Good morning. My name is Lorelle, and I will be your conference operator today. At this time, I would like to welcome everyone to the Costco Wholesale conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star then the number one on your telephone keypad. To withdraw your question, press the pound key. Thank you. Mr. Richard Galanti, Chief Financial Officer, you may begin your conference.
Thank you, Lorelle, and good morning to everyone. Certain statements contained in this discussion can constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. For these purposes, forward-looking statements are statements that address activities, events, conditions, or developments that the company expects or anticipates may occur in the future. Such forward-looking statements involve risks and uncertainties that may cause actual events, results, or performance to differ materially from those indicated by such statements.
These risks and uncertainties include, but are not limited to, domestic and international economic conditions, including foreign exchange rates, the effects of competition and regulation, uncertainties in the financial markets, consumer and small business spending patterns and debt levels, conditions affecting the acquisition, development, ownership, or use of real estate, actions of vendors, rising costs associated with employees, including healthcare costs, energy and certain commodities, geopolitical conditions, and other risks identified from time to time in the company's public statements and reports filed with the Securities and Exchange Commission. Okay. With that out of the way, as was announced in the press release this morning, we are acquiring the 50% ownership position in Costco Mexico that we currently do not own. We will acquire the 50% interest for MXN 10.65 billion. That is approximately $760 million based on the exchange rate of roughly 14 pesos to the U.S. dollar.
Additionally, each current 50% owner in Costco Mexico, that would be Costco Wholesale Corporation and Comercial Mexicana, will receive a cash dividend of approximately MXN 2.38 billion or about $170 million each. Total cash to Comercial Mexicana, that is a combination of the sales proceeds plus the cash dividend, will total MXN 13.03 billion or approximately $930 million. From a transaction funding standpoint for Costco Wholesale, the roughly $760 million to be paid to Comercial Mexicana by us for Comercial's 50% ownership position will be funded by Costco's $170 million dividend payment from Costco Mexico, plus existing Costco cash from the U.S. That would be an additional roughly $590 million. The relationship in Mexico between Costco and Comercial Mexicana dates back to the early 1990s with our first membership warehouse club opening in Satélite, which is near Mexico City, in February 1992.
Costco Wholesale has always been responsible for the management of the venture, and the operation of the warehouse clubs in Mexico will not change the result of this transaction. Today, Costco Mexico operates 32 membership warehouses throughout Mexico. I believe two of those have opened in the past five years. Also, as stated in the press release, Guillermo Gonzalez and Carlos Gonzalez, currently Chairman and CEO of Comercial respectively, will continue as members of the Board of Directors of Costco Mexico. Also, Jaime Gonzalez will continue as CEO of Costco Mexico. Jaime is a longtime senior officer of Costco Wholesale Corporation. In terms of our financial statements, the Costco Mexico operations are already consolidated into our income statement with a line item near the bottom of the income statement titled Net Income Attributable to Noncontrolling Interests.
That includes, as an offset to our consolidated P&L, the 50% of Costco Mexico's after-tax earnings that are not currently ours. In terms of how this transaction impacts our income statement, there are two things to note. First, because the federal income tax rate in Mexico is lower than our effective income tax rate in the U.S., the $170 million dividend payment to Costco will cause us to incur in Q4 an after-tax income tax charge of somewhere in the range of $12 million-$14 million, or about $0.03 a share. Excluding the impact of this one-time $12 million-$14 million income tax charge that we would incur in Q4, the transaction will be accretive to our earnings per share.
While we don't provide earnings guidance and we can't be assured that future performance will mirror or exceed prior performance, I can say that based on current year results in Costco Mexico, combined with a very low amount of interest income, well less than 1% per annum currently being earned on our incremental cash balances, this transaction will be about 3% accretive to our earnings per share. With that, I'm happy to answer any questions, but will limit my responses related to the financial questions to the items I mentioned above. With that, I'll turn it back over to Lorelle.
Thank you. At this time, I would like to remind everyone, in order to ask a question, please press star then the number 1 on your telephone keypad. And your first question comes from the line of Adrianne Shapira with Goldman Sachs. Your line is open.
Thank you. Richard, could you help us think about what, if any, changes should we be thinking about in terms of growth plans for Mexico in light of this transaction?
Well, we don't provide guidance about what our growth plans will be, but I did mention that in the last five years, we've opened only two locations down there.
When you think about long-term opportunity in Mexico?
I think like other countries that we're in, but we think that there's more opportunities down there.
Secondly, help us think about capital prioritization. Obviously, you're rich with cash on the balance sheet. How do we think about prioritizations going forward?
