Will 2017 Be Costco Wholesale Corporation's Best Year Yet?

By Daniel B. Kline Markets Fool.com

Deciding whether Costco (NASDAQ: COST) had a good 2016depends a lot on how you interpret success.

Continue Reading Below

The company grew sales, added members, and successfully transitioned its credit card from longtime provider American Express (NYSE: AXP) to Visa (NYSE: V). The warehouse club did all that while continuing to prove resilient in the face of online competition. While other brick-and-mortar retailers struggled, Costco held its own and grew a little bit.

On the other hand, investors clearly didn't see 2016 as an up year for the company. As my Fool colleague Jeremy Bowman noted in a recent article, shares in the company fell by 0.9%, dramatically underperforming the S&P 500, which gained 9.5% in 2016.

Still, while the market didn't reward the company for it, it's hard to paint Costco's 2016 as a down year. It closed its fiscal 2016 with 3% higher sales in United States comparable stores and 4% higher globally, once you factor out the negative impact of gasoline price deflation and foreign exchange. Net income did drop slightly for fiscal 2016, coming in at $2.35 billion, or $5.33 per diluted share, compared with $2.38 billion, or $5.37 per diluted share, in fiscal 2015.

That's a small dip in a year when other retailers were affected deeply by changing market conditions. And despite the negative stock performance of 2016, Costco's increase in members despite the credit card turmoil suggests that 2016 might have set the stage for a very solid 2017.

Costco keeps luring customers to its stores despite growing online competition. Image source: The Motley. Fool.

Continue Reading Below

What to expect from Costco in 2017?

The company has mostly moved past the Visa/American Express switch, according to CFO Richard Galanti in the company's Q1 2017 earnings call, which was transcribed by Seeking Alpha (registration required). He noted that when the company made a similar switch in Canada about two years ago, there was a slight decline in renewal rates at first, which eventually reversed itself.

"We are now seeing the same thing in the U.S.," he said, adding that renewal rates "had ticked down a little bit over the last couple of quarters and have ticked down a little bit as well in Q1. We don't see any issues there at this point."

Given that history, it's likely that renewal rates will be down a bit through 2017, but they company should be able to make up for that lost revenue by continuing to convert customers to Executive Memberships, which cost $110 instead of $55 for the basic version. It's also possible, even likely given past patterns, that Costco will raise its membership price in the U.S., something it generally does once every five years, which would fall in 2017.

In addition, Costco may turn its attention to growing its digital business in 2017. The company had single-digit growth for the quarter, but Galanti pointed out that "over the past three weeks, and that would include the last week of Q1, which is the Thanksgiving week, and the first two weeks of our second fiscal quarter, e-com sales were up in the low to mid teens, including some results for both Black Friday and Cyber Monday."

That's a good sign for a business segment that the company has generally paid limited attention to. In 2017, the CFO said the company intends to improve its digital offering in a number of ways.

"We are improving our search that we have and are continuing to do that," he said. "We have shortened the checkout process from many clicks to two, and so a big improvement recognizing this is new for us. We are simplifying and automating our returns process, a much better experience particularly on big-ticket items, and we have seen great improvement in that in the last several weeks, and we are improving our members' ability to track their orders."

Will 2017 be Costco's best year yet?

While the switch from American Express to Visa has been going according to plan, it's going to be a mixed bag in 2017. The new card offers better rewards for customers, which should drive sales, and Costco has a better deal with Visa than it did with American Express, according to Galanti. Those pluses, however, will be mitigated by the slight downtick in renewal rates the CFO said to expect.

There's no reason to believe sales will grow or fall significantly, and membership growth should continue -- probably with a shot in the arm from a U.S. price increase. In addition, it's possible that focusing on growing digital sales could provide the company a boost, but it's also possible that some of that growth will come at the expense of in-store sales.

While 2017 has some positive momentum for Costco, it appears likely that this will be a transitional year where the company finishes feeling the impact of the credit card switch and a possible price increase. It's likely that the company will continue its slow and steady trajectory, perhaps with the market acknowledging that strength in the face of other retailers' struggles.

It's hard to say that this will be Costco's best year yet. Instead, it's fair to say it will be a strong year where the company continues to lay a foundation that might give its 2018 a shot at the "best year yet" title.

10 stocks we like better than Costco Wholesale
When investing geniuses David and Tom Gardner have a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*

David and Tom just revealed what they believe are the 10 best stocks for investors to buy right now... and Costco Wholesale wasn't one of them! That's right -- they think these 10 stocks are even better buys.

Click here to learn about these picks!

*Stock Advisor returns as of January 4, 2017

Daniel Kline has no position in any stocks mentioned. He does not understand who buys the giant Teddy Bear. The Motley Fool owns shares of and recommends Costco Wholesale and Visa. The Motley Fool recommends American Express. The Motley Fool has a disclosure policy.