好市多 (COST) 2010 Q4 法說會逐字稿

Good morning.

My name is Ashley, and I will be your conference operator today.

At this time I would like to welcome everyone to the fourth quarter and year-to-date results and September sales release conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks there will be a question and answer session.

(Operator Instructions) Thank you.

Mr Galanti, you may begin your conference.

Thank you, Ashley.

Good morning to everyone.

This morning we reported our 16 week fourth quarter and our 52 week fiscal year 2010 operating results, both ended August 29.

As well we're reporting our five-week September sales results for the five weeks ended this past Sunday, October 3.

As with every conference call, I will start by stating the discussions we're having will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and in 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.

To begin with our 16 week fourth quarter, for the quarter we reported earnings of $0.97 a share, up 14% from last year's fourth quarter earnings of $0.85.

The $0.97 figure for this year's fourth quarter compares to the current First Call estimate of $0.95.

Both fourth quarters included certain items that impacted the quarter over quarter comparison.

As outlined in last year's year-end earnings release, last year's 2009 fourth quarter included a $16.6 million pretax charge, or $0.02 a share LIFO benefit with no corresponding LIFO charge or credit this year in Q4.

There were a few items in this year's fourth quarter that, in the aggregate, benefited our 2010 fourth quarter by about $0.02 a share as well, so kind of a wash in the year-over-year comparison of the fiscal fourth quarters.

In addition, a couple of other items that impacted the comparison, this year's fourth quarter versus last year.

As I have discussed in I think all the quarters this fiscal year, we have unlike 2009 where we had FX headwinds, in this year we have benefited and had FX tailwinds if you will.

In the fourth quarter our foreign currency earnings results when converted and reported in US dollars benefited us this year as the dollar relatively weakened to many of the foreign currencies in countries where we operate.

In the fourth quarter we were helped by a little over $16 million pretax, or $0.02 a share after tax.

That is assuming FX exchange rates were flat year-over-year our foreign country operating results in Q4 were reported in US dollars would have been a little bit lower by that amount.

For the entire year the impact of FX, assuming FX rates had remained constant year-over-year, was to increase our total company reported sales by $1.6 billion, about 1.4% of our total sales, and increased pretax earnings by $70 million pretax, or about $0.10 a share.

Again, this calculation simply takes the currency exchange rates for the prior fiscal year and assumed they had remained at those levels throughout this most recent fiscal year.

Second, and as I again I have discussed previously, the last several quarters we have experienced higher employee benefits costs, mainly consisting of higher US healthcare costs and total benefits costs were up about 14%, higher year over year.

Within that US healthcare costs, which is the biggest item, was up 11%.

As I will discuss later in this call, our overall SG&A percentage was still better or lower by a year-over-year in the quarter by I believe 12 basis points.

In fact, payroll dollars showing good improvement in -- while the US total sales in the fiscal quarter were up 8%, our payroll dollars total company were up 5%.

Correspondingly, in the US our payroll dollars were up 3.2%, whereas total US sales were up a little over 5%.

For the 2010 fiscal year our net income came in at $1.3 billion, or $2.92 a share, compared to $1.1 billion, or $2.47 a share last year in fiscal 2009, up 20% in dollars and 18% on earnings per share basis.

In terms of sales for the fourth quarter, as we reported on September 2, our 16-week reported comparable sales figures showed a 6% increase, plus 4% in the US, plus 14% internationally.

As we always do, we take out gas inflation and the impact of FX.

That would make the 4% reported US number in the quarter plus 3%, and the plus 14% international number plus 8% in local currency.

Thereby bringing the reported 6% comp number for the quarter down to a plus 4%.

We also reported this morning our September sales results for the five weeks of September ending this past Sunday.

These were with the US coming in at a solid 2%, international 14%, and total company up a little over 5%, but rounding to 5%.

For the five-week September period the 2% reported comp would remain at 2% even without the about 0.5% positive impact from gasoline inflation, again because it started off as a relatively strong 2%.

Given that the US dollars relative weakness vis-a-vis other currencies in the last month, our reported 14% international comp would have been 10% in expressed in local currency.

Again, if you exclude both gas inflation, the impacts of gas inflation, FX, our September comp sales number would be on a normalized apples-to-apples basis of plus 4%.

A couple of final comments on September.

The reported 5% number included a continued strong frequency or traffic increase coming in at 4.3% up in September, and the other piece of that product get to the 5% and 1.1% increase in average ticket.

Of course the plus 1.1% average ticket increase would be about flat excluding the combined positive impacts of gas and FX during the month of September.

So, essentially a flat ticket, which I believe is actually up a little bit and improving trend over the last few months.

Geographically in September, actually in both September and for the quarter, the regions strength -- relative strength were Northwest, LA, Midwest, and Southeast, as well as Texas.

Internationally all countries enjoyed good comp performance with the exception of the UK which is still probably the toughest economic environment we're operating in.

In terms of merchandise categories, September comp sales, all four core merchandise categories -- food and sundries, hard line, soft lines and fresh foods -- as you know those represent a little over 80% of our total company sales, showed positive comps in September.

In fact, soft lines' positive September comps were in the low double-digit range, while food and sundries, fresh and ancillary were in the mid-single digit range.

With respect to September sales, weather wreaked a little havoc, but I won't lay a lot of blame on that.

There was a little bit of multi-vendor mailer shift in the last week of September which we think pushed a little of the fifth week of September's sales into the first week of October which we're currently in.

Other topics of interest that I will review this morning are opening activities and plans.

We opened a total of 13 net new locations during fiscal year 2010, which ended this past August 29.

Among those 13, it represented 10 new in the US, two new in Canada, and one new in the UK.

As well, we relocated one unit in fiscal 2010 in Warrenton, Oregon.

For fiscal 2011 we've greatly increased our expansion plans with a current plan of 29 net new locations, 16 in the US and 13 outside of the US, as well as a couple of relocations currently planned.

Since fiscal year end on August 29 we've opened one new location and it is our eighth business center in San Diego, California, with seven additional openings planned before our November 21 first quarter end.

Those seven include one in Alberta, Canada, one in Landover, Maryland, two new locations in Georgia -- one in Atlanta and one in north Georgia -- and three openings in the Chicago market bringing our presence in the Chicago market to 17 total locations.

We now operate 573 locations around the world, and that includes the 32 in Mexico.

I will talk about the consolidating our Mexico operations a little later in this call as we begin fiscal 2011.

I will also review with you our ancillary business results, our online activities, membership trends, a little bit more discussion about Q4 operating results, our stock repurchase buyback activities during the quarter, and a couple of other housekeeping items.

So, onto the discussion of our quarterly results.

Very briefly, again, sales -- total sales were up 7.8% to $23.6 billion, and again on a reported comp basis, Q4 comps were a 6%, normalized to 4% if you take out gas and FX.

For the quarter the 6% represented an average ticket of plus 2% and an average frequency of just under plus 4%, continuing robust year-over-year frequency increases.

Included in the average ticket of 1.9% or 2%, strong FX and was about half of it was FX and about half of it was gasoline inflation.

In terms of cannibalization, pretty miniscule right now, 30 basis points in the fiscal quarter, not that different, a little lower than past recent months and quarters.

For fiscal 2010 overall, our average warehouse did $139 million, up from $131 million a year ago or 7% increase.

Again, that has the benefit of FX and gas inflation.

Just our US warehouses went from $133 million, up $4 million to $137 million.

As I mentioned in terms of sales comparisons by geographic regions, again FX helped in all four fiscal quarters of 2010.

There was actually gas deflation in Q1 of 2010 and gas inflation in Q2, Q3 and Q4 and like September geographic results, the strongest regions were with respect to sales in Q4 and September were Northwest, LA, Southeast and Midwest.

And again international in local currencies are doing quite well with the exception of the UK which is about flat.

In terms of merchandise categories, within food and sundries, comp for this -- I am talking about fourth quarter here -- within food and sundries comps were positive, mid-single digits, no real stand outs, all sub departments were positive.

Our hard line sales showed positive comps in the low single digits, for the quarter.

Strongest sub categories were in the 10% to 20% range, included sporting goods, hardware, lawn and garden.

All tend to be what I will call mid-priced discretionary items for the home.

This was offset by Midas mid single-digit in majors, that's about a third of our hard line sales and of course a big chunk of that is what's going on with televisions.

Within the very positive low to mid-teen soft line comps, great numbers in-housewares, small electrics, domestics, home furnishings and even jewelry was fairly strong coming off certainly weakness last year.

Fresh foods up in a little over 5% in the six point range and all fresh foods sub departments were pretty good.