Well, I think our prioritization hasn't changed from yesterday. It's still expanding our operations. We hope to prove that to you as we go forward. As I mentioned on the third quarter earnings conference call a few weeks back, while we have six openings planned between now and the end of our fiscal year at the end of August, which would only put us at, I think, 16 net for the fiscal year that we're currently in. I'd also mentioned on that call that we have 13 planned for the last four months of this calendar year, which will be the first four months of fiscal 2013. Certainly, that's a ramp-up relative to what we saw last year in those four months, quite a bit, about a double, I believe.
As members of the board of directors of Costco Mexico. Also, Jaime Gonzalez will continue as CEO of Costco Mexico. Jaime is a longtime senior officer of Costco Wholesale Corporation. In terms of our financial statements, the Costco Mexico operations are already consolidated into our income statement with a line item near the bottom of the income statement, titled Net Income Attributable to Noncontrolling Interests. That includes, as an offset to our consolidated P&L, the 50% of Costco Mexico's after-tax earnings that are not currently ours. In terms of how this transaction impacts our income statement, there are two things to note.
First, because the federal income tax rate in Mexico is lower than our effective income tax rate in the U.S., the $170 million dividend payment to Costco will cause us to incur in Q4 an after-tax income tax charge of somewhere in the range of $12 million-$14 million, or about $0.03 a share. Excluding the impact of this one-time $12 million-$14 million income tax charge that we would incur in Q4, the transaction will be accretive to our earnings per share.
While we don't provide earnings guidance, and we can't be assured that future performance will mirror or exceed prior performance, I can say that based on current year results in Costco Mexico, combined with a very low amount of interest income, well less than 1% per annum currently being earned on our incremental cash balances, this transaction will be about 3% accretive to our earnings per share. With that, I'm happy to answer any questions, but will limit my responses related to the financial questions to the items I mentioned above. With that, I'll turn it back over to Lorelle.
Thank you. At this time, I would like to remind everyone, in order to ask a question, please press star, then the number one on your telephone keypad. Your first question comes from the line of Kate McShane with Goldman Sachs. Your line is open.
Thank you. Richard, could you help us think about what, if any, changes should we be thinking about in terms of growth plans for Mexico in light of this transaction?
Well, we don't provide guidance about what our growth plans will be, but I did mention that in the last five years, we've opened only two locations down there.
When you think about long-term opportunity in Mexico?
I think like other countries that we're in, we think that there's more opportunities down there.
Okay. Secondly, help us think about capital prioritization. Obviously, you're rich with cash on the balance sheet. How do we think about prioritizations going forward?
I think our prioritization hasn't changed from yesterday. It's still expanding our operations. We hope to prove that to you as we go forward. As I mentioned on the third quarter earnings conference call a few weeks back, while we have six openings planned between now and the end of our fiscal year at the end of August, which would only put us at, I think, 16 net for the fiscal year that we're currently in. I'd also mentioned on that call that we have 13 planned for the last four months of this calendar year, which will be the first four months of fiscal 2013. Again, if one or two of those slip into early calendar 2013, that's not an issue in my mind. Certainly, that's a ramp-up relative to what we saw last year in those four months, quite a bit, about a double, I believe.
That's our first priority, is to continue to expand. I think in the last year, we've also shown that we've expanded the rate of expansion in some of the countries where we have much fewer locations like Asia and Australia and what have you. The first and foremost will be expanding our operations. In May, we paid, I think, our increased level of quarterly dividend, which we've done each spring for the last many years. We've also continued to be a buyer of our stock on a relatively regular basis.
Okay. Last-
Yeah, that would be the priority levels.
Got it. Then just lastly, could you help us think about, it sounds as if Mexico presents an opportunity in terms of expansion. Maybe give us some thoughts on profitability, margin opportunity, kind of contextualize if that grows to be a bigger part of the expansion plans, how we should be thinking about margin and mix opportunity. Thank you.
I can't be completely specific on Mexico. As you know, we consolidated Mexico just a couple of years ago. At that time, by consolidating it versus using the equity method prior, trend-wise, I think it indicated that our margins, once we consolidated, we showed you in that year how margins went up a little and SG&A went down a little. That would imply that margins are a little better and SG&A is a little lower down there. That's good relative to the company as a whole. There are other countries like that as well.
Thank you. Best of luck.
Your next question comes from the line of Charles Grom with Deutsche Bank. Your line is open.
All right, thanks. Good morning, Richard. The 3% accretive, is that net of the $0.03 charge that you're going to incur in the fourth quarter?
No, that's a one-time charge for income taxes.
It's excluding that. When you look at your minority interest line in 2011 and in the first three quarters of this year, could you give us the exact amount that's related to Mexico, or is it entirely related to Mexico?
