Costco Wholesale Corp (COST) — Q4 2016 Earnings Call Transcript

Thank you, Amanda and good afternoon to everyone. As you know, these discussions will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements involve risks and uncertainties that may cause actual events, results and/or performance to differ materially from those indicated by such statements. The risks and uncertainties include, but are not limited to, those outlined in today’s call as well as other risks identified from time-to-time in the company’s public statements and reports filed with the SEC. Forward-looking statements speak only as of the date they are made and we do not undertake to update these statements except as required by law. Today, we reported our fourth quarter and year-to-date fiscal ‘16 operating results for the 16 and 52-week periods ended this past August 28. For the quarter, earnings came in at $1.77 a share, up 2% or $0.04 over last year’s fourth quarter earnings of $1.73 a share. In comparing the year-over-year fourth quarter earnings results, a couple of items of note in looking at the comparison: FX as compared to a year ago during the fourth quarter, foreign currencies in the countries and other areas where we operate were weaker overall versus the U.S. dollar, primarily in Mexico, Canada, UK and Korea, resulting in foreign earnings in Q4 when converted into U.S. dollars being lower by about $13 million after tax or $0.03 a share and exchange rates being flat year-over-year. Gasoline profitability: Our profits from gasoline during the quarter as compared to last year’s fourth quarter were lower by about $27 million pre-tax or $0.04 a share, primarily due to last year’s very strong profit results in the fourth quarter. Our numbers were fine this quarter, but we did pretty well last year as well. IT modernization had about a $0.02 year-over-year impact. I can go for the detail on that, but that was about $60 million pre-tax or 4 basis points to the SG&A line. Income taxes: Both this year and last year’s fourth quarter results had several net positive tax benefits that in aggregate benefited each of the fourth quarter’s earnings per share figures by $0.05. Excluding those positive tax items, this year’s underlying Q4 tax rate was about 0.06% of a percentage point higher than last year’s. That would have been about $0.02 a share, but again, year-over-year in the quarter, each of those fiscal quarters benefited by about $0.05 a share from positive items. LIFO: this year in the fourth quarter, we reported pre-tax LIFO credit of $31 million. That compares to last year in the fourth quarter of $14 million, showing both deflationary indications, although we have talked about the increased levels of deflation in recent times. So at the year-over-year delta of $17 million or about $0.02 a share related to a higher deflation in the LIFO credit in the quarter up by higher by that amount. In terms of sales for the fourth quarter, total reported sales were up 2%. Our 16-week reported comparable sales figures were flat year-over-year. Comparable sales were negatively impacted by gas price deflation, which was a little over 200 basis points of impact to the company and by weaker foreign currencies relative to the U.S. dollar, with the latter about 1 percentage point of impact to sales. Excluding deflation, the flat U.S. comp sales figure for the fourth quarter would have been plus 2%. The reported Canadian comp figure of plus 2% would have been plus 5% ex-gas and FX, and the reported minus 2% other international comp figure, ex these two factors, would have been plus 1%. Total comps were reported as zero for the quarter and again, excluding gas and FX, would have been plus 3%. And of course, the plus 3% adjusted figure is still being impacted by a bit of an increased general merchandise deflation outside of gasoline. Openings in Q4 included 10 new locations and also completed 1 relocation. For the fiscal year, we opened 29 net new locations. On top of that, there were 4 relocations, I believe 2 of them were relocated old units converted into new business centers. Of the 29 locations, 21 were in the U.S., 2 were in Canada, 2 were in Japan, and 1 each was in UK, Taiwan, Australia and Spain. This afternoon, I will also review with you our membership trends and renewal rates, additional discussions about margin and SG&A, talk about e-commerce and a few other items of note, including an update on our recent switch over to the new Citi Visa Anywhere card. This occurred on June 20, six weeks into the fourth quarter. So, on to the fourth quarter results. Quickly, sales for the fourth quarter were $35.7 billion, up 2% from last year’s fourth quarter sales of $35 billion, again, a flat comp on a reported basis plus 3% excluding gas deflation and FX. The flat comp sales results on a reported basis consisted of an average transaction decrease of 2.8%. Again, excluding gas and FX deflation, the average transaction was slightly positive year-over-year and an average shopping frequency increase of right around 2.5%. In terms of sales comparisons by geography, Texas, Bay Area and the Midwest regions within the United States showed the best results. Internationally in local currencies, better-performing