For the month of September food and sundries comps were positive mid single-digit, with deli and cooler in the low double-digit range.

All departments were positive -- sub departments were positive in food sundries.

Overall, slightly inflationary for the month and I will talk about what's going on with some commodities inflation in a moment.

Hard lines were slightly positive with office, sporting goods and lawn and garden showing the strongest results in September.

Again, majors was negative in the high single-digit range with TV comp sales down in the low double-digit range.

Units also down a corresponding amount.

Soft lines continue to comp in the double-digit range with many department comps in the teens or higher.

Fresh foods, meat and produce finished high single digits for the month and meats continued to be slightly inflationary and even though price -- the produce was high single digits, produce was slightly deflationary in terms of pricing in the month.

Regarding inflation, while up through July and August -- while up to July and August, most commodities were not very inflationary year-over-year, a little bit in the June and July compared to a year ago, but in the past two months we have seen some big increases on various items.

Corn and wheat are up 43% and 37% respectively year-over-year.

That of course, down the food chain will affect your proteins, your beef, your pork, and your poultry.

Hogs were up 69%, cattle up 16% so far, sugar is up 52%, butter up 35%, the only main commodity that showed some negative deflation was cocoa down about 9%.

Talking to our buyers, their feeling is while these high levels of inflation should subside a bit, still expecting some inflationary pressures to many of the food items over the next several months in part because of what I just mentioned.

We have been asked often over the last few months how we as a Company are approaching the holiday season merchandise-wise.

The answer has been consistent, relatively positive and aggressive.

Now moving onto the line items in the income statement.

Start with membership fees.

Membership fees were up 9% or 2 basis points, up to $533 million or 2.26% of sales in the fourth quarter, and that was a $42 million increase year-over-year.

Again, a little of that increase in dollars was FX.

Doesn't change in the percentages because the percentages would impact, the dollars would be impacted on all lines including the denominator of sales.

Unlike FX, dollars and membership were up 7%, or about $36 million.

In terms of membership, we continue to benefit from strong renewal rates, actually ticked up a little bit in the recent quarter.

Continue to increase penetration in the $100 a year executive membership.

Our new membership sign-ups in Q4 were down 4% year-over-year in the quarter.

That's after being up 2% in Q3 year-over-year.

It is really not an issue given if you recall that we only opened two new units in the prior two fiscal quarters of 2010 in Q2 and Q3.

And, more importantly, in Q4 last year, we had huge membership sign-ups in our four international Costco openings, three in July of last year in Asia and one in each of Korea, Taiwan, and Japan, and our first Australia opening last August in Melbourne.

If you take those four out of the equation completely, the fourth quarter new members sign ups, instead of being reported down 4% were actually up 8%.

Overall fewer openings in fiscal 2010 impacted new sign ups year-over-year, but with an estimated 29 new locations planned for 2011 and more than doubling of last year's expansion figure, we should see increased sign ups as we go through this year.

Now as you know, we always start off with a budget that includes everything that we have planned for the year.

Inevitably there is several in the last one or two months of the fiscal year as we try to push as much as we can and get them open as quickly as we can.

My guess is what gives me comfort the 29 will probably be more comfortably in the mid-20s, but that's still quite a big difference from the 13 a year ago.

In terms of members.

The number of members at Q4 end, gold star 22.5 million, up from 22.2 million at the end of the third quarter and up from 21.4 million at the end of last fiscal year.

Primary business 5.8 million, it was also 5.8 million at Q3 but it was right at 5.75 million and up from 5.7 million a year ago.

Add-on, 3.3 million, consistent with Q3 end and actually down 100 from 3.4 million at last fiscal year end.

A lot of that has to do with many add ons as they opted to become executive members, basically get out from under the primary business card holder and become their own independent member, which is gold star member.

All told, 31.6 million members have member households at Q4 end, compared to 31.3 million at Q3 end and 30.6 million a year ago.

Including spouse cards, 58 million at year end, compared to 57.4 million at Q3 end and 56 million a year ago.

At August 29, our fourth quarter year end, paid executive memberships totaled 10.336 million.

In the quarter, the 16 week quarter, an increase of 427,000, or 4% increase during the fourth quarter.

That's about 27,000 a week increase.

Executive members represented about a little over a third of our membership base and a little over two-thirds of our sales.

In terms of membership renewal rates, they continue strong, up one to two tenths of a percent in the past few months.

If you look at our US and Canada because we have so many other countries are so new you always start with lower rates.

Again, the number was up two tenths of a percent to 87.7% in the fourth quarter, from 87.5% in Q3.

Going down the gross margin line, gross margin for the fourth quarter was higher year-over-year by 4 basis points, 10.89 versus 10.85.

As I always ask you to do, to jot down some numbers, we'll do all four quarters of the fiscal year.

So going across Q1, Q2, Q3 and Q4 those will be the four columns, the line items would be core merchandising, second line item would be ancillary businesses, third line item would be 2% Reward, which as we increase penetration that hasn't a hit to the margin, LIFO would be the fourth line item and total.

Again, going across merchandising core in both Q1 and Q2 on a year-over-year basis, it was represented plus 15 basis points, and Q3 down 10 and in Q4 up five.

Ancillary, minus 20 in Q1, plus 16 in Q2, a lot of that has to do with gasoline deflation turning to inflation in Q1 and Q2 on a year-over-year basis, and Q3 plus six basis points and Q4 plus eight.

2% Reward, minus three, minus one, minus three, and minus one.

LIFO, minus one, minus four, minus four, and minus eight, and again that has to do with no LIFO credits or charges this fiscal year compared to LIFO credits last year.

And if you add them all up in Q1 of fiscal 2010 on a year-over-year basis our reported margin was down nine basis points, in Q2 up 26, in Q3 down 11, in Q4 up four.

Let me give you a little color now that you have that chart in front of you.

As was the case in last fiscal quarter, again this requires a little explanation, in the fourth quarter our core merchandising gross margin shows here up five basis points year-over-year and ancillary business gross margin, again gasoline being the biggest impact in this number, contributed plus eight basis points.

First I will add that on a standalone basis our gasoline gross margin in Q4 was up 25 basis points, but keep in mind it is still a very low margin business compared to the rest of the Company and well in excess of 800 or 900 basis points in many quarters.

Our gasoline business and its inflationary price trends during the fourth quarter this year impacted our total gross margin comparison, so again that's why it was plus on that line, but it actually has a negative impact to the Q4 line -- to the core, and I will show you how that works.

Sales penetration of our higher margin core business was down a little more than one percentage point in Q4 year-over-year.

So, whereas sales penetration of our ancillary business gasoline sales were much lower margin of business, was up about 1%.

So, while gross margins of every category of our core merchandise in food and sundries, hard line, soft lines, fresh foods were each higher year-over-year in Q4, by an average in fact of 20 basis points, its aggregate lower sales penetration year-over-year caused it to have a slight positive impact, that's the five basis points you see in the column in the matrix.

I might add in Q3, I mentioned here that the core -- standalone core merchandise gross margin was up 20 basis points year-over-year in the fourth quarter, and in Q3 the core gross margin increased year-over-year by 14, average of 14 basis points.

So a good trend so far in the last few quarters.

The impact from growing our executive member business, again, the results of a higher 2% Reward which impacts the sales line, moved Q4 down by one basis point.

In terms of gross margin outlook going forward, no major issues, margins are fine, and we'll see what goes on with LIFO credits and benefits.

At this juncture we're through the first month, we're ever so slightly deflationary, but -- as a Company, but as I mentioned, we're experiencing some inflation right now in some of these key commodity categories.

Moving onto SG&A, our SG&A percentages Q4 over Q4 were lower or better by 12 basis points coming in at 10.17, compared to a 10.29 in last year.

Again, we'll ask you to jot down a few numbers and why don't we do the same four quarters.

Core operations would be the first line, central second line, stock compensation or equity compensation the third line, quarterly adjustments the fourth line, and then a total.

Going across, core operations on a year-over-year basis in Q1 were higher or worse by 16, so I put a minus in front of that because it is worse.

In Q2 flat year-over-year, Q3 better or lower by 14 basis points and in Q4 better or lower by nine basis points.

Central, a minus three in Q1 or higher, a plus two in Q2, a plus four in Q3 and a minus one in Q4.

Comp -- stock compensation minus three, plus one, plus five, and zero; and quarterly adjustments plus 18, minus 12, plus 17, and plus four.

All told in Q1 SG&A was higher year-over-year by four, so minus four, in Q2 a minus nine, significantly better by 40 in Q3, and again a chunk of that is the adjustment column, that quarterly adjustment column, and plus 12 or better by 12 basis points in Q4.

