Retailer Matchup: Which Stocks To Buy...

David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

If you are bullish on the macroeconomy, it makes sense to back retailers--the direct beneficiary of greater consumer expenditures. However, there are a variety of different stocks to consider--some have strong stability where others have strong growth, others have an aggressive corporate strategy where others have a reserved one. Below, I review several stocks that you should consider in the retail sector.

Why You Should Buy Costco (NASDAQ: COST)?

Costco has been witnessing dramatic growth in recent years, and it is set to accelerate this growth. Although it may not be the largest retailer in the U.S (it ranks fifth), it currently has the biggest membership warehouse club. Its revenue was estimated to be $99.1 billion in FY2012 with 618 warehouses globally. It is also planning to open new stores and an outlet in Korea.

The retailer has also seen steady growth. EPS has grown by a rate of 10.4% over the past 5 years, and it is forecasted for double-digit growth in the years ahead. Going forward, most of the competition will come peers like BJ’s Wholesale Club and Sam’s Club. And retail has broadened in a way that threatens Costco's middle-market demographic: pharmacies and eyesore centers have been added to several large retailers. But Costco has focused more on location, and it is looking to create an urban presence. It has done this through targeting mall space in densely populated areas, which will drive long-term volume growth. Costco’s top-line growth has outpaced Wal-Mart and Target (NYSE: TGT) in recent years, so this should add to a multiple premium. There has also been a notable increase in the revenue generated from membership increases.

<img src="/media/images/user_13548/screen-shot-2013-01-03-at-60447-am_large.png" />

 Revenue (ttm) growth - Ycharts.com

 But Wal-Mart (NYSE: WMT) is Even Safer

What is it about Wal-Mart that attracts big names such as Warren Buffett into investing? One reason is rooted in its stable economic moat: Wal-Mart has a diverse global reach and roughly half of sales are sourced outside the United States, possibly in favorable tax jurisdictions. An aggressively price strategy is likely to help Wal-Mart further increase market share, especially with management's newfound interest in targeting mobile shoppers. Wal-Mart is also looking to maximize returns rather than concentrate on increasing its square footage. But the decision to close some 100 stores in China is disconcerting--it signals struggles in emerging markets.

Based on market capitalization and sales, Wal-Mart has been ranked third globally, according to Forbes.com. A very effective strategy that Wal-Mart has been using to expand its reach comes through takeover activity. Since 2010, it has acquired Massmart in South Africa, Netto Food Stores Ltd in U.K, and Bounteous Company in China. The acquisition strategy is still in use, and it is expected that Wal-Mart will be able to acquire more property in the future.

Unfortunately, growth has come with regulatory setbacks. Wal-Mart has been, however, accused of bribing government officials in Mexico. The purpose of the bribe was to change the city map, which had restricted growth to certain areas, to accommodate Wal-Mart’s expansion plans. Wal-Mart is also alleged to have used $25 million bribe to find its way into India where Foreign Direct Investments are not allowed in the supermarket sector. In a report released by Wal-Mart, practices of bribery seemed to have spread to Brazil, China, and India. Wal-Mart noted that what was going on was serious--an attempt, many commentators believe, to limit the effect of regulatory punishment. In the United States, companies are not allowed to bribe foreign officials. Wal-Mart is currently looking in to the matter, and the ongoing investigations and the need to inform shareholders have demonstrated a step towards transparency.

In terms of value, Wal-Mart also looks relatively attractive for its stability and strong economic moat. It trades at a respective 14.3x and 12.9x past and forward earnings versus 25.2x and 20.3x for Costco. However, Target, which is the second biggest retailer, trades even cheaper at 13x past earnings. And Target is also forecasted for a 300 bps sharper growth rate over the next 5 years at 12.4%. For this reason, I recommend a joint investment in Wal-Mart and Target for growth and stability.

 


TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of Costco Wholesale. Motley Fool newsletter services recommend Costco Wholesale. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. This article was written by the staff of TakeoverAnalyst, which does not intend on opening a position in the next 48 hours.

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