countries were Canada, Mexico, Spain, and the UK. In terms of merchandise categories for the quarter, sales within food and sundries were overall slightly negative year-over-year in the fourth quarter. Within that, though, spirits, sundries, and deli had the best performance. Tobacco was the big negative, as we have discussed, and that was down 21% year-over-year as we continue to see lower sales in that category. In the fresh foods category, produce and deli were the strongest of the four departments. Of course, meat has had a lot of weaknesses relative to deflation. In ancillary businesses, hearing aids, pharmacy, and optical showed the best results. I had mentioned earlier we have recently seen a little pickup in the level of deflation overall. Some categories showed deflation in the low to mid-single-digits and several fresh food categories, notably meat and pork, saw deflation in the 5% to 10% range in some cases. Overall, we are seeing net increasing deflation, but not in those levels and some non-food levels as well. Moving to the line items on the income statement, membership fees saw good results for the quarter, reported at $832 million, up 9 basis points and $47 million or up 6% in dollars versus last year’s fourth quarter. The $47 million would have been up $50 million if you adjusted for FX. In terms of membership, we continue to enjoy strong renewal rates, 90% in the U.S. and Canada and 88% worldwide, with continued increasing penetration of executive memberships as well. At year-end, we had 36.8 million Gold Star members, up from 36.2 million 16 weeks earlier at the end of the third quarter. Primary business ticked up to 7.3 million from 7.2 million. Business add-ons remained at 3.5 million, totaling 47.6 million member households at Q4 end compared to 46.9 million 16 weeks earlier and including add-on cards, 86.7 million at year-end, up from 85.5 million just 16 weeks earlier. In terms of Executive Member sign-ups, we had 17.4 million out of the 47.6 million member households, an increase of 370,000 during the 16-week fourth quarter or about 23,000 a week increase. Executive Members now account for a little over a third of our base and slightly more than two-thirds of our sales. Regarding membership renewal rates, we ended the year at 90.3% in the U.S. and Canada, which is down from 90.4% at the end of Q3. Worldwide, it was 87.6%, the same as Q3 end, down from 87.7% in the previous quarter. In Canada, we saw a slight increase in renewal rates in Q4. Effective from the beginning of this month, we increased annual membership fees by about 10% in three Asian locations: Taiwan, Korea and Japan, as well as in Mexico and the UK. On an annual basis, this fee increase will add about $50 million pre-tax to the membership income line. Before continuing down the income statement line items, let me spend a minute updating you on our transition from American Express to Citi Visa in the U.S. and Puerto Rico. This transition took place on June 20, at the beginning of the seventh week into the fiscal fourth quarter. Beginning June 20, we stopped accepting American Express and now accept all Visa cards, including the new Citi Visa Anywhere card. There were a few operational glitches during the first few weeks after the cutover. We have now moved past that, and more importantly, the new card is fantastic for our members. In terms of increased cash back rewards, the estimate is about a 40% to 50% improvement in the rewards program, which is great for both our members and for driving member value and sales over the next years while lowering our effective costs of accepting credit and debit cards. With the new Citi Visa Anywhere card, 3% on gas now is 4%, 2% on restaurants and travel is now at 3%, and the previous 1% reward on all other Costco purchases has doubled to 2%. We think this is significant, especially for our executive members who earn an additional 2% on most Costco purchases. In terms of gross margin, our reported gross margin was higher year-over-year in the fourth quarter by 28 basis points, up from 11.14% a year ago to 11.42%. Operationally, we saw membership fees increase in line with our strategic growth areas. That's the big picture. I’ll touch on various topics of interest including capital expenditures for fiscal '16, which came in at about $850 million and for all of fiscal '16, we reported $2.6 billion. Our estimate for fiscal '17 CapEx is in the range of $2.6 billion to $2.8 billion, so about the same or slightly higher than last year. As for Costco, we currently operate in the United States, Canada, UK, Mexico and recently launched in Taiwan. For the fourth quarter, sales and profits were up year-over-year at 12%. For all of '16, sales reported were at 15% plus 17% ex-FX. In terms of international operations, our view remains optimistic. We are managing cannibalization well, opening new locations across regions. We have ambitious growth plans for fiscal year 17, including 31 net openings and expanded business centers. Looking forward, our focus remains on delivering quality merchandise to our members, emphasizing fresh foods and engaging with the community. Thank you for your attention, and I will turn it back to Amanda for Q&A.