Now let's start with Q4 here.

Operations were lower or better by plus nine year-over-year.

A big component of this is due again to the gas price inflation, which again while gas has a much lower gross margin it has a very low, close to 1% I think SG&A.

So just like with gross margin percentage where it hurt, it correspondingly helped our SG&A by seven basis points in Q4.

So, within that plus 14, seven of that has to do with that.

Our central expense was higher year-over-year by one basis point and not a big issue.

I think depreciation was a little higher year-over-year, but there were lots of little things that went plus and minus.

Our stock compensation expense was up slightly in dollars year-over-year, but flat as a percent of sales given that Q4 sales were a little better.

Q4 year-over-year percent in terms of US healthcare costs were higher by 11 basis points, and that's of course within the core.

US healthcare costs were up 11% in the quarter and 17% in the year.

If you recall, in the first half of fiscal year 2010 and in fact in the second half of fiscal 2009, we had not only healthcare inflation which we've always experienced, but also the double whammy of lower units and less employee turnover, so less freebies.

As we ramp up expansion over the next year, we should see some of that come back, not all of it but a little of it.

As I mentioned earlier, our payroll percentage has improved nicely for us.

Part of that is the attention we, like many companies out there, have spent during the last couple of years with the bad economy.

I think we're all getting a little better.

Overall, pretty good SG&A performance given current sales levels and increased benefits costs.

In terms of factors that will impact our SG&A experience in 2011, again, the main items of course are sales trends, healthcare costs, gasoline inflation and deflation and of course some warehouse expansion initiatives.

There are lots of little things, but it seems to be working and that's a good trend at least in the last few months.

Next on the income statement, preopening expense, $12 million last year in the quarter, or 5 basis points down, an improvement or lower by $3 million to $9 million in this year's fourth quarter, so a basis point better.

We had roughly same number of openings, six last year and one less this year, five.

The bigger issue is that last year, as I mentioned, we had four international.

Those units over there have significantly more pre opening expense per location, so no real surprises here.

Asset impairment and closing costs, last year we had a charge of $2.7 million, this year a charge of $3.3 million.

All told, operating income in the fourth quarter was up 15% year-over-year from $598 million last year to $689 million this year, or a $91.4 million increase.

Below the operating income line, reported interest expense was higher year-over-year by $1.5 million with Q4 coming in at $34.7 million of interest expense versus $33.3 million a year ago.

Nearly all of that reflects the interest expense on our $2 billion debt offering that we did in February of 2007.

Recall that $900 million of that is five-year paper which will be repaid in March of 2012.

That will be nice given that the interest rate is north of 5%, which was the interest income rate at the time but not anymore; and the remaining $1.1 million will have another five years, so won't be until 2008.

Interest income and other was quite a bit higher year-over-year by $10.3 million in the quarter, coming in at $29.6 million in the fourth quarter.

Interest income was actually lower by $2 million.

Again, we all know what's happened with interest rates and short-term interest rates.

The bigger chunk of the delta -- $10 million plus, a combination of higher earnings in Mexico and some FX gains.

These FX gains relate to where our foreign countries are buying when they have in their respective country foreign-denominated upcoming payables based on open purchase orders for merchandise.

I will use Canada as an example where they're buying some goods from the UK or US and require that.

There is -- that goes plus and minus.

It happened to be a decent plus this quarter.

Onto our tax rate, our Company's reported tax rate this quarter came in at 36.1, a bit higher than last year's Q4 rate of 35.2.

There is always some discreet items that go both ways.

The net change of a few discreet items was the culprit here.

Actually given increased foreign earnings, our relative increase in foreign earnings, relative to [total] earnings in some of these countries on average our corporate in tax rates are a little lower than the US rates.

The underlying rate is actually a little lower, but there is always going to be some discreet items as well.

Now for a quick rundown of other usual topics.

I won't spend any time on the balance sheet since that should be in -- that was in the press release.

But I will give you -- you're always calling to ask depreciation and amortization in the quarter.

Depreciation and amortization was $246 million, and for the year $794 million.

The balance sheet, which again was in the press release, strong debt-to-cap ratios, plenty of financial strength, lots of cash.

We're trying to spend some cash both on increased stock repurchases and ramped up in expansion over the next year.

I will talk about that in a minute.

Our average inventory per warehouse was up $184,000 per warehouse to $10.4 million or about a 2% increase.

So, that helps our turnover given that sales increases were higher than that and also helps our AP funding, even though we take alternative discounts and pay as early as possible based on those incentives.

Our reported AP ratio, accounts payable as a percent of inventories, a year ago at the first quarter end was 101%.

This year was 105%.

Now, that in fairness includes non-merchandise payables like construction payables, but if you take that out and do a merchandise accounts payable to merchandise -- actual merchandise, the 84% a year ago year-end up to 89%, so the same trend up five percentage points, so a nice showing there.

Within the $184,000 increase about a quarter, a little over a quarter of it was FX.

Of the remaining part, food and sundries was up about $175,000, hard lines was actually down about $115,000, and again FX was the rest of it.

Good inventory showing, our inventories came in clean at year end and we feel good about going into the holiday season as well.

In terms of CapEx, we spent $411 million in the fourth quarter and for the year $1.055 billion, 1.055.

Our current estimate for 2011, again given the dramatic increase in the level of new expansion, will be in the $1.5 billion to $1.6 billion range.

Also I want to mention our dividend.

Earlier in May we increased, as we have done in each of the last six Mays, we increased our quarterly dividend from $0.18 a share a year earlier to this past May $0.205 a share on a quarterly basis, so $0.82 on annualized basis.

That represents a total cost to the Company of about $360 million.

Costco online, as you know, in 2009 compared to 2008 was down I think 5% or 6% in sales, still quite profitable.

As you know, a cornerstone of our dot-com is limited items, but big ticket items.

Certainly big ticket discretion items weren't helped in 2009 as opposed to late 2008, and sales in 2010 versus 2009 were back up to a little bit above the high water mark from the previous year.

These were impacted in the past year given our big ticket discretionary items and the economy, but seemed to be back on track with a plus sign in front of it.

In terms of expansion, in 2009 as you recall we opened 16 net new units, including one in Mexico and 10-13 net new units, and in fiscal 2011 again our current plan is 31 total new units including two relos, so 29 net.

Those 29 include eight in Q1 and two in Q2 before calendar year end and the rest in the second half of the year.

Within the 29 there is 16 in the US and 13 outside of the US, three in Canada and then ten that are international, so picking up our international plans.

Again, if I was a betting person, as history has shown, the 29 probably is solid mid-20s number.

Still a lot better than the 13 and 16 in the prior two years.

In terms of common stock buybacks, since the beginning of our buybacks back in June of 2005, we have now through fiscal year end we repurchased 98.7 million shares at average price of $54.39 per share, or just under $5.4 billion.

Total authorization, aggregate authorizations from our board from that time until now was $6.8 billion, so we currently have a little more, right around $1.4 billion authorized.

Now of that amount, $400 million expires in mid November of this year with the remaining $1 billion expiring in mid November late next year.

My guess is that we will leave a little on the table from that remaining $400 million.

It really doesn't matter.

I think as I have shared with many of you over the past, on an ongoing basis our board has looked to have us and with management here to buy back on a generally regular basis with the exception of that year during the downturn in the economy, and the concerns about liquidity of cash.

We had plenty of cash, but there was concern about the liquidity of it.

But I would assume that if and when we do repurchase and need more authorization, that will be easily forthcoming.

As you know, in the third quarter was a ramp up to almost 2 million shares, or about $115 million.

In the 16 week fourth quarter we bought 7.8 million shares for $439 million.

Again, long-term we're most likely buyers and will continue to watch the market.

I will say right now we bought less in the last few weeks per share because what we have to do is a 10b5 filing to be able to buy during blackout periods, of course this is our largest blackout period over the last several weeks -- of six or seven so weeks -- because of year-end earnings and sales releases.

We have to put in place, if you will, a buying matrix prior to that.

At the time we put that in place the stock I think was in the mid-50s, and who would have thought it would get this high so quickly, and that's been a good thing and we'll readjust that going forward.

Our supplemental information packet, has that gone out, Dave?

That's also going out, so you see that on our website, will go out by noon, and will be posted in the Costco Investor Relations site later this morning.

One last housekeeping note, effective start of 2011, fiscal 2011, so August 30, we began consolidating the results of operations of our Mexico joint venture.

Historically these operations were treated as an equity method investment, thus we only reported our 50% share of the joint venture's net income within our non-operating other income line on our income statements.

At the beginning of 2011 we were required to adopt a new accounting standard which makes it appropriate to fully consolidate Costco Mexico joint venture into our statements.

