好市多 (COST) 2017 Q1 法說會逐字稿

Good afternoon.

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

At this time, I would like to welcome everyone to the Costco first quarter 2017 earnings conference call.

(Operator Instructions)

Thank you.

Mr. Richard Galanti, CFO, you may begin your conference.

Thank you, Kimberlynn.

Good afternoon to everyone.

Please note that these discussions will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These statements involve risks and uncertainties that may cause actual events, results and/or performance to differ materially from those indicated by such statements.

The risks and uncertainties include but are not limited to those outlined in today's call, as well as other risks identified from time to time in