Richard, so let me start with expansion. I think you said 7% in Canada, was that right?

Yes.

So, kind of – which I don’t none in recent years have you opened that many in Canada, so what sort of drove that some unique real estate opportunities? Does cannibalization pick up over the next year in Canada? And then sort of tying it back to the U.S., when you think about where you sit today, have you really done any deeper thinking about what the saturation level in the U.S. could be beyond where we sit today?

Well, first of all, in Canada, I think it’s a couple of reasons. If you think back 5 or so years ago or even 10 years ago when we had probably 65, 70 units, we thought the market might be 91 day and today we have 90 or 91 and we think that they will certainly be over 100 and we keep adding a few to that concept. I think the fact that we are opening so many right now has to do with very strong sales over the last few years. We have been enjoying 5% to 9% comps in local currency in each of the last few years up there and so the business keeps getting stronger. And just like in the U.S. and even in mature markets, we find that we can – while there will be some cannibalization, the net business that’s added when we opened a unit even though it’s cannibalizing, net of cannibalization will find that existing members will then be shopping more frequently because they are closer. And so I think it’s a combination of those things. I don’t know what the new 5 or 10-year estimate is in Canada, I don’t think we can open 7 a year, but once we decided to look and see where we are going and how strong we have been, we have been – this is the result of probably an effort that started over a year ago to put a few more in the pipeline. In terms of the U.S., I think the same story holds true. If you had asked us 5 years or so years ago, by now how many would be in the U.S. versus outside the U.S. and we would have said probably we would be down from 75% or 80% in the U.S. to 50% and heading south of there as we saturate. We found in the U.S. that we can put more units in existing markets. I think we are getting, in a couple of months, ready to open our 17th or so unit in the Puget Sound, having opened our 16th unit just less than a year ago. And the other thing of course, in the U.S. that we have perhaps up to our expectations is markets that 5 years or so years ago we didn’t think we would have any near-term interest in considering medium-sized markets where our direct competition was there. And what we found is we have done pretty well when we go to these markets. Now some of these markets are smaller, so it takes a little longer, but there is clearly an opportunity for us there and as we have gone into Tulsa and New Orleans and Birmingham and Rochester and lots of – and Toledo, these are markets that again, were higher on the radar 7 years or 8 years ago. And what we have seen is that our deal works. The last thing of course includes adding to some of the business centers. For many years we only had six or eight or so business centers. We opened four last year to be at 11 and we are planning to open four this year to be at 15 including our first business center in Canada. And so again, that just adds a few in both the Canada question and the U.S. question. It includes that opportunity on a small basis. A side on that is, I think as I have mentioned, I think two of the four relocations this year were business center openings. One in back in many of your minds when we took an older, smaller parking lot, no gas station, Hackensack Costco and relocated it to Teterboro nearby with a bigger sized unit with lots of great parking, great ingress in the U.S. and a gas station, and converted the Hackensack unit into the business center, so just a small additional benefit in terms of having a use for units as we moved some of those to bigger locations. So all that’s I think been part of it.

Alright. And then just lastly, have you sort of finalized or thought about the percentage of the Amex to Visa benefit that you are going to get, how much you keep versus providing that back to members, when you think about putting it back to members, when you think about price, labor and/or service and then maybe product development, where is the most lucrative place to reinvest and I am not – I don’t know if it would be price, but is it something like product development and pushing the envelope outlook more in Kirkland?

Well, some of those things that you threw out are possible ways to use that parts of this bucket of money. We do all of those anyway. And I think probably the best, simplest answer is that just like when we buy a physical product better lower we can buy whether it’s lower freight, greater purchasing power or greater production efficiencies or whatever we figure out with our supplier, we generally wanted 80% or 90% of that, the vast majority of it given back to the customer in terms of lower price because that’s what drives us and drives our business. And if we do it more next year, we will give 80% or 90% of that back. It’s not an exact number, but it’s well closer to 80% or 90%. That same MO and philosophy occurred here. So when we sat down and negotiated all the various levers that relate what I call this bucket of money, there are a lot of ways one can use it, most importantly by improving the reward on the cards to the member that’s going to utilize it. That will drive value to that member and loyalty to us and also more business to us. And secondly, what’s left over and when we originally did it, we did it such that we started with a small amount of it. Now, to the extent we are not going to change the rewards program every afternoon if we see that there is more money in the bucket. So that will additionally accrue to us, but it’s not changing what you are doing with it. We are going to still do those other things. So again I think over time, you look at it and you can rest assured in a few years if the success of the card and its economics to us, we are not going to allow ourselves to keep a lot of that extra, but we started with a small amount and the big bucket is good and it is a little better because the card is working in direction that we expected, that’s good. And we are still going to do those other things anyway.

Okay, thank you.