In effect it adds approximately 2% to 3% in the top line sales, assets and liabilities.

100% of the venture's financial statements are now included -- will now going forward be included in our P&L and balance sheets, and then the 50% portion held by our joint venture partner, the earnings in that will be backed out in the bottom of our income statement to offset the fact we only own 50% of it.

There is no net effect to Costco's bottom line, but just another little thing to confuse you for the next four fiscal quarters.

With that I will open it up for questions and answers, and I will turn it over back to Ashley.

(Operator Instructions) Your first question comes from the line of Charles Grom with JPMorgan.

Thanks.

Richard, looks like you said, want to make sure I heard you right, the core within the core was up 20 so that's relative to the plus 14.

Yes.

In the third quarter, is that correct?

Can you walk through, you said that all four of the categories I think were up 20.

Can you walk through each of them and give us a little bit of color if possible?

They were all -- I think the lowest of them was a high single-digit and the highest was high 20s, I believe.

I don't have it right in front of me but they were all pretty good -- or low 30s -- they were all pretty good.

Okay.

And then on the SG&A growth in the quarter, it was up in terms of dollars 6.5% which was the lowest of the year.

Do you think that's a pretty good proxy for us as we look forward over the next four quarters?

Again, with the caveat that we don't provide guidance, so far so good, at least trend wise.

Certainly there is a lot of focus on expenses around here, recognizing we don't do the simple things like just change benefits to employees, and as you know in March we looked at our top scale increases for the upcoming three years, and even in the midst of a terrible economic downturn we gave pretty good numbers out to our 90% of employees that are hourly in our Company.

So, notwithstanding that, we, I think, have gotten a little better out there and I think some of those things will continue.

We also like a little sales increase.

I think if I heard you correctly, you said the average store in the US does $137 million.

I was wondering if you could go into the state of California and particularly LA and San Diego and give us a little color on how productive those stores are.

I know they're more productive.

One, how much more productive are they and then how more profitable are they?

And if you have any sense for how much that hurt your earnings over the past few years given the softness in that state?

Remember, what we call and we operate our San Diego region includes San Diego, some of the cities East of that like El Centro and San Bernardino, as well as Colorado, Arizona and New Mexico.

Of course Phoenix hasn't been so swell either, and the Southern California market, if the average is $137 million, my guess is we're in the mid-150s, maybe high 150s.

Bob and Jeff are sitting here saying the low 160s.

Recognizing we have some 250s down there, too, but certainly as comps even when we were two years ago when comps were healthy for the Company, relatively speaking those regions were always a little lower because they are more mature and we have done more cannibalizing.

While they have shown, particularly LA has shown some relative strength in the last couple of months and quarters, it is relative strength.

It went from low to slightly negative comps at its trough in the last year-and-a-half to a very slightly positive.

And clearly at zero to one, zero to twos, even though it has a plus sign in front of it, it is tough to leverage those expenses.

So again, it is improving, but it is certainly been our toughest region from an operating leverage standpoint.

My last question is in regards to the trend.

It sounded as if the last week of September was a little bit softer.

Was that true in California and I guess can you explain away what happened in the MVM?

Looks like the number of days were pretty consistent year-over-year and the timing was consistent, so if you could just explain that.

The single biggest thing is while they were both MVMs, I believe it had more to do with the tail end of a year ago it was -- no, this last year it was that week, week five was the first week of a new MVM.

This year in that corresponding it was the last week of an old MVM.

Clearly you get a lot more bang for your buck in the first week than your last week.

And again, as we've said over the last several years, these things have become more important and good, and certainly with the frequency increase and the fact that many of the items are what I will call things for the house, both food and sundries and mid-priced non-foods items instead of some of the big ticket discretionary items, they're important to us.

Great.

Thanks very much.

Your next question comes from the line of Deborah Weinswig with Citigroup.

Great.

Thanks so much.

Richard, it's been quite some time since you've raised your membership fee.

Outside of the economy at this point in the game, is there anything else that's holding you back?

Not really.

But again, when asked the question, I remember posing it to Jim probably in mid 2009 the first time well before we would even consider something, but I said all things being equal I think the factors that don't give us any concern about increasing it is our renewal rate strength and our member loyalty strength, and certainly executive member helps that as well, that loyalty.

That being said, I think that all things being equal, we would wait awhile given the economy.

Now, wait a while doesn't mean forever, but it also doesn't mean we have to do it the first day of whenever X is, and at this juncture we don't feel any pressure to increase it.

I think a few weeks ago when one of you probably on the phone was talking to me on the phone and asked the question, I said if you're a betting person, at some point in the next couple or so years, yes.

I don't know if it is nine months from now or seven months from now or 18 months from now, but if you look over the course of the next few years, my guess is there is an increase.

But, right now if the decision was today, we wouldn't do it today, just because -- let's not do it in the face of a bad economy, but we certainly feel comfortable from a competitive standpoint and from a loyalty standpoint.

Turning our focus to real estate, will more of your new stores be outside of the US going forward or is there something unique about 2011?

Well, I think may this -- it is a big jump for us in one year.

I don't think it keeps jumping, but it will keep going up, yes, overall.

All you have to do is look at our segment analysis.

We've had some good results and recognizing these have to happen over time.

As I think Jim has said a couple of times to some of you, every new country starts with a trail of tears.

It takes five plus years to get to a bottom line profitability in many of the countries, but then you go another five years out and some of these countries are doing very well and we've certainly upped our commitment.

If you go back a few years ago, I think using simple examples like Korea and Taiwan, at the time we had maybe four or five units in each and today we have six and seven units respectively in those countries in Taiwan and Korea.

I think if you go back to some of those charts, we said how many will we have 10 years hence?

If you go back three or four years ago that 10 years hence number was 15 for each country.

I think our feeling now is 25 plus.

Who knows where the actual number will be, but certainly we feel more confident.

In Australia the percentage increase will be huge because we have one unit and our competitors, the two biggest retailers down there, we feel are fighting us at every juncture to slow down the process.

But we'll get a second unit open in the -- first in Sydney, in the Sydney area this calendar year and certainly we'll open more there.

As you know, Mike Sinegal, who opened and ran Japan which is very successful and growing nicely, moved to Europe in the past year and my guess is we will announce something over the next year, but again it will take a few years to get something that's meaningful to our Company.

Is that 10 years hence number in the US kind of a 600 number?

I think right now we're at 425-ish in the US in terms of number of warehouses or a little higher.

437.

I think over 10 years that would be 17 a year.

To get to 600 that would be like 16 or 17 a year in the next 10 years.

That's not out of the question.

Again, in a year where we opened six or seven, it seems not plausible, but there will be a light number this year.

My guess is if I had to be -- give an honest guess of what 10 years hence is, it's probably at least 550 and probably not more than 625.

You know, we just opened our eighth business center.

We'll see how that continues to go.

That could add a few extra a year, not this year, maybe one, but we'll see.

We feel that there is still plenty of opportunities.

Keep in mind, as I mentioned in the release, we just -- it was 10 or so years ago when we opened our first Chicago unit, although there are not a lot of barren Chicago's for us in the United States, but we just -- next month we're opening or two months from now we're opening our 15th, 16th, and 17th units in four successive days.

And last topic, I think last year your eCommerce business was $1.6 billion.

How should we think about that in terms of your focus and your investment, and where do you think that can go in terms of as a percentage of sales or just kind of as a key focus in terms of future growth?

Well, I think you and others on the phone, many of you have known us for a long time.

Jim has stated often that he thinks even when we were at a billion and arguably growing at 30% or 40% a year a few years ago, that this should be a $5 billion business down the road.

I don't know if down the road is five years or 10 years.

But it is going to keep growing.

As you know, it is all about focus on merchandising.

We're not going to Tweet and we're not going to gift wrap, and there are some things we aren't going to do.

Certainly the last year-and-a-half has been tempered with big ticket discretionary items.

We're encouraged what we have seen, again, in the last few months on some things.

We're not going to go crazy on it.

It is a nice profitable business.

It has some benefits to our warehouse as well sometimes when some vendors will sell us there first and then ultimately hopefully we can talk them into the rest of the Company.

So, again our initiatives will be I think methodical and continue to grow.

But again it is a nice chunk of business, but if I just looked, put blinders on and just looked at bottom line excitement, I think the foreign expansion over the next few years -- given its profitability -- is probably more important.

In the next few years, who knows where it goes from there.

Certainly many of you and probably you're correct, we have a wealth of information and great opportunity to push eCommerce in the future and we'll do it in a methodical way.

Great.

Thanks so much and best of luck.

Thank you.