It's not entirely related to Mexico. We won't disclose that, but needless to say, in Q4 because it's a partial quarter, in Q1 it's a full quarter on a year-over-year comparison. You'll probably get a sense of it. There's other aspects. We consolidate Taiwan, where we are a 55% owner.
Okay.
Part of Taiwan's earnings or offset to earnings would be down there as well.
Okay, great. Just when you look ahead, does this kind of open up an avenue for growth as you move into Latin America, South America for you guys? I know you've got some current thoughts on Europe, but is there some opportunity for growth down below Mexico?
When we know, we'll let you know. At this point, we're just buying this and we've got a lot going on right now.
Okay, great. Thanks a lot.
Your next question comes from the line of Peter Benedict with Robert W. Baird. Your line is open.
Hey, Richard. Can you give a sense of maybe just how business has been in Mexico, maybe local currency comps or just conceptually how that market has performed for you guys relative to the rest of your regions? Just trying to get a sense of how it's trending. Thanks.
Yeah, I think overall, Mexico has been a little better than our company average over the last few years. There are no giant outliers, mind you, other than in a country like Australia, where you have one unit comping or getting ready to comp our second or third. That's a whole different story because it's brand new. Generally speaking, kind of like Canada has been a little bit stronger in the last couple of years, Mexico too has had, for us at least, a decent economy down there for us.
Okay. I apologize if I missed this, if you already mentioned this, but in terms of why now, why did this transaction occur now? Was there any particular catalyst that you could call out?
No. We've had a very good long-time relationship with our partners at Comercial. Ultimately, it took a buyer and a seller to agree on something here. Again, it was a good relationship when we were a 50% owner and manager of this process, and we think this is a good use of our cash, and it happened now.
Okay. Well, we agree. Thanks.
Thank you.
Your next question comes from the line of John Heinbockel with Guggenheim. Your line is open.
Hey, Richard. Philosophically, when you look at this windfall, the accretion, do you look at it independently of the things you want to do in the business elsewhere, meaning you've got 3% coming in that you might not have had before. Is that an opportunity to invest elsewhere or are they solely independent decisions?
I would say it's independent. Needless to say, we have, some would argue, a very strong cash balance, and we thought this was a good use of our cash, and certainly we are comfortable with our operations in Mexico. Using these funds to make this investment by no means precludes anything else that we're doing.
Well, yeah, I guess I was thinking less in terms of a capital investment, more in terms of investment in the business, i.e. pricing, labor, et cetera. Since you have that accretion to play with, are those independent decisions, would you say?
I would say those are independent as well.
Okay. Just the fact that you've got whatever coming in the door doesn't mean you look at that and say, "Well, we can now invest a little more," U.S. or Canada or wherever. That has no bearing on what you want to do operationally.
I think everyone knows generally that we're going to do what we want to do with investing and pricing independent of this accretive accretion.
All right, thanks.
Your next question comes from the line of Karen Short with Credit Suisse. Your line is open.
Thank you very much. Richard, quick question. How much did Comercial's financial problems impact the opening rate down there?
I think you'd have to ask them.
Okay. Thank you.
Your next question comes from the line of Faye Landes with Consumer Edge. Your line is open.
Hi. Just a quick question. When you say 3% accretion, I just want to understand what time horizon you're talking about. It wasn't clear to me.
I'm sorry, could you repeat the question?
The 3% accretion is over what time horizon?
Well, that would be basically over the next year, once the transaction is closed, which we anticipate no sooner than the end of this month. It could drag on a little depending on certain regulatory approvals.
Okay. All right. Just wanted to make sure. Also, since things there have been going well, how should we think. Are there still synergies?
Going forward after this, after the initial period, are there synergies in the operational synergies now that you own all of them?
No. It has been run, not really.
It's run by us.
It's run by us. Of course, there's been a longtime relationship with Comercial, and we've done some real estate things together. No, I don't think anything really changes operationally. It's just who owns the shares.
Okay, terrific. Thanks.
Again, if you would like to ask a question, please press star then the number one on your telephone keypad. Your next question comes from the line of Andrea Teixeira with JPMorgan. Your line is open.
Hi. Good morning. Thanks for taking my question. Richard, I'm a colleague of Chris Horvers here at JPMorgan. I cover Latin America. Would you say that you plan to accelerate the floor space in Mexico now that you have full control of the business plan? If you can also comment on how same-store sales has been behaving in Mexico so far. Thank you.