Thanks. Richard, thinking about the top line, we are on the verge of cycling, I would say some of the worst of food deflation, I know you mentioned it’s picking up a little and then some of the traffic that the business got on the gas side and I think the tobacco headwinds you mentioned is still a little more to go. First, is that fair that we are on the verge of cycling that? And then if we are, should we expect to pick up in the business from a top line, or are you expecting a pickup, I am just curious how you are thinking about that?

What was the last part of the question, Simeon?

I mean, should we see the business in flat from the top line as some of these, I guess deflation top line headwind debate?

Yes. Well I think first of all, there is – first one, when I asked different buyers and different merchandise categories, their view is it’s going to be three months to six more months. Recognizing these are also gasses, I mean they are perhaps educated, unless you know there is something specifically happening like you are anniversary-ing the bird flu or your anniversary-ing really high feed prices on the commodity side. Sometimes there is a little more predictability on that side. But beyond that, I would say probably best guess is five months or six months of continued deflation at these newer levels in some cases. Gas, who the heck knows.

Are there any changes there?

Yes. Bob is here. Barring any major changes out there, you would see an inflection point probably in more neutralism.

Late fall.

Late fall, so it’s a few months. That sounds like a definite maybe.

If you – I guess if you take the deflation in the food categories, if you take some of the deflation, maybe in electronics or do this analysis of looking at the units versus the sales, I guess what is that delta if you put it altogether, like your best guess at that?

I have to get back to you on that and I will give you some sound points, if you will. Some of it, I mean there are so many examples particularly like in meat. You have seen every month at the budget meeting where we will have literally a 10 or so percentage point drop in the price per pound and a 4 or 5 – 3% or 4% or 5% increase in labor productivity per pound and less efficiency because of the fact that the price per pound went down much more than that. There is some interesting things going on with some commodities. I was just looking at a chart coffee, the average – these are average sales but it’s consistent with average cost, down 16%. A lot of things, in certain cheeses are down 10% to 20%. I believe eggs are way down right now. And so those things are all impacting you. Now it impacts you on selling eggs, it helps you a little bit in selling muffins because we are obviously changing 6 impact a month and from making the numbers. We sold them for but $5.99 down to $5.89. And so you are going to – I would say the net of those two is still a detriment to us. By the way, what I mentioned earlier about late fall, that had to do specifically with gas. We will see the inflection point, it looks like we are going to see an inflection point with gas all things being equal out there in the next couple of months.

Okay. And then my follow-up is related to the credit card, I guess looking back, you only had a couple of months, but are there signs that there was some deferred spending on either big ticket items? And then if you have the data, is the same member who is either buying on AMEX or not on the co-branded card, is their spending up individually year-over-year, meaning they are incented by the card and they are actually spending more with you?

As it relates to the first question, absolutely. We probably saw it biggest and something that the millennials don’t buy, affiliates. We saw a big decline for a few weeks leading up to it and a big increase right afterwards. Also, on big ticket, but generally speaking, jokes aside on millennials, across the board we saw improving bigger ticket purchases, which again, that makes sense, people are waiting. Now there is all types of movement in both directions. You had existing – a member with an existing Visa card in his or her wallet and maybe they are using that one, not ours, that’s fine. We still have a negotiated good rate on certain things. You have people that were using debit their whole lives because they perhaps did not want an American Express card or they applied for one and did not get one. And so for 16 years, they used cash, check and debit. Now, for the first time, they can use a credit card and I am sure that’s where we saw many of these new signups as well or part of them, but in terms of are they buying more with us? Anecdotally, we are hearing that from our warehouse managers who talk with their biggest wholesale customers, but it’s purely anecdotal at this juncture and I think we will see more of it. I haven’t actually looked any statistics on that.

Okay. Thanks, Richard.

Good afternoon, Richard. A couple of questions. First of all, you spoke in fairly general terms about how you plan to make use of the better economics of the credit card where we hoped to direct it. If you think about the impact on the P&L this quarter along with launch, I don’t know if there are special provisions in place for the cost of launch in the card. I am not sure if there are elements of the change of the arrangement that started to impact it, but would you say that there is any offset to SG&A or meaningful offset to gross margin that resulted from the transition this quarter?

Well, certainly there is certain costs were subsidized in the transition from our partners. But at the end of the day, there – yes, I mentioned I think when I was going through the SG&A, payroll and benefits for our company were up year-over-year in the quarter in SG&A. That was somewhat offset by anything related to this credit card transition. So, yes, there is improvement related to that.

Got it. And then second question, if you think about other international, obviously you didn’t call out Asia, any of the Asian countries as strong countries. You spoke in over the course of the month it releases about comping some of the big openings that you had in recent years and the other international comp number is a bit lower than we have typically seen anything to think about the franchise in those markets or the macro or how you are resonating in that part of the world?

