Key Points
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Costco is one of the world’s largest retailers and has grown strongly for years.
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The stock’s yield is modest, and its valuation is lofty.
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I have been watching this other consumer stock for years, and it is finally trading at an attractive level.
- 10 stocks we like better than Costco Wholesale ›
There’s a difference between a company and its stock. Costco (NASDAQ: COST) is a great example of the dichotomy. It is a well-run company, but the stock is very expensive. Paying too much for a great company can turn it into a bad investment. I just can’t see owning Costco for the next decade.
However, McCormick (NYSE: MKC) is a well-run company with an attractive valuation. In fact, I recently initiated a position in the stock. Here’s why I think McCormick is a better investment opportunity over the next 10 years than Costco.
Costco is a great company
There’s nothing wrong with Costco as a business. It is one of the world’s largest retailers. It operates under a club store model, meaning customers pay an annual fee to shop at Costco stores. That membership fee creates an annuity-like income stream that allows Costco to keep its prices low and service levels high.
As a business, I absolutely love Costco. If someone wanted to buy it, I would be hard-pressed to dissuade them. However, I’m a dividend investor with a value bias. Costco’s yield is 0.6%, which is even lower than the 1% yield on offer from the S&P 500 index (SNPINDEX: ^GSPC). That’s not enough income to meet my needs.
Meanwhile, the price-to-sales ratio is 1.4x compared to a five-year average of 1.2x. The price-to-earnings ratio is 47x compared to a longer-term average of 45x. And the price-to-book ratio is 12.6x, which is only slightly below its 12.7x five-year average. All in, Costco’s stock looks expensive to me. I think growth investors will probably make out well with Costco if they buy and hold for the long term, but that’s just not how I invest.
McCormick is right up my alley
McCormick is one of the world’s largest producers of spices and flavorings. It has a global reach and a solid history of business growth. Compared to Costco, it looks like a slow-and-steady tortoise, but that’s not a problem for me. In fact, I like companies that are boring and sell relatively low-cost products that consumers buy regularly. Consumer staples makers like McCormick tend to be resilient in the face of bear markets and recessions.
Right now, however, McCormick is out of favor. Earnings have been pressured by inflation. Sales haven’t been as robust as Wall Street hoped. That’s OK, given McCormick’s long and successful history as a business, I’m confident the company will muddle through this weak spot and thrive again. Especially when I look out over the next decade.
That said, Wall Street’s short-term focus has opened up a buying opportunity. The stock’s yield is historically high at roughly 3.6%. The 2x P/S ratio is below its five-year average of 3x. The 9x P/E is below its five-year average of 25x. And the 2x P/B ratio is below its five-year average of 3.8x. A good company trading at a historically high yield and an attractive valuation is hard for me to resist.
There’s one big caveat with McCormick. It is about to buy Unilever’s (NYSE: UL) food business. It is a big deal for McCormick, noting that Unilever’s food business is bigger than McCormick’s. McCormick is taking a big risk and will have to add leverage to get the deal done. However, McCormick has successfully integrated other food businesses in recent years. And Unilever’s food business, which largely consists of Hellmann’s and Knorr, is very well run. This isn’t a fixer-upper situation, is a good food company merging with another good food company. I think the risk/reward balance is weighted to reward.
Now is the time to act on McCormick
I’ve watched McCormick for years, but it has always been too expensive for me to buy. Good companies don’t go on sale very often. And when they do, there’s usually a reason. With a long-term horizon, I’m jumping on McCormick while I can, even though there’s some uncertainty around the business today. Costco is a great company, but the stock is probably best left on the wishlist if you are, like me, a dividend investor with a value bias.
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Reuben Gregg Brewer has positions in McCormick and Unilever. The Motley Fool has positions in and recommends Costco Wholesale. The Motley Fool recommends McCormick and Unilever. The Motley Fool has a disclosure policy.
