures generally in the 0% to plus 2% range.

For the February reporting month, much like the quarterly comp figures, our plus 8% recorded comp was a combination of an average transaction increase of 2.9%. It's a little higher than the 2.4% for the quarter overall and an average frequency increase of 5.3%. In terms of sales comparisons by geographic region, our first for the quarter, in the U.S., the Midwest, Northeast and Southeast regions were the strongest. Overall, U.S. was very similar to the total company. Internationally, in local currencies, we had the same comp percent increase, about 10%, as the 10% in our prior 2 fiscal quarters, both Q4 of last year and Q1 of 2012, what I'll say is in local currencies international comp was also 10%.

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