No, it has more I think to do with a little bit of cannibalization in a couple of those countries where you have got 10 or 12 locations in Korea and Taiwan or I think we had some cannibalization in Australia as well, but one location takes a $200 million or $300 million building down $70 million, $80 million and that’s what’s in your comp, not the new building. So, that has much to do with it as anything. We feel really good about our markets. We feel very good. And as we have said, the one market that has been – we start, we remind ourselves that there is a time when we were going to close Korea and Taiwan and they are our most and almost our most profitable productive countries and locations. And we have talked about our first unit in Syria got off to a slow start. It’s growing nicely now. Madrid got off to a much better start and it’s growing nicely. And so, again, we are patient, but in terms of that other international comp number, I would guess and I don’t have the detail in front of me, but what I have seen before is in recent times is that it’s cannibalization more than anything.

And that’s good to hear on Spain by the way. If you think about the cadence of openings and year ago openings and where the new stores are going to open in some of those markets, is this an issue, the cannibalization issue that should stay with you for a little while or is it that to abate at some point over the course of the fiscal year?

Which one?

The cannibalization primarily in Asia, presumably.

I hope it doesn’t abate. That means we are working hard to get more openings there. These are generally no-brainer locations in terms of very predictable successful locations for us. We feel we have developed a great franchise over there with great loyalty and great success and we would like to do it a little more if we can. We are working hard to get more locations in both Korea and Taiwan as an example. And it just takes a long time in Taiwan and longer than a long time in Korea because of zoning and other restrictions and it rains on everybody and other big boxes in those community – in those areas have the same impact.

Great. Thank you so much.

Good evening. Thanks a lot for taking my questions. Richard, are you seeing any evidence that you are attracting new members to your club as a result of the more lucrative credit card offer?

Yes. And again, this is very early. We have seen in the tens of thousands of signups or people that were members that signed up because of activities in Citi branches and bank branches. A lot of it has to do with existing members that we are seeing the value of that card when they walk in.

And do you have any plans to try and accelerate the sign-up of new members by raising awareness of the card through marketing effort?

We are doing that already. But maybe we are not doing a good enough job. But there is nothing else that we are doing right now and when I say that to our partners as well, because they are doing some things as well, but we are getting the word out in a big way in the warehouse with handouts, with signage, with people, the word is getting out. And we are, again, as I mentioned earlier, we are beating our own expectations of what we had planned for these initial 14 weeks, if you will. And so we feel pretty good about it.

And my follow-up question is so you are beating your expectations on the credit card overall, you mentioned that spending for maybe some of your larger customers on the card has been a little bit better and may pickup as a result of it. Yet, your overall columns have been a little more sluggish in the last couple of months. Does it actually suggest that you are seeing even though that marginal customer – that marginal member go away or some other behavioral change that was driving business model?

Yes, it’s really hard to tell. I mean, arguably, there are probably 50 different factors that impact sales every day and every week and every month. We feel very good about what we are doing in merchandising wise. We feel very good about what we have seen with the crossover to this. Our view has been we don’t think that many people left Costco, because they can’t use their American Express card. At the end of the day, they are coming to Costco because of our quality in our value. And when we look around, we get a lot of questions all the time, well, are we impacted by the Internet, losing some? The internet is taking from everybody. Our view is it takes a little less from us. And interestingly, when you look at the categories within our slightly lower sales over the last couple of few months, the categories that have buffed that trend have been discretionary nonfood categories.

Thanks so much.

Hi. It’s Dan Binder. Thanks. Just following on here, your comment about the web taking a little bit from everybody, does that change the way you think about your own web strategy, type of items you are willing to put on and delivery times, etc. just to create greater convenience because price doesn’t really show up on our screen as the major factor?

Well first of all, I don’t see us – yes, we are doing some things anyway and are we doing more things, absolutely. But we are not freaking out about it. We are recognizing – we recognized that we are not going to be the provider. We may be the provider to somebody that wants to deliver like an Instacart or Google Express, but we are not going to be dropping off small items and our prices at your doorstep. That being said, we are, we have and we continue to add things. On the merchandise initiative side, we have added various sundries items and health and beauty items and on the apparel, trying to get to a more treasure hunt. I think you are going to see big differences literally in the next several weeks of the types of hot items that you see on there on the non-food side in the treasure hunt. On the operational side, there are a few things. We are by no means we are one click. We recognize our site has had some challenges. You are going to see in the next few months a big improvement in the number of clicks to the site. You are also going to see a big improvement on search and we are getting much streamlined returns process. We have never been big on convenience. Our success has been based on pricing value, quality and quantity at the lowest possible price. We do appreciate that value also is convenience. We are going to greatly improve what we do, but it doesn’t mean we are going to get something to you in two hours. And I think again, when I look at some of the things that we are doing internally, I am not trying to be cute here, but there is something I can’t talk about yet. You will see some differences and mostly the differences are from an offensive standpoint, not a defensive standpoint. But we look at our core business of getting you in the store still is paramount to what we want to do.