Your next question comes from Robbie Ohmes with Banc of America Merrill Lynch.

Hello, thanks.

Richard, two quick questions.

One a follow-up on inflation versus deflation.

I think you said produce was deflationary.

Can you talk about why that was deflationary, maybe a little bit more and also what else is maybe deflationary and maybe work into that how you're feeling about TVs and the outlook for the TV business for the rest of the year?

And then the second question is just on the competitive environment, what you feel like you're seeing out there from Wal-Mart.

And also I don't know if you have looked at or thought about what Target is launching with their REDcard I think in a week or two here with the 5% off for all the customers with REDcard and what you think about that program competitively?

Thanks.

First of all, when I talked to Jeff Lyons who heads up all fresh foods and is always entertaining to hear what's going on out there, with produce it's as much -- and produce and even some poultry and fish, it is as much what's going on with hurricanes and tornadoes and heat and cold, and Russia deciding not to export wheat and the impact that wheat skyrocketed -- and the view is it skyrockets a lot more than it should have just based on that comment by Russia; what China does with consumption of nuts, of which some nut prices have doubled and tripled in the last six to nine months.

So, there is a lot of things going on out there.

Produce specifically if you ask Jeff Lyons, it is more crop production and weather and rain and pestilence driven than anything else, and not the economy.

The economy might be a little like, again if you look at nuts, I hear the biggest reason I hear from the buyers has to do with the ever increasing rising middle class for limited resources, higher end commodities like pistachios and pine nuts and things which have skyrocketed.

But again, those are small dollar amounts to the total Company.

In terms of TVs, for a number of months starting probably in early to mid-calendar 2009, again, this had -- I am sorry, early calendar 2010, it had more to do again with rising demand in countries like China.

I think it was January, February, was the first month ever that the Chinese consumer bought more TVs than the American consumer.

That tended towards some modest inflation in a category that has always been deflationary, an extreme deflationary when the stuff hit the fan in late 2008 in the economy, that has kind of subsided and turned around.

I think last month we actually had slight deflation for the first time in several months in the TVs and pretty consistent with what our buyers told us and what I shared with many of you as you asked over the last many months.

By the way, that lack of deflation and modest inflation, again partly because there was demand elsewhere in the world, that impacted us, as you know, in a bigger way because of the MVMs.

We drive a lot of business.

A year ago on one SKU of a $1,000 SKU of a TV, over three weeks we might sell $20 million or $30 million of that one item.

There were not a lot of promotional $100, $200, $300 off on flat screens over the last several months.

That's starting to turn more in November and December, not to where it was, but a lot better than it has been the last several months.

As relates to the Target 5% card, we understand how affinity works.

Certainly our executive member success.

As I understand it, the 5% off is on not only on the REDcard or the Target credit card, but also on the debit card.

I understand the credit a little better from the standpoint there is income associated with APRs and late fees and carry balances and what have you.

On the debit, that becomes a more expensive proposition.

It must be working for them because they're rolling it out.

Ultimately I can't answer it, they have to.

How long will they do it?

I assume they'll do it as long as it drives business in the right direction.

Who does it impact most?

It impacts their direct competitors and my sense first, certainly other traditional discounters like Wal-Mart and K-Mart and the like and perhaps some of the apparel discounters.

It is not a positive.

Everybody that incrementally goes in there one more time and buys anything and also is a Costco member may not buy something at Costco.

We don't think it is a big impact to us, but it certainly doesn't have a plus sign in front of it.

We're watching it.

I don't think you need to worry about us doing a 5% card.

We have done quite well with our executive membership and I think it will be interesting to see what their direct competitors do.

Great.

Thanks a lot, Richard.

Your next question comes from Peter Benedict with Robert Baird.

Richard, a couple questions.

First just trying to understand the impact of consolidating Mexico.

You mentioned a 2% to 3% lift in sales in 2011.

Should we think about membership fee income growth lifting a similar rate, maybe 2% to 3% incrementally?

And then how does Mexico compare to the rest of the business in terms of gross margin profile and operating margin profile?

First of all, again, the bottom line doesn't change because instead of just adding half of Mexico's earnings to our interest income and other line as we have done historically, we now put in the whole income statement and subtract half the earnings on a new line down below, non-controlling interest line which is below pretax, and it is kind of pretax before that and then that and then pretax -- it is after tax, I am sorry.

It doesn't change our bottom line net income.

When we get to the first quarter, we'll, I am sure I will add another line item to my matrix because what I will have to do is you're adding 2% to 3% to the denominator; it's about a $2 billion business expressed in dollars.

It will wreak a few basis points of havoc with margin and SG&A, but not much because it is not that different than our current Company.

Overall it is more productive, but overall it is also a lot less volume per warehouse.

The volume per warehouse is in the 60 plus range, not 130 plus range, but even at those volumes -- we have great wages relative to competitive down there, but a lower percent of sales than up here -- margins are comparable.

Yes, margins are comparable, SG&A is a lot better.

Great.

I'll look forward to the new line items on the next call.

When we think about the US healthcare costs, I think you said it was up 17% in 2010 with it being up about 11% in the fourth quarter.

Any initial thoughts on where that's going to be in 2011?

Well, I don't know completely.

There is a few small initiatives that we can do.

Some of the initiatives that we want to do we can't do right now because of the new federal legislation that, when you start making some changes, you -- certain things that are going to impact healthcare for all companies in the US over the next five or six years under the new federal healthcare, you will lose the ability to bring those in over the next five years.

And I think that was a way to guarantee that companies don't change things, recognizing ours are very generous to start with.

So, I think less impactful than to other companies over the five years.

I think the biggest thing that will help us a little, or mitigate it that hurt us over the fourth quarter starting in Q3 2009 through Q2 of 2010, was this fact that if you go back to 2008/beginning of 2009, about 82% of our US employees were covered with healthcare.

They were eligible and covered.

And the only reason the other 18% or so weren't is because they're new employees, anywhere from zero to six months and if you are a part-timer, part-time hourly it takes six months to become eligible, full time hourly three months.

The fact we went from 25 or 26 units a year and 16 in 2009 and 13 in 2010, and the fact that in a bad economy even existing employees are reducing their relative turnover because nobody is leaving a job, net that a higher percentage are eligible.

In one year we went from 82% to 91% or 92% participating in our eligibility plans, so on top of what I will call 10-ish% inflation, you had another 10-ish% of employees in the healthcare plan.

That is not going to go back to 82% in a year, but it should be a mitigating force to whatever normal inflation is.

And so if I had to guess, it is high single-digit, maybe a little higher.

We will have to wait and see.

Okay that's helpful.

Just lastly, you had a nice core gross margin increase in the fourth quarter, you talked about the heightened level of inflation that's starting to come through the business next few months.

How should we think about the inflation impacting the kind of outlook for core gross margins going forward?

I don't think it has a big impact.

We have always said that when prices are increasing we want to be the last to raise it, but we're also not going to get hurt by it except for that one time in late 2008.

But a little inflation I think will be helpful.

Again, those numbers I gave out on those selected commodities are huge.

They will be coming back -- the feeling is they will come back down a little bit, but it will still be pretty big.

But those impact many items but not every item.

So, I think -- and of course private label has a deflationary net impact and one of the reasons that private label is improving not only here, but other food retailers is because people are looking to save some money.

And so I think overall, as I've said many times, a little inflation net will be okay.

I don't think we get hurt a little bit by holding onto lower prices longer than we have excess inventory in those categories.

We buy in usually when there is a price increase announcement on a consumer brand and the manufacturer will let us and other big retailers or other retailers buy one, two, six weeks at the prior price and so we'll hold our price as long as we can.

That's helpful.

Thanks so much, Richard.

Your next question comes from Mark Wiltamuth with Morgan Stanley.

This is actually Joe Parkhill in for Mark.

I was wondering if you could talk a little bit more about your September US comp versus August.

I know you mentioned there is a difference in timing in the MVM, but is there anything else that changed between the two months as far as categories go or perhaps regional perspectives, in the deceleration of the comp?

Not a lot.

I am not trying to imply that the five -- it is broad based.

My guess is that the five was certainly stronger than the two's and three's we enjoyed in the few months prior to that.

Was the five a slightly less strong five or rounded down to four?

I don't know right in front of me, but arguably going from a five to a two, that's three percentage points.

Maybe there is a percentage point or so of delta in those that maybe half of it is -- maybe a little piece of it is rounding and half of it is real and the other piece is not.

It is not dramatic.

I am certainly not trying to imply it was all timing and 115 degrees in LA.

It is not.

Okay.

And the problem is again we're not -- we of course don't sit around and try to be economists and say it was because of labor statistics or housing starts.

