Costco is a bona fide billionaire maker, but another stock with a lifetime return of 193,000% isn’t done yet.
The late Charlie Munger was a world-class investor. Warren Buffett’s right-hand man had an affinity for Costco Wholesale. Costco Wholesale has made countless investors rich with a simple business model that revolves around charging customers membership fees to shop at their favorite stores.
Stock prices haven’t slowed down much either. Over the past 10 years, the company’s stock has returned more than 570%, more than double the return of the S&P 500.
So I say this with the utmost respect. You can do better.
E-commerce giant Amazon (AMZN 1.29%) has performed much better than in the past, with gains of an astounding 193,000% since going public in 1997 and 1,200% over the past 10 years. Not only is the company up, but the company is in a better position. It will continue to outperform Costco over the next 10 years.
Here’s why Amazon is a great retail stock to own.
Why is Costco slowing down…
Costco is a world-class company, but our inventory isn’t perfect. The company is one of the world’s largest retailers, with 76.2 million paid members and $254 billion in annual revenue. The business operates on razor-thin profit margins, as low prices are part of the appeal for shoppers. In fact, most of the company’s profits come from the membership fees it charges for shopping in its stores.
Therefore, revenue growth is tied in part to how quickly you can expand your membership base. It could raise fees, but the company doesn’t like that. Management just raised fees for the first time in seven years in September. Costco’s number of paying customers increased 7.3% year-over-year in the most recent quarter. Over the long term, analysts expect Costco’s revenue to grow by an average of 9.3% per year.
COST PER Ratio (Forward) data by YCharts. EPS = Earnings per share.
Not a lot of growth for a stock whose price-to-earnings ratio (P/E) has increased to 50x. Costco is great, but I’m skeptical that the stock can maintain its valuation. A reasonable price-to-earnings ratio (PEG) for a blue-chip stock might be around 2 to 2.5. Costco price today is 5.4. In such cases, the stock price could plummet or remain flat until the company catches up with the stock price.
…and why doesn’t Amazon do that?
Amazon’s retail business is like Costco’s online twin. It also supports thin profit margins. Like Costco, the company monetizes its retail business through paid memberships. You don’t need to be a Prime member to shop on Amazon, but its perks have led more than 200 million members to join.
However, there are significant differences in Amazon’s inventory. The company trades at a forward P/E ratio of just under 40 times, but analysts expect the company to be able to grow earnings by more than 22% annually over the long term. This is a PEG of 1.8, which is well within the reasonable range outlined above.
Even if earnings growth was a more modest 16% given the uncertainty, the PEG ratio would be just 2.5, which isn’t surprising for a growing company.
AMZN PE Ratio (Forward); Data by YCharts.
Costco is growing slower than Amazon, but its stock is more expensive. This situation probably won’t last forever, which is why Amazon is a better stock in the future.
Long-term prospects look attractive
It’s worth asking why Amazon is growing so much faster than Costco. The answer boils down to two reasons.
First, Amazon is America’s largest online retailer by a mile. The company owns about 40% of US e-commerce. Consumers are increasingly shopping online. Approximately 16% of retail business is now online, up from 4.2% in 2010. If this percentage increases, the company will naturally benefit from it and grow along with the trend.
Second, Amazon is expanding its business beyond retail. The company’s cloud platform, Amazon Web Services, has become the global market leader in cloud computing and, like e-commerce, is positioned to enjoy long-term industry growth tailwinds. More and more businesses are moving to the cloud, and the advent of artificial intelligence (AI) will only accelerate this trend. This falls short of Amazon’s fast-growing businesses, media and advertising.
The company has probably made more people millionaires than any other stock over the past 30 years. Surprisingly, there still seems to be plenty left in the tank. Costco isn’t bad, but Amazon is a better buy, and it doesn’t come close.
John Mackey, former CEO of Amazon subsidiary Whole Foods Market, is a member of the Motley Fool’s board of directors. Justin Pope has no position in any stocks mentioned. The Motley Fool has positions in and recommends Amazon and Costco Wholesale. The Motley Fool has a disclosure policy.