And then if I heard the numbers correctly, it sounds like the growth rate slowed a little bit this quarter on .com, any particular callouts in terms of merchandise that was offered this year, not last year, or any particular categories that are slower?

I wasn’t going to bring that up only because I don’t want to sound defensive. But there were two things last year in electronics that were big. The iPhone 6 launch last year was huge and the iPhone 7 launch was not as huge. And the other thing is last year was, the introduction of Windows 10 and there are two things. Prior to a year ago comparison, a few months prior to that, people were waiting for the Windows 10 launch and so you had a lot of pent up demand and the launch itself and compared to a year later. So those two things alone were part of that. That’s frankly I think one of the bigger things. But again, I think as I have said jokingly, have seriously and have jokingly in the past, some of the things that we haven’t done historically gives us the great opportunity to do these. And there are still some blocking and tackling like a couple of things that I just mentioned. We have greatly improved our delivery, but it was from bad to better. It still takes too long and again, we are not going to get something to you in two hours. But you can see some logistically some things. And then on handling returns, particularly big ticket returns, we haven’t done a good job of that and that’s already in process. So you will see some changes that will help. The biggest thing though is going to be the merchandise initiatives. And again I think, you are going to see, we have added items and we are adding some items but we are not trying to figure out what 20,000 additional items because that’s not what we are going to do. But there will be velocity items or repetitive items in the sundries area as well. And you are right, when you look on your radar screen price is not way up there. But I challenge anybody on the call to compare the exact branded items and a big basket of them not just an occasional loss leader or some retailer or .com may have out there, you are going to see it is a lot of savings here, but you will be shocked how much savings. And again, we recognize also we have got to move in a little direction and we are doing that.

Great. Thank you.

Hi, thanks for taking my question. I guess it’s hard to put there my name in general. But I was just curious, on the gas impact, you gave the $0.02 impact, but I was wondering if you could give us some color on how much of that was gas margin versus maybe weaker gallon comps in light of fuel prices being down. And then I am wondering, as price per gallon increases, I am thinking it should obviously help traffic, is that fair, is there anything else to consider in terms of state of the consumer and the competitive landscape?

Well, the gas was $0.04. So last year, we had very strong gas prices, no worries. The year earlier in Q4, we had very strong gas profits. So that’s why a year ago, we didn’t really talk a lot about. This year, we actually beat our own internal budget a little from the beginning of the year, but again it was $0.04 lower this year compared to Q4 a year ago. Generally, when prices go down, while it impacts some of these basis point percentage calculations, we make more money. When it goes up, we make a little less money although I would say, for the last couple of years there has been a new normal. When prices went down, our view is as retail gas, overall, they would lower their prices but not as much as they could have. And we lowered it more than that, and we are still able to benefit a little from it. So that was a positive. I think yes, it’s the value proposition more than anything that gets people in our parking lot. And we are helped by the gas buddies out by .coms out there, the 2 years they have done it. And then the 4% rebate. There is a lot of different promotional things at the majors out there whether it’s $0.10 a gallon off. As the price per gallon goes up, 4% gets bigger. And so I think that will be positive for us as well. But if you have been through our gas stations, when you have got, in some cases, 20 pumps now pumping at the same time and the lines move fast, but there will be six people in each line. That not only drives the success of the gas business, but 51 or so of those people for every hundred come in and even if one of them is incremental, that’s good for us.

And so can you give us some color on what gallon comps were doing this quarter?

I don’t know if we do that, but I know that it continues to be higher than the U.S. average. And my guess, I will get back to the answer in a minute, somebody is looking up for me. I believe it’s in the mid-singles. It’s in the mid-singles unless I say otherwise.

Okay. And then just to clarify on your comments on deflation, I know you were talking that deflation ensued and then there was also deflation I guess in fuel, so you had said that fuel prices should start to rebound in late fall. But deflation in food, are you just to clarify five months or six more months in deflation in food is that what you are trying to say?

That’s our best guess. Talking to the buyers, that’s our best guess.

And any – can you call it any categories in particular?