Generally we feel good based on how last week was or feel bad based on how last week was.

But we know that week to week it is more volatile than it used to be.

I don't think we've changed, I know we haven't changed our view about how we feel about in terms of seasonal stuff going into Christmas, whether it is original trim a tree, wrapping paper and some toys, those have generally been pretty good.

And as you may know that during earlier in the year with things like patio furniture and January through April we were scrounging for stuff a little earlier.

Now some of that arguably is pent-up demand.

But at least for the seasonal stuff we feel pretty good about it so far.

Okay.

On the international comp, the comp seems to accelerate between August and September.

Is the inclusion of Mexico accretive to the total comp or is there any other change in the comp trends across the different countries?

Mexico -- first of all, for September, no, Mexico is really a non-issue.

It is about the same.

Asia is very strong.

UK is a little weak, and Canada actually has been -- Canada is a 70 plus unit, $12 billion division that country that is as old and predictable as the US, and their economy up there has been very robust the last two years.

They didn't have the banking and financial markets issues that the US had other than some carryover from the US, but nothing like the US and natural resource benefited.

So, we have underlying comps in Canada over the last two years probably averaging above five, six or seven.

It has been really fun up there.

Okay.

Thank you very much.

Your next question comes from Mark Miller with William Blair.

Hi.

Good morning.

I also have a question on international and I know we'll get the details with the 10-K, but was hoping you could provide prospective on the year to year margin improvement in fiscal 2010 for the US and the non-US businesses?

And the since you're getting very good margins outside the US now, wondering if you think there will be a long-term margin lift to Costco as international grows faster than the US?

History would say yes as we would -- I would also say that you never know what tomorrow brings, but history would certainly impact that in a positive way.

Richard, do you have the margin numbers for fiscal 2010 US, Canada, other international?

You mean segment analysis?

Yes.

I think that will come out in the 10-K, but trend wise it should be good.

Do you think you got more margin improvement outside the US given the stronger comps?

Yes.

Okay.

And then --

We should have higher margin warehouses outside of the US to start with.

And then looking at the international business, do you think we're at mature level on profitability or --

What's that?

I'm sorry.

Are we at a mature level on margins, can that go higher or as you add more units does that kind of cause that to be kind of flatter from here?

Well, again, I think internationally our margins are quite strong.

If anything, you don't want them to get a lot stronger because Jim will say they're too strong.

I think we feel very good about where we are internationally and in Canada frankly.

Really if you look at it, the US has been the greatest challenge over the last couple of years, in part because that's where cannibalization occurred, in part because of places like Phoenix, these higher sales volumes places like Phoenix, LA, San Diego, that have had the weakest relative comps and so the toughest expense with equal higher healthcare costs and so that's been probably more of a challenge in the US.

Again, I am cautiously optimistic that the focus -- we've said it for 26 years, we're doing more about it in the last 18 months, as all companies are, the focus is on expenses, and we're not going to take the easy way out and not give a bigger smaller -- we're not going to give a lesser increase to the top of a scale hourly.

We're very proud of the fact that we did that.

We're not going to take a piece of the healthcare benefit down just to try to mitigate costs.

We are doing a few things to manage that a little better, but what it comes down to is what things really -- and again 90% of everything or 90% or more of everything is in the warehouse.

What can we stop doing that we're doing well but shouldn't be doing, and I think that the ongoing commitment and reality of sustainability helps.

As I've said before, sustainability rhymes with profitability.

It is not just helping margins a little bit, but when you have got -- when you're moving tens of thousands of pallets on a given item in some cases, fewer pallets in the warehouse, it is labor in the warehouse.

So, we're focusing -- I am not trying to be coy.

There is a lot of little things that are helping us right now and I think that will continue and boy would it be nice to have a little more sales to go with it because that would really improve it.

I think we have done pretty well and one of the reasons in the call I talked about payroll dollar increases being less than sales dollar increases, that's a relative improvement for us over the last -- since comps had fallen a year-and-a-half ago.

Thanks, Richard.

Your next question comes from Adrianne Shapira with Goldman Sachs.

Thank you.

Just, Richard, following up on your last point recognizing as you said, there are a lot of SG&A warehouse expense initiatives that have been working as of late, if you can give us a little bit more examples or perhaps if you were to harness all these little things in aggregate, what sort of opportunity that could present when you have kind of summed them up?

I don't want to do that because it is a slippery slope.

Again, I am not trying to be coy.

We're starting to see some of the benefits of some of that stuff, and again we can do a couple of easy things that would equal this quickly.

Actually, some of the things that we're doing are working and will continue to work and I am hopeful that each of the next couple of quarters will show that progress, but I can't really give you a number.

Okay.

As long as it exists.

On the holiday -- when you described holiday, you kind of use the word positive and aggressive and I am just wondering maybe could you explain what you meant by that?

Is that inventory?

Is that pricing?

What does that mean heading into the holiday positive and aggressive?

I meant it in one-way, inventory.

We feel good about the stuff we're getting in the door.

We feel good about selling through without risk of big markdowns.

We've had good sell through on some seasonal stuff, even and even in -- again I know everybody wanted to see a little higher number on comps in September, the reality is that a little of it is MVM timing related.

A little is other excuses.

At the end of the day it was a little worse than it wasn't as good as August, but it really hasn't changed our view and frankly hasn't changed our success with some of the seasonal items.

That actually has been pretty good, so I think we feel -- and the customer is coming in.

So, it doesn't help when televisions which are major -- what we call majors, televisions being by far the largest component of majors, which is a 6% of our Company sales, is down 10% instead of being up 4% or 5%.

All of these things, that impact a little, bit but we feel very good about apparel.

Jewelry has been a surprise recognizing it was down a year ago, but a pleasant surprise the last couple of months.

Small category, but nonetheless.

There haven't been any great exciting things in electronic games in the last year or two in terms of new consoles, so that tempers it a little bit.

I am shooting from the hip here with things.

The core stuff is doing great, fresh foods, small and medium priced non-food items, and we were with a group a week or so ago talking with Dennis Knapp our head of non-foods, and in the last couple of months we're seeing 10% and 20% comps, which even on a combining these comps with a year ago comps over two-year period, we're above the high water mark nicely in some of these categories.

So, it is not all bad out there, and hopefully we'll see that one single number improve a little next month.

We'll have to wait and see.

Okay, and just following up as far as being a little bit more aggressive on the inventory front, any specific categories that there are some investments being made and how we should think about discretionary seems to be having some signs of life the positive mix shift as it relates to margins heading into the holiday season?

I am less thoughtful or concerned about margins.

It is really across the board.

Majors, domestics, apparel, we have some great things in apparel whether it is outerwear, which arguably outerwear was a little weak in Los Angeles when it was 112, but actually it wasn't.

I stand corrected.

Dennis, last week told us that, that was one surprise even with the heat down there, but partly it's availability of products.

Lastly, recognizing it is still a tough back drop and I know you don't provide guidance, but when we think about heading into 2011 and you think about the tailwinds, headwinds you've seen up until now and what you're seeing ahead of you as it relates to sales, expense opportunities, maybe shed some light in terms of how you think about where we are in terms of more tailwinds and headwinds into 2011 and where you think the sources of opportunities are on the line items as we think about next year.

Thanks.

I think overall we feel pretty good not knowing what happens tomorrow.

I know you're trying to get more out of me here.

I think the comment --

I can try.

Aggressive merchandise wise into the holiday season makes me feel good.

I am still not thrilled about healthcare expenses, and pending legislative changes that will impact everybody in the next few years.

The double whammy of reduced openings and more people in the plan percentage wise, that will subside and mitigate that a little.

Expansion I think is a positive, particularly international expansion, and sure as Jim was sitting here talking to you, and you asked about margins, we're not going to go crazy.

Margins are fine, and I think that's a good way to look at it, despite everything that everybody is doing out there, our view is we're still the toughest and we have room there and we have been smart about how we can improve margins without doing the wrong things.

And keep in mind over the last eight, nine years since the introduction of the executive member, we have hit the reporting margin line by about 105 or so basis points and margins are okay.

So, that was offset with something, and notwithstanding the fact we're constantly being the most competitive out there in our view.

So, we feel pretty positive, but I don't know there is different levels of view point out there, but over here I think we feel pretty good going into 2011.

I can't, again, quantify it.

Thank you.

Your next questions comes from Dan Binder with Jefferies & Company.

Good morning.

It is Dan Binder.

