DBRS Changes Trend on Costco Wholesale Corporation to Positive from Stable; Confirms Costco’s Issuer Rating, Senior Unsecured Debt Rating and Short-Term Issuer Rating at A (high), R-1 (low)

DBRS Limited (DBRS) changed the trend on Costco Wholesale Corporation’s (Costco or the Company) Issuer Rating, Senior Unsecured Debt and Short-Term Issuer Rating to Positive from Stable and confirmed the ratings at A (high) and R-1 (low), respectively.

The trend change reflects strengthening in the Company’s earnings profile over the last few years, underpinned by the growth rate of Costco’s business and membership model, which are proving to be better than expected within the context of dynamic retail sector, particularly as it relates to industry shift towards e-commerce. The ratings continue to be supported by the Company’s large size, strong market position, relative resilience to economic cycles and the annuity-like benefits of its membership model. The ratings also continue to consider Costco’s exposure to intensifying competition in the retail industry and risks associated with geographic expansion.

Costco’s earnings profile continued to strengthen during the last 12 months ended May 12, 2019 (LTM F2019). Improvement in the earnings profile continues to be driven by exceptional revenue and EBITDA growth. Revenues grew to approximately $150 billion during the LTM F2019 from $142 billion during F2018 and EBITDA margins remained relatively stable at 4.1% during the LTM F2019. As such, EBITDA increased to $6.2 billion in the LTM F2019 from $5.9 billion in F2018. Costco’s financial profile remained strong, primarily driven by EBITDA growth, while the Company’s debt level has remained relatively steady and its financial profile continues to be supported by its free cash flow generating capacity and balanced capital allocation. The Company’s credit metrics improved modestly with lease-adjusted debt-to-EBITDAR decreasing to 1.23 times (x) in the LTM F2019 from 1.29x in F2018.

Going forward, DBRS believes Costco’s earnings profile will continue to benefit from solid comparable net sales growth, new store openings and higher membership revenues. DBRS expects revenue growth in the mid-to-high single digits in the near term to reach approximately $160 billion by F2020, driven by mid-single-digit comparable sales growth and low-20s net new warehouse openings. DBRS expects management to maintain EBITDA margins at approximately 4%. As a result, DBRS expects EBITDA to reach $6.5 billion by F2020. Given Costco’s improved earnings profile, maintaining relatively stable operating results in the following two to three quarters would be sufficient for a further positive rating action. In terms of financial profile, DBRS expects Costco’s practice of intermittent debt-financed special shareholder returns to continue over time. That said, while this undertaking constrained the ratings in the past, DBRS notes that the special shareholder returns does not by itself prohibit an upgrade because it has become a consistent financial management practice and, more importantly, it comes from a position of stronger earnings profile. Should Costco maintain relatively stable operating performance after taking into account the debt-funded shareholder returns, a rating upgrade to AA (low) would likely result. The revision of the trend to Stable from Positive could be influenced by weaker-than-expected operating performance and/or more aggressive financial management for debt-financed shareholder returns such that lease-adjusted debt-to-EBITDA increase towards 2.0x for a sustained period of time.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is Rating Companies in the Merchandising Industry, which can be found on dbrs.com under Methodologies & Criteria.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at info@dbrs.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

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