Comprehensive Analysis

December 3, 2014

Financial Analysis
of
Costco Wholesale Corporation

Alex Gao
Business 1A
Financial Accounting
December 3, 2014

Comprehensive Analysis

December 3, 2014

Requirement 1:
Section 1.1
Introduction to Costco Wholesale Corp.
This financial analysis is to study the profitability and general health of the business, Costco
Wholesale, over the period of 2010 to 2014 (latest fiscal reports). Costco Wholesale is a general
merchant whose motto is, we aim to Keep costs down and pass the savings on to our members. Our
large membership base and tremendous buying power, combined with our never-ending quest for
efficiency, result in the best possible prices for our members.
Main Competitors
Costco's main competitors, at the present time, are Target and Wal-Mart, according to
Hoovers.com, with BJ's wholesale trailing not far behind.
Business Factors:
Costco operates by maintaining warehouses for Costco members on the basis that they bring
low prices on a limited selection of nationally branded and private-label products in a wide range of
merchandise categories will produce high sales volumes and rapid inventory turnover.
With their high inventory turnover numbers, Costco usually manages to sell off purchased
inventory before it is time to pay back the vendors and merchants. Costco also takes advantage of early
payment discounts and finances a large percentage of their inventory through payment terms provided
by their suppliers. By strictly controlling the entrances and exits of our warehouses and using a
membership format, Costco has limited inventory losses to less than two-tenths of one percent of net
sales in the last several fiscal years.
Risk Factors:
With competition from Target and Wal-Mart, Costco faces the challenge of strong competition
from other companies, which would adversely affect their profit margins and financial performance.
Being a large business in an area where other large corporations reside, there is always an ongoing
battle for resources, services, and products.
Also, internal/external factors are considered risk factors, as changing interest rates, higher
taxes, and changes in the economic status of various areas will cause products to change in price
periodically, based on the market.
Finally, Costco, as a business, is ever-growing, and in order to do so, they need to purchase the
right to build new warehouses and retailers in new areas, something that they must compete with other
companies for the right to do. Failure to secure new locations may have adverse effects on Costco as a
whole.
Costco Brands:
Costco has one store brand, known as Kirkland Signature. But apart from that, no other
brands are attributable to Costco.
Other Information:
1. Costco's largest asset is their inventory, which they turn over at an extremely fast rate.
On the other hand, their largest liability seems to be their notes/accounts payable
(borrowed money), which holds a substantial percentage of their current liabilities.
2. As of June 5, 2014, Costco has 100,000,000 authorized preferred stocks, with none
issued or outstanding, and 900,000,000 authorized common stocks, with 438,582,000
issued and 436,839,000 stocks outstanding.
3. For the fiscal year ending June 5, 2014, Costco has repurchased $171 million of
common stock back from their investors.