Just wanted to touch on the consumer electronics business a little bit more and I know you said TVs continue to be soft in September, but you also mentioned that you thought sounded like the vendor sponsorship might get better in November and December and I was wondering if you could give us a little color on what you're expecting in terms of sort of the increase in promoted items and the mailers versus what we have seen in recent months and also wondering if you can comment on your computer business in September also.

I think if we look forward, and I am sorry, the first part of that question somebody was telling me something here.

I am sorry.

Yes, just trying to understand when you talk -- you mention TVs were still soft in September, but you thought it could change in November and December it sounded like it was tied to vendor sponsorship and I was curious what kind of improvement we were going to see in items promoted in the mailers.

Is that going to be a meaningful increase over what we have seen recently and if you can quantify it?

TVs are units in September down in low double-digits and dollars were down in low double-digits, and talking the buyer's expectations for November and December will be up in the low single digits just ie better, but we'll have to wait and see.

In terms of computers, dollars we're down like amount, low double-digits and I think there was, I am not sure -- in my notes here I don't have anything about inflation or deflation.

We tend to have, as prices and computers keep going down, we tend to add more things to it.

Some are arguing that the iPad is cannibalizing computer sales to some extent.

Just cannibalizing discretionary dollars that the consumer has to spend.

Do you anticipate getting the iPad at some point soon?

I don't anticipate getting it between now and Christmas, and who knows what the future holds.

At this point we don't have it.

Okay.

Lastly, in terms of the -- I don't know if this falls within guidance or not, but from the standpoint that you have some understanding of what your expenses look like on healthcare and what are you thinking the leverage point is on comps as we head into the new year?

Is it still 4% or 5% or closer to 3%, or any color you can give us on that?

Well, we know as a starting point Q4 had leverage, positive leverage, and I think we're only one month into -- one four week period in terms of our own P&L into this fiscal year.

We still showed a little bit of leverage with a little lower comp, so that's encouraging, but I can't quantify it exactly.

It is harder than it ever was.

I think whatever those leverage points were two years ago, they are lower today because we have gotten a little better, but probably not as low as others out there.

Okay.

Great.

Thanks.

Your next question comes from Colin McGranahan with Bernstein.

Good morning, Richard.

I think if you look at the core core merchandise margins up 20, that's the best performance in awhile.

Can you give us any more insights?

Sounded like it was across the board, but what drove that and I know you have added or adding a pretty good little bit of private label this year in terms of the number of SKUs, how much of an impact was that and what are you seeing there?

That's a little bit of the empathy.

It is all of the above.

It is that.

We've talked over the last few years about margin initiatives on some items flowing through the depots, and it really is all of the above.

The strength of fresh foods, which is on average a higher margin, at the higher end of our range of margin acceptability, and so again I think all of those things have helped us.

Great.

Thank you.

Your next question comes from Laura Champine with Cowen & Company.

Good morning, Richard, just a quick one on the inventory buys in the holiday.

I think you've already mentioned that your expectations for TVs are looking up, but otherwise are there any changes in the way you're allocating those dollars, if you could just speak generally across categories, that would be great.

I think relatively speaking, some of those mid-price non-foods categories we have gotten more aggressive because our numbers in the last several months have continued to go up.

I think if I go back six months ago, I don't have the numbers in front of me.

If I go back six months ago some of the same categories were showing 10s and 15s in comps, and more lately showing 10s to 25s, and so we probably got a little more aggressive on that.

Domestics, apparel, jewelry, again the last couple of months have been a little better, so we have turned that corner, I think, and literally seasonal we've ramped up from a year ago, trim at home trees, gift items.

And you have the flexibility that you can step up just on trends you're seeing in the most recent months?

My guess is we have more flexibility than others based on limited SKUs, again structurally, I've always said this, even in things that are truly seasonal and truly fashionable like apparel, we're into fashion basics and so for us fancy means a different design of a crew neck sweater or a different color of a slightly different normal color of a dress shirt, nothing too fancy.

So, same thing goes with housewares and things.

Our view also is true seasonal stuff we're in new season early and out early, so we always have a little ability to be more aggressive structurally, because we don't have risk of giant markdowns in our view relative to others, other traditional retailers in those categories.

So, again I think all of those things help us and certainly the confidence of the fact that customers are coming in more frequently and continue to do so and continue to renew more regularly, all of those things give us confidence, too.

So, it is kind of not fair sometimes, but we have less risky items even in risky categories relative to traditional retailers, and if we make a mistake, it is usually not giant markdowns.

The one time we were hammered a little bit with extra markdowns was in late 2008 and June, July of 2008 we're committing to patio furniture coming in and in January through March of 2009 and certainly then something bad happened in October and November of 2008, so for us even then it wasn't giant.

It was a small category with big markdowns, so maybe I don't have the inn in front of me, an extra $10 million or $15 million of markdowns, $0.02, but not the end of the world.

I think those things give us the ability to be more aggressive.

Got it.

Thank you.

Your next question comes from Gregory Melich with ISI.

Thanks.

Really two questions.

It sounds like the payroll growth just 3% in the US, it's an impressive number, and I am just curious do we expect that to just accelerate a bit as the store growth accelerates or can you actually keep it that sort of level?

And then I had a follow-up.

It is going to -- it certainly will grow as we grow locations, and certainly not every location starts off at the average, but first of all a lot of that growth let's say take growth in Asia or the payroll percentages are a little lower there than here, so that mitigates it a little bit.

Clearly if you add people -- if you add new locations and new markets, where your hiring new employees, they're all starting, generally a vast majority starting at the bottom of the scale and it takes four or four and-a-half years to get to the top of the scale for full timers and six to seven years for part-timers and of course now you have turnover on top of that that helps you in terms of average payroll dollars.

So, I think at the end of the day, yes, you don't keep it at that low percentage, but it doesn't grow faster than -- there is nothing about opening a bunch of new units that cause it to go up higher, at a higher rate.

Got it.

And then second you let off call by mentioning benefits were up 14% and healthcare was up 11%.

Is the healthcare in the benefits number or is that a separate number and just explain is that workers comp?

What's actually in that?

Healthcare is the biggest chunk.

I believe a piece of it was also what benefits and as you're saying that I'm not knowing why I should have mentioned it back then too, it was this past year we had -- we had a change in floaters I believe, and correct me if I'm wrong, Dan, somebody here in my office, one of the reasons that total benefits costs increased 14% and healthcare costs within that were the biggest component increased 11%, there was the floater holiday change that added to benefits, which is really not -- I should have taken that out.

My guess is the 14% and the 11% is not as different as it appears.

I bet you that's the biggest chunk of that delta.

Sort of a step function change to a new level and now you run at that going forward?

Yes.

Great.

Now last question was on the buy back and clearly you ramped that up, but at the same time the share count is steady and I know you have a convertible and options, et cetera.

Could you help us out in terms of what sort of buyback you think we need to commit from a capital standpoint to maintain the share count and really how much the shares can fall if we keep buying back at $1 billion plus a year rate?

If you just took $1 billion as an example times 63, 69, which is on my screen right now, that's 15.5 million shares.

You will reduce share count.

Keep in mind, Q4 was a big relative annualized ramp up compared to Q3, and of course compared to Q2 we only had one week of purchases at the end of Q2, so a dramatic increase.

On average if it is a 16 week quarter, if you bought back every week, you only had half of that impact in the quarter and an eighth of that impact to the whole year.

So, on annualized basis for the year you had very little net increase relative to the aggregate number of shares because so much of it was -- well, almost all of it was skewed in the second half of the year and probably 70% of it was skewed into the fourth quarter of the year.

And so I think on a more regular basis using your $1 billion number as probably a decent guesstimate, whether it is lower or higher in 2011 we'll see, but using that number, right now on an annual basis what are we adding, Bob, to the RSU count?

Maybe a little under four million?

As stock goes up there is a little dilution in what is a continually declining number of remaining in the money stock options that is a little additive as the stock went up.

My guess is something close to that four million a year is the net increase from equity compensation, and you're probably talking using the $1 billion example in today's stock price, you're talking a $10 million plus reduction in average shares.

Once you get through a cycle of a year of buying because during the year it is kind of like if you bought $1 billion on average equally during the course of the year, it only is $0.5 billion of reduction in the number of shares.

That's helpful.

Thanks a lot.

Your next question comes from Chuck Cerankosky with Northcoast Research.

Good morning.

Richard, back to the holidays and talking about being more aggressive on inventories, how about pricing?

How are you looking at a particular category or item?

If you could sell something for a great value at $100 or $110 with an extra feature, I am just making this example up, are you leaning towards the higher or the lower kind of price point in that mid-value discretionary range?

We're always looking for the higher, the more features and more value.