Well, the biggest ones would be protein. And you have got some other things, I was looking at my sheets here, hold on a second and this was just year-over-year, this past month. Walnuts were down 47%. That’s our sell price. And I am sorry, that’s our cost. Now a year ago, they had doubled from the prior year. So they were kind of back where they were. Almonds down 38%, whole eggs, down 54%, large eggs, down 53%. I am just looking down the sheet of the top 50 items. So those things particularly, things like eggs really add up. On the inflation page, just for fun, nothing. Well, I mean, there are some 20s and 30s, but if I look at the top 25 or so items, just in the last four weeks of the fiscal year, regular unleaded gasoline was down 12.8%. And it was over $3.5 million of credit, if you will, to LIFO. We don’t book it every month like that, but that would have been $3 million. So, the biggest items on the deflation sheet add to the LIFO credit of $2 million to $3.5 million, $2 million to $4 million. The biggest items on the inflationary sheet at $300,000 to $500,000 of LIFO charge. So again, it gives you a sense of where it’s going. Again, another data point is the U.S. inventories at LIFO, that’s an U.S. accounting concept. That was in the indices where you start off for costs on the exact items at the beginning of the fiscal ‘16 at 100.00 and was to go to. Food was down 2.25% with half of that, about 0.5% being just in the last couple of months. Sundries was about down at less than 0.5% and not terribly changed in the last 3 months. Apparel, almost right at the same 100.00 a year ago, almost right there. Computers, I expect down little under 2%. So, it’s all over the board. Again, so you have extreme categories like meat which is high volume, but meat is also, we turn it so much faster. It has a higher churn. It turns, I would think, more than 52x a year where if you have – that’s a deflationary item. If you have an inflationary item that is turning 8 times in nonfoods, that’s going to be a different story. That’s how it impacts the business.

Any color on produce? That was one category you had mentioned.

I didn’t have that in front of me. It was not as big. I would guess I think it was in the 3 to – low to mid-singles, back yes.

Inflationary or deflationary?

I am sorry it was up a little inflationary in the last few weeks.

Got it, okay. Thanks very much.

Hey, good afternoon, Richard. First, just wanted to ask is there anything you have seen from Sam’s Club or BJ’s or other competition whether it’s on price or membership that you felt like you needed to react to?

First of all, as it relates to competitive reaction, the answer is really no. I mean, we do that for living daily and weekly and they do it literally to their weekly comp shops in every market with direct warehouse club competition. And certainly in the fresh foods, people do more direct pricing competition on sale items at supermarkets, particularly on holiday week and some things like that and soda pop. But at the end of the day, if anything, our view is – the mode has continued to get bigger, in other words, our competitive position, pricing wise, is stronger than it’s ever been. But we are not resting on that. We are constantly trying to figure out how to widen it. That’s what we do.

And then second look I know it’s been, I don’t know, 6 or 7 years since you have given guidance but we are moving into a new fiscal year. And just big picture, wanted to know if there is anything you can highlight that we should keep an eye on as we model out whether it’s traffic, comps, thoughts on LIFO, IT spend, payroll, any help would be nice?

First of all, as it relates to guidance, we don’t give guidance. The points of headwinds and tailwinds and anniversary of headwinds and tailwinds, things that I have talked – we talked about in the past we are hopeful that just from a simple FX standpoint, for 2 plus years now, the dollar has strengthened year-over-year. So, it was more than a 1 year anniversary. There was an inflection point of late although nobody knows what tomorrow brings on that. But it looks like it won’t be as impactful to the negative. We got through the headwind of the conversion. That should be a net positive, but I think it will be net positive over the next few years and probably not easily calculable, but we will figure that and we will try to figure that out.

Thanks for the color, Richard.

Yes. Just continuing on the merchandise trends, you were going over some of these things, you didn’t mention organic food, just curious kind of how that’s still performing for you, I know that’s been a good growth driver, I think it’s a margin enhancer? Are you seeing tightness in supply? Are we experiencing some sort of deflation in that category as you saw in the rest of the food across the store, any commentary there on where that’s going?

Thank you for reminding me. No, I didn’t call you to remind me. We expect organic to be up 20% this year. Now, some of that will be some cannibalizing of some traditional, conventional, but no, it’s the perfect items for us because it’s our member. It helps us with millennials on top of that. We get that. It creates a bigger competitive pricing mode, because we have as good, if not better quality at much better pricing. In terms of supply, I think the supply is starting to catch up with the demand out there and I think that some of the – you have heard me talk in the past about many of our global sourcing initiatives, I think that’s going to continue to help us and make it more competitively advantageous to us. We have long-term relationships that we have had for a while now and have continued to build and there is going to be pockets of supply issues on different items sometimes, but overall, we are doing a lot in that regard ourselves whether it’s produce, with farmers, seafood, poultry, you name it.