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December 3, 2014

4. Revenue reporting:
1. Excerpt taken from Costco's 2009 10k.
We generally recognize sales, net of estimated returns, at the time the member takes possession
of merchandise or receives services. When we collect payment from customers prior to the transfer of
ownership of merchandise or the performance of services, the amount received is generally recorded as
deferred revenue on the consolidated balance sheets until the sale or service is completed. We provide
for estimated sales returns based on historical trends in merchandise returns. Amounts collected from
members, which under common trade practices are referred to as sales taxes, are recorded on a net
basis.
We evaluate the criteria of the FASB Emerging Issues Task Force (EITF) 99-19, Reporting
Revenue Gross as a Principal Versus Net as an Agent, in determining whether it is appropriate to
record the gross amount of merchandise sales and related costs or the net amount earned as
commissions. Generally, when we are the primary obligor, subject to inventory risk, have latitude in
establishing prices and selecting suppliers, influence product or service specifications, or have several
but not all of these indicators, revenue is recorded on a gross basis. If we are not the primary obligor
and do not possess other indicators of gross reporting as noted above, we record the net amounts as
commissions earned, which is reflected in net sales.
Membership fee revenue represents annual membership fees paid by substantially all of our
members. We account for membership fee revenue on a deferred basis, whereby revenue is recognized
ratably over the one-year membership period.
Our Executive members qualify for a 2% reward (which can be redeemed only at Costco
warehouses), up to a maximum of $500 per year, on all qualified purchases made at Costco. We
account for this 2% reward as a reduction in sales, with the related liability being classified within other
current liabilities. The sales reduction and corresponding liability are computed after giving effect to
the estimated impact of non-redemptions based on historical data.
5. Inventory reporting:
1. Excerpt taken from Costco's 2009 10k forms.
Merchandise inventories are valued at the lower of cost or market, as determined primarily by
the retail inventory method of accounting, and are stated using the last-in, first-out (LIFO) method for
substantially all U.S. merchandise inventories. Merchandise inventories for all other foreign operations
are primarily valued by the retail inventory method of accounting and are stated using the first-in, firstout (FIFO) method. We believe the LIFO method more fairly presents the results of operations by more
closely matching current costs with current revenues. We record an adjustment each quarter, if
necessary, for the expected annual effect of inflation, and these estimates are adjusted to actual results
determined at year-end. At the end of 2008, due to overall net inflationary trends, merchandise
inventories valued at LIFO were lower than the FIFO value, resulting in a $32 charge to merchandise
costs. During 2009, due to overall deflationary trends, we recorded a $32 benefit to merchandise costs
to adjust inventories valued at LIFO. At the end of 2009 and 2007, merchandise inventories valued at
LIFO approximated FIFO after considering the lower of cost or market principle.
We provide for estimated inventory losses between physical inventory counts as a percentage of
net sales. The provision is adjusted periodically to reflect results of the actual physical inventory
counts, which generally occur in the second and fourth quarters of the year.

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Inventory cost, where appropriate, is reduced by estimates of vendor rebates when earned or as
we progress toward earning those rebates, provided they are probable and reasonably estimable. Other
consideration received from vendors is generally recorded as a reduction of merchandise costs upon
completion of contractual milestones, terms of agreement, or other systematic and rational
approaches.
6. The most recent filing for bad debt expenses was in 2012, with a bad debt/account
expense of $2 million. Information regarding the bad debt expenses for the years 20132014 were not found.
7. As of August 29, 2014, Costco has warehouses across the world, including, but not
limited to, the United States, the United Kingdom, Canada, and Mexico. The
information regarding the number of warehouses Costco owns and manages in each
country is provided on their Company profile.
Section 1.2
Brief History
The company's first location, opened in 1976 under the Price Club name, was in a converted
airplane hangar on Morena Boulevard in San Diego. Originally serving only small businesses, the
company found it could achieve far greater buying clout by also serving a selected audience of nonbusiness members. With that change, the growth of the warehouse club industry was off and running.
In 1983, the first Costco warehouse location was opened in Seattle. Costco became the first company
ever to grow from zero to $3 billion in sales in less than six years. When Costco and Price Club merged
in 1993, the combined company, operating under the name PriceCostco, had 206 locations generating
$16 billion in annual sales.
Our operating philosophy has been simple. Keep costs down and pass the savings on to our
members. Our large membership base and tremendous buying power, combined with our never-ending
quest for efficiency, result in the best possible prices for our members. Since resuming the Costco name
in 1997, the company has grown worldwide with total sales in recent fiscal years exceeding $64
billion. [1]
Section 1.3
Time line of Recent, Significant Events (2010-2014)
Board of Directors:
Jeffrey H. Brotman
Chairman of the Board
Dr. Benjamin S. Carson,Sr.
Director