Once you have then have the item, you try to figure out I think it will impact margins more is going to be once we have the item which is the most we think we can put into an item in terms of quality and gadgetry and quantity and everything else and quality, we then get to a price point.

Now, what will happen inevitably, there will be something in your example even that let's say the full price point is $105.

Well, we're not going to do $104.99.

We're going to do $99.99.

That generally tends to hurt you a little bit, but overall we're trading the customer up, not down, which is a bigger, positive impact in my little example I gave there.

Okay.

And that's so the economy notwithstanding it is Costco's merchandising as usual?

Yes.

Yes.

Even at the trough of the economy a year ago, when big ticket discretionary items were weakest, we really didn't shy away -- let's take something in the Summer of 2009, furniture.

Chest of drawers, bedroom sets, dining room tables, we actually, again, if you heard Dennis Knapp in non-foods and Craig who is head of merchandising at the time and now President and Jim, they were talking more about it is the items you have.

Get the right items, and we actually did, even at the trough of the economy on furniture, we were a little conservative but we did pretty well, and of course same thing with patio furniture this Fall.

We did a little better than we expected, so I think we're not shying away from a lot of big ticket items.

Clearly, we understand that $30 to $70 items for the home, whether it is domestics, housewares, small electrics are in, and whether it is a doormat or new dinnerware, those things are doing pretty well for us.

Turning to gasoline, Richard, what were gasoline sales last year and how are you feeling about the profitability of that category into fiscal 2011?

Chuck, I don't have the exact number, roughly about $6 billion.

If I had to say anything about the gas business, it is ever -- it has been ever increasing profitable in terms of dollars, and even from the beginning of time while there has been quarter when is we make money and quarters when is we lose money on a full P&L basis, the total on any rolling 12-month period shifted gasoline exception were profitable and fiscal 2010 was our most profitable year and fiscal 2009 was the most profitable the year before that.

It causes heart burn occasionally, and the other thing I will say about the gas business is that relatively speaking the level of a good week and a bad week in terms of P&L is not as extreme.

A bad week a couple years ago used to mean $3 million of loss, a good week $5 million or $6 million, a bad week today is less than $3 million and a good week is $10 million.

There aren't many of those by the way, but it is a little less volatile and a little more positive but nonetheless it requires a thick stomach lining.

Beyond that, A, it is a pretty good business for us.

B, it drives your percentages a little whacko, but, B, it drives people into the parking lots, and we have seen that time and again, particularly when gas spikes and local fuel stations talk about it.

We get lots of free press.

In terms of sales, by the way, sales for 2010 were $6.2 billion, compared to sales of just under $5 billion the year before, and in 2008 $6.8 billion, but that's all pricing.

Pricing sky rocketed in 2008, fell some in 2009, came up a little in 2010.

Got you.

Richard, thank you very much.

Why don't we take two more questions.

Your next question comes from Diana Katz with Lazard Capital Market.

Thanks for taking my question.

My first question is on traffic.

It has been consistently very strong.

Is it possible to segment out how much of the increase is reflective of taking share from club competitors of groceries?

Quantitatively, no.

My guess is more of it comes from non-warehouse clubs.

Other than when we go into a market that was entered earlier by a competitor warehouse club like the Midwest, certainly I think as we entered markets where somebody else had a stronger presence than we have currently going in, that helps us a little bit or vice versa.

I think probably the biggest thing that helped us in the last two years is when the economy really hit the fan and people were not eating out as much, I am not just talking about the fancy business steakhouses.

I am talking about the reasonably priced -- the family of four or five that was going out four nights a week to eat dinner for $80 or $90, as that got hurt, who got helped, the supermarkets and Costco.

And again I have said before as the economy was heading south very fast in late 2008 and early 2009, we really didn't know, was this going to be a help or hurt to us from the standpoint of frequency because are people less likely so schlep an extra five miles, are they less likely to go to a place where they love, but they know they will spend more than they want to?

We found out the answer and thankfully it is yes, they are going to go there and, yes, they will temper their purchases of big ticket items for a while, but at the same token, they are coming in, buying more food and as long as they're coming in, they're buying something incrementally and maybe it is something that is $30 or $40, not $500, but they're doing it.

Great.

Could you just also elaborate a little bit or month on what you're doing specifically in the merchandise categories within soft lines to continue to drive strong comps?

You mentioned also increasing inventory buys in the powerful holiday?

Is that increasing private label or are you looking at increasing more branded fashion base X?

It is really an item of business.

Within apparel it is certainly -- we had a big increase last year because as the 2008, late 2008 hit, there was lots of high-end brands, and for the most port we maintained good relationships with those new vendors that sold us directly for the first time, but incrementally there is not a lot of new.

But we are also more aggressive on what we buy.

This is a small number to our Company, but there is an item for kids and it is an item that I am not trying to be cute, but I haven't got permission to tell the specifics of it.

If you think this goes back a couple months ago as we're looking at seasonal apparel items or not even seasonal but kids clothes for back-to-school, and there are item that is retail for $20 to $35 in traditional retail stores, branded, well known items that where we can make commitments on single items of 400,000 to 600,000 units of an item where we're going to be instead of $34.99 we're going to be at $14.99 and make a full margin.

So, it is not just the availability of a new branded golf shirt, it is a lot of the branded basics that people are coming in more frequently and buying this stuff.

Great.

Thanks very much.

Your last question comes from Lloyd Zeitman with Bernstein.

Thank you.

My question has been answered.

Okay.

Well then we get one extra question.

Go ahead.

Joe Feldman with Telsey Advisory Group.

Great.

Thanks, I guess I am the lucky one.

Quick question on ticket.

It seems like the trend has been a bit stronger and I guess we're just wondering if there is anything in particular that's giving you confidence that it will continue to remain strong?

It seems like pricing is still a challenge and you don't want to pass on too much, so anything there you can talk about, Richard?

Confidence level has to do, again, starting with structural things like in our business we can afford to go more aggressive than our traditional retail counterparts on many of the discretionary items.

The fact that when something is weak out there, we can buy a lot of it and those manufacturers take notice of us.

I think on the fresh foods side has been clearly an ongoing, continuing strength of ours and both of our direct competitors, Sams and BJ's, I believe have reduced their commitment to certain bigger ticket non-food categories as they stated in the last year and that helps a little, not a lot, and so all of the above gets back to, I don't think there is any specific area.

The good news about us is that our 76 or whatever billion dollars is 30 or 35 different subcategories from mayonnaise to tires to clothing.

Even when something is bad we're not getting hurt too bad as a company, and when something is good it is helping us but not the whole business.

Thanks.

Just one quick follow-up on the stores.

Any change in the type of stores you're opening?

I know in the past you have talked about trying some mall-based stores and should we see more of those this year?

Should we see more urban stores, any change in size, especially given that you're going to open 29 this year?

Well, urban is probably not the best word to use.

In terms of mall stores, I think we're up to like 10 or 12 of them and I know there is probably five or six that have been announced over the next 12 to 18 months.

That has more to do when the economy got hammered and if you think about a traditional mall which had four anchors, two department stores and in many cases are now owned by the same parent and a Sears and JCPenney and in some cases one or two have finished their lease and closed, not a lot of that, but there is a little of that, too, and needless to say malls have struggled.

So, we tend to be the one new thing that we can bring to that parking lot that are high end destination shoppers, so again it is not earth changing in terms of the as a percentage of our total units, but it is a positive.

In terms of footprint, certainly what we do in places like Korea, Taiwan and Japan are a lot different than what we do in the US.

Several of those units are $50 million plus capital requirements rather than $30 million plus, and it has to do more with the fact that it's much smaller footprint at 140,000 to 150,000 feet of retail might be spread 70,000 on each of two floors with three or four floors of parking above and below it.

So, that being said, Jim and Jeff Brotman, and Jeff of course runs real estate here our co-founder and chairman, but Jim and Jeff are constantly telling our real estate people don't bring me a double decker parking lot in Atlanta or whatever because it is more expensive and it is more operating expensive and let's be disciplined about it, but so I think it is less about -- in terms of size of units in general, I think our prototype still is that 148 range, and we have done a few 160s, and we're also, Jim is making them look -- Jim and Craig are making everybody look at some markets 140s.

Let's -- we don't have to go crazy sometimes.

So, there is no big pendulum shift, though, here.

That's helpful.

Thanks.

Good luck with this quarter.

Thank you, everyone.

We're at budget meetings most of the day, which just coincides with every four weeks we have a two-day budget meeting, so Jeff and I and Bob will be in that.

We'll take a break every hour, hour-and-a-half to hear a few calls, but today -- there will be a lot more returned calls tomorrow.

Thank you very much.

This concludes today's conference call.

You may now disconnect.