Well, we don't comment on our future expansion plans other than overall showing you what we've done over the last couple of years. As it relates in terms of our whole company.
as I mentioned, our comps in Mexico have been pretty decent relative to our consolidated company as a whole, hopefully that'll continue.
Okay. Thank you. Congratulations on the transaction. Thank you.
Thank you.
There are no further questions at this time. I turn the call back over to Mr. Galanti.
Well, thank you. We didn't expect a lengthy call here. I appreciate people listening in, and have a good day.
Thank you, everyone.
You're welcome. Let's conclude.
Hey, Richard. Can you give me a sense of maybe just how business has been in Mexico, maybe local currency comps or just conceptually how that market has performed for you guys relative to the rest of your regions? Just trying to get a sense of how it's trending. Thanks.
Yeah, I think overall, Mexico has been a little better than our company average over the last few years. There are no giant outliers, mind you, other than in a country where, Australia, where you have one unit comping or getting ready to comp our second or third, that's a whole different story because it's brand new. Generally speaking, kind of like Canada has been a little bit stronger in the last couple of years. Mexico too has had a, for us at least, a decent economy down there for us.
Okay. I apologize if I missed this, if you already mentioned this, in terms of why now? Why did this transaction occur now? Was there any particular catalyst that you could call out?
No. We've had a very good longtime relationship with our partners at Comercial. Ultimately, it took a buyer and a seller to agree on something here. Again, it was a good relationship when we were 50% owner and manager of this process. We think this is a good use of our cash. It happened now.
Okay. Well, we agree. Thanks.
Thank you.
Your next question comes from the line of John Heinbockel with Guggenheim. Your line is open.
Hey, Richard. Philosophically, when you look at this windfall, the accretion, do you look at it independently of the things you want to do in the business elsewhere? Meaning you've got 3% coming in that you might not have had before. Is that an opportunity to invest elsewhere, or are they solely independent decisions?
I would say it's independent. Needless to say, we have, some would argue, a very strong cash balance, and we thought this was a good use of our cash, and certainly we are comfortable with our operations in Mexico. Using these funds to make this investment by no means precludes anything else that we're doing.
Well, yeah, I guess I was thinking less in terms of a capital investment, more in terms of investment in the business, i.e., pricing, labor, et cetera. Since you have that accretion to play with, are those independent decisions, would you say?
I would say those are independent as well.
Okay. Just the fact that you've got whatever coming in the door doesn't mean you look at that and say, "Well, we can now invest a little more, U.S. or Canada, wherever." That has no bearing on what you want to do operationally.
I think everyone knows generally that we're going to do what we want to do with investing and pricing independent of this accretive accretion.
All right. Thanks.
Your next question comes from the line of Karen Short with Credit Suisse. Your line is open.
Thank you very much. Richard, quick question. How much did Comercial's financial problems impact the opening rate down there?
I think you'd have to ask them.
Okay. Thank you.
Your next question comes from the line of Faye Landes with Consumer Edge. Your line is open.
Hi. Just a quick question. When you say 3% accretion, I just want to understand what time horizon you're talking about. It wasn't clear to me.
I'm sorry, could you repeat the question?
The 3% accretion is over what time horizon?
Well, that would be basically over the next year, once the transaction is closed, which we anticipate no sooner than the end of this month. It could drag on a little depending on certain regulatory approvals.
Okay. All right. Just wanted to make sure. Also just, since things there have been going well, how should we think? Are there still synergies going forward after the initial period? Are there operational synergies now that you own all of them?
No, it has been run, not really. It's run by us. Of course, there's been a long-time relationship with Comercial, and we've done some real estate things together. No, I don't think anything really changes operationally. It's just who owns the shares.
Okay, terrific. Thanks.
Again, if you would like to ask a question, please press star and the number 1 on your telephone keypad. Your next question comes from the line of Andrea Teixeira with JPMorgan. Your line is open.
Hi. Good morning. Thanks for taking my question. Richard, I'm a colleague of Chris Horvers here at JPMorgan, and I cover Latin America. Would you say that you plan to accelerate the floor space in Mexico now that you have full control of the business plan? If you can also comment on how same-store sales has been behaving in Mexico so far. Thank you.
Well, we don't comment on our future expansion plans other than overall showing you what we've done over the last couple of years. As it relates in terms of our whole company.
as I mentioned, our comps in Mexico have been pretty decent relative to our consolidated company as a whole, and hopefully, that'll continue.
Okay. Thank you. Congratulations on the transaction. Thank you.
Thank you.
There are no further questions at this time. I turn the call back over to Mr. Galanti.
Well, thank you. We didn't expect a lengthy call here. I appreciate people listening in, and have a good day. Thank you, Lorelle.
You're welcome. This concludes.