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December 3, 2014

Susan Decker
Director
Daniel J. Evans
Director
Richard A. Galanti
Executive Vice President, Chief Financial Officer and Director
William H. Gates, Sr.
Director (Recently retired from the board)
Hamilton E. James
Lead Independent Director
W. Craig Jelinek
President, CEO and Director
Richard M. Libenson
Director
John W. Meisenbach
Director
Charles T. Munger
Director
Jeff Raikes
Director
Jill S. Ruckelshaus
Director
James D. Sinegal
Co-Founder and Director
Section 1.4
Mission Statement
"Costco's mission is to continually provide our members with quality goods and services at the

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December 3, 2014

lowest possible prices. In order to achieve our mission we will conduct our business with the following
Code of Ethics in mind:
Obey the law
Take care of our members
Take care of our employees
Respect our vendors
If we do these four things throughout our organization, then we will realize our ultimate goal,
which is to reward our shareholders."
Section 2 Financial Analyses
Requirement 2:
1.1.1.

Rate of return on sales

Return on sales
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

1.80%

2.00%

1.76%

1.68%

1.71%

Costco has a decent rate of sales, but not very high, as their yearly returns are under 3%. However, their
returns are very stable, with little to no fluctuations over the past few years, indicating a steady source of income
and growth.
1.1.2.

Asset Turnover
Asset Turnover
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

3.41

3.47

3.65

3.32

3.27

Costco holds very good asset turnover ratios, earning over three dollars in revenues for each dollar in
assets. The pattern dips slightly from 2013-2014, but the change is not significant, and shows a stable rate of
asset turnovers.
1.1.3.

Return on Assets
(Note: Becareful to use the correct sign (+/-) when calculating. If you are in doubt see
instructor)
Return on assets
Costco Corp.

1.1.4.

Year 2014

Year 2013

0.06

0.07

Year 2014
2.73

Year2012

Year 2011

Year 2010

0.06

0.06

0.06

Year 2013

Year2012

Year 2011

Year 2010

2.44

2.15

2.15

2.18

Leverage Ratio
Leverage Ratio
Costco Corp.

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1.1.5.

Return on Equity (DuPont)

Return on Equity
Costco Corp.

1.1.6.

December 3, 2014

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

0.16

0.17

0.13

0.13

0.13

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

12.59%

10.62%

10.55%

12.57%

10.83%

Gross Margin
Gross Margin
Costco Corp.

Costco's gross margin is decent, with a minimum of 10% gains over the past 5 years. Fluctuations of 2%
or s seem to occur every now and again, but their margin always stabilizes to 10-12%.
1.1.7.

Book Value per Share

Book Value per Share

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

Costco Corp.
$1.08
$1.05
$3.94
$3.35
$2.97
Costco's book value per share dropped significantly from 2012-2013. There are signs that suggest a
steady rise of the share prices, but caution may be advised when considering investing.
Requirement 3:
1.1.8.

Inventory Turnover ratio

(Note: Use the 365 days divided by Inventory Turnover Ratio)
(Note: Must Calculate Average Inventory: Research the formula then as instructor)
Inventory Turnover
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

11.64

11.65

12.24

11.71

12.06

Costco has an extraordinarily fast rate of inventory turnover. It takes them on average (over the past 5
years), 11.86 days to sell the inventory they have bought. This fast rate of sale allows them to collect cash and
pay off debts to creditors and suppliers in a timely fashion.
1.1.9.

Receivables Turnover
(365/Accounts Receivable Turnover)
(Amounts in days)
Receivables Turnover
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

5.6

5.72

3.74

3.88

4.11

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December 3, 2014

Costco has a fast receivable turnover rate, similar to their inventory turnover rate.
1.1.10. Cash Conversion Cycle
DSO + DIO + DPO = CCC
Cash Conversion
Cycle
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

60

59.35

46.21

47.36

46.34

Costco seems to be able to convert their assets to cash relatively quickly, due to their high rate of asset
(inventory) turnover, among other things.

