If investors can identify great opportunities, the rewards could be unbelievable. That's true when owning stocks for the very long term, as uninterrupted compounding can work its magic.
Few businesses have done this better than Costco (COST -0.41%). In the past two years, the warehouse club operator has generated a total return of 2,730% (as of Jan. 16). Putting $1,000 into shares back then would be worth over $28,000 today.
After such a phenomenal return since January 2005, is it too late to buy this top retail stock now?
Retail powerhouse
Costco's success over the years is impressive. The business today is undeniably a retail powerhouse, raking in a whopping $250 billion in net sales in fiscal 2024 (ended Sept. 1). Only Walmart and Amazon are bigger retailers.
That scale provides Costco with cost advantages. The company's warehouses typically carry 4,000 different stock-keeping units, while other supermarkets sell about 30,000. This means that Costco is buying massive quantities of a limited number of goods, which gives it bargaining power with its suppliers. These vendors have no choice but to play ball. Otherwise, they will lose a huge revenue generator.
It creates a positive feedback loop. Higher merchandise sales result in more buying power and negotiating leverage over suppliers, which lead to low costs and ongoing savings for shoppers who are then inclined to spend more money at Costco. This supports the company's strong competitive position.
Customer focus
Management's top focus hasn't changed at all. Selling quality merchandise at extremely low prices was the priority 20 years ago. And it's true today. The beauty of this business model is that Costco benefits from durable demand trends, making it resilient to economic pressures.
In the last five years, there's been a global pandemic, supply chain bottlenecks, surging inflation, and rapidly rising interest rates. What's more, geopolitical tension and political uncertainty seem to always be concerns.
However, this didn't prevent Costco from thriving. Revenue increased 67% between fiscal 2019 and fiscal 2024. And Wall Street analysts see the top line rising 22% over the next three years, a slower but still healthy outlook.
The ability to be successful no matter what's going on with the macropicture certainly reduces risk for shareholders, as there is almost no reason to worry that Costco's demand will ever take a hit.
Best course of action
In the past two decades, the S&P 500 has generated a total return of 642%. Costco's gain is four times greater. Clearly, the retailer's longtime shareholders have gotten very wealthy.
It's critical to view the stock with a fresh perspective today. In particular, the valuation deserves a closer look. Shares trade at a price-to-earnings (P/E) ratio of 54.2, close to the highest level ever.
Viewed through any lens, this valuation is extremely expensive. Investors should prioritize having a margin of safety before buying a stock, as it provides a cushion in case your analysis about a business and its trajectory are off. It's easy to argue that Costco doesn't fit the bill, making it a very risky stock to buy right now, no matter how high quality the company is.
In my opinion, it is too late to buy Costco stock. The returns going forward aren't going to come close to resembling what was achieved in the past. That's especially true given the current valuation, which implies monster earnings growth in the future, something I don't believe will happen.
But not all hope is lost. Here's where having patience is valuable. Investors should follow the company and wait for a meaningful pullback. Perhaps if shares get to a P/E ratio of 30 or below, then they're a no-brainer buy. It's anyone's guess if this will ever happen, though.