Okay, great. And then just another question just I think this is on a lot of people’s minds just on the membership fee increase potential here in the U.S. or Canada where I think we are close to the 5-year anniversary mark. I think this is something that’s – I know there is no schedule, but typically done every 5 to 6 years. Can you just update us just on your thought process there with respect to MFI in the U.S.?

It will be U.S. and Canada. We will say we can’t say anything or give any direction on it other than you are right, every 5 or 6 years, we have done something. I think the exact fifth anniversary in the last time would be this January and the sixth anniversary will be the following January – this November and the next November will be the sixth anniversary. Early this year, we have simply just said is we are going to get through the credit card conversion first, which we have now done. And the only other comments I have made in the past is that when we look at our member loyalty, the impact the previous increases had on renewal rates and anything like that, it’s really a non-issue. When we do it, we of course use it to be more competitive. So, it becomes a few year benefit not a one-time benefit. And but that all being said, we will let you know when we know. We haven’t made any decisions yet and we haven’t talked about it a lot internally. We actually tell you when we do things.

Yes, real quick. Just the $50 million pre-tax on the international price hike that you did in a number of markets, that’s over the 23 or 24 months, is that correct, right?

That would also be over 23 months starting in January – I am sorry, starting in September now.

Hi, thanks. I have a couple of questions. I just wanted to make sure I understood the dynamics of the new people signing up for the card. So, it was 730,000 new signups in just a couple of months.

New accounts.

Right. Of new accounts. And so now that you are getting the payments for signing those people up, in terms of the SG&A, core ops may have delevered 6 basis points, but that’s where the benefit of those signups would have showed, so that the payroll may have de-leveraged 10 or 12 and then that gave you some net, am I thinking about that the right way?

Yes. Although I believe again there are different pieces, I would get it all pretty straightforward and simple, what is our effective merchant fee. Unfortunately, it doesn’t all go into the SG&A line. There are certain items that benefit sales. I believe Bounty is one of them. So, Bounty goes to sales, which improves your margin a little bit. So, that might be a couple of basis points in there. I haven’t calculated it out. But yes, some of the offset, again, we are talking a small piece of a big bucket is still decent to us, but we are only in it for a few months.

Got it. And the headwinds from payroll, was how much of that was related to some of the weight?

Yes, we do. It reaches the top of the scale every year. Every 3 years, we announce what it’s going to be to our employees for the next three Marches. This past March we also in the U.S. and Canada raised the bottom of scale by $1.50. So, $11.50 went to $12.50 – no, $11.50 went to $13 and $12 went to $13.50. Just that piece, the $1.50 at the bottom scale was I believe $39 million a year, we get 40 – call it $40 million a year. That would be March to March, so through the early weeks of Q3 – through the first month of Q3.

That’s great. That’s helpful. And then I guess lastly and sort of thinking about how the card is being used, I know you said it’s better than your expectations. I guess could you give us a little more color there especially with the people that are new to the card, right, new to Costco with it as to how much the card is being used outside of the club now that people have that?

I will be able to give more color on that in the next quarter. What I can tell you is one of the assumptions going into this we want this card just like we wanted our previous co-brand card to be our members top of wallet card. They are not only using it here, they are using it everywhere. The fact that historically I could not use my other card, in my case, my local dry cleaner or my local restaurant, if it is your top of wallet, there are more places you can use it. That grows that small merchant whoever card is being used at that small merchant, they pay a higher merchant fee. There is this whole equation of co-branding and revenue share helps us. And so I believe we are already above what we were on the old card in terms of outside to inside spend. It’s higher than it was after growing, increasing it over a period of time, but we would have expected that. We certainly hoped it, but we have expected it. I don’t think we necessarily knew what to expect to start with and we probably are a little pleasantly surprised that it’s already over that amount. And I think it will continue to grow. Yes, I mean, Bob was familiar that we cannot jump to conclusions on this. It’s all 14 weeks old. And as it relates to new people that signed up, again, it’s in the tens of thousands out of that 730,000, it’s not 100,000, it’s not 200,000. And I actually haven’t even looked at the data on those. So, another good comment that Bob is making, it’s been 14 weeks, some of them signed up last week or two weeks ago, I guess.

One last housekeeping you said membership fee income was up 6% in U.S. dollar terms?

Yes.

What was it up in local currency?

I believe it was the same. It was $47 million versus $50 million, but it is the same percentage increase.

Okay. Well, thank you, everyone. Have a good day.