1.1.11. Acid Ratio

Acid Ratio
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

0.59

0.55

0.48

0.55

0.56

Costco has quite a low acid ratio ((cash + ST investments + Accounts Receivable)/Current Liabilities).
This could be because Costco does not hold very many short-term investments, and their accounts receivable are
not as large as their cash and inventory accounts, where most of their assets lie.
1.1.12. Current Ratio
Current Ratio
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

1.22

1.19

1.1

1.14

1.64

Costco has a quite mild ratio of current assets to liabilities. They are always able to pay off their
liabilities, but they do not make much extra on top of that, possibly leading to slower growth of the company.
1.1.13. Debt Ratio
Debt Ratio
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

0.62

0.64

0.54

0.53

0.54

1.1.14. Coverage Ratio (or Times Interest Earned Ratio)

Coverage Ratio
Costco Corp.

Year 2014

Year 2013

Year2012

Year 2011

Year 2010

28.29

30.82

29.13

20.54

18.5

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December 3, 2014

Costco's coverage ratio is quite good. For every dollar of income expense that Costco pays, it makes
roughly $25.46 in income (before expenses).
Requirement 4:
Cash flows:
Costco's main cash flows for the year of 2014 comes from their Operating activities. Their
Investing and Financing activities have all used money and not made any. However, in 2013,
Operating and Financing activties both had positive incomes.
Costco's operating income is far greater than their net income. The majority difference lies in the
payments for the cost of goods, and various administrative expenses.
In Costco's investing activities, the maturities and sale of short-term investments makes up the
majority of the revenue. The same is for every year prior.
For the year of 2014, the repurchasing of common stock was the leading income for the
financing activities of Costco. However, in 2013, it was the proceeds from short-term
borrowings that made up the bulk of income from Costco's financing activities.
Conclusion of Cash Flows:
From the information gathered from Costco's Cash Flows from 2010-2014, their operating
activities seems to generate the most income, with financing coming second. Costco's investing
activities seem to generate a loss a good portion of the time, though the costs are covered by
income from the other two cash flows.
Requirement 5:
Common Size Percentages:
1 Sales
Sales
2014
2014CS
2013
2013CS
2012
2012CS

2 Gross Profit
Gross Profit
2014

3 Operating Income
Operating
2014
Income
Merchandise
Costs
Selling,
general,
administrative
Preopening
expenses

2014CS

2013

2013CS

2012

2012CS

2014CS

2013

2013CS

2012

2012CS

Comprehensive Analysis
Operating
737
Income
4 Net Income
Net Income
2014

December 3, 2014
722

2014CS

2013

2013CS

2012

2012CS

5 Trend Percentages:

Section 6:
Final Summary:
This concludes the summary of Costco Corporation's financial statements and business prosepects for
the years 2010 to 2014. Based on information gained from this summary, it is in my opinion that Costco Corp. is,
and will continue to be a very stable, but fast growing company among mass retailers. Their returns are quite
steady and only a few drops have occured, likely due to the recession and other complications from 3-5 years
ago. However, starting from 2013, their assets and ratios have continued to climb at a slow, but steady rate.
I would recommend being cautious about buying stocks or investing in Costco Corp, but also to hold
stocks and investments currently in Costco, as the company does not seem to be in any financial trouble. All in
all, Costco seems to be a very steady investment worth looking into.

Alex Gao
12/10/2014

End note (For Ursinus College): This was given as an extra credit assignment for Financial Accounting.
We were given less than a week and the option to group up to finish this. I chose to work alone, juggling
other finals, to see just how far I could make it.

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December 3, 2014

Sources:

http://www.wikinvest.com/stock/Costco_Wholesale_%28COST%29/Revenue_Recognition
http://www.wikinvest.com/stock/Costco_Wholesale_%28COST%29/Merchandise_Inventories
http://www.marketwatch.com/investing/stock/cost/financials/balance-sheet
http://phx.corporate-ir.net/phoenix.zhtml?c=83830&p=irol-homeprofile
http://www.edgar-online.com/ (For all 10k forms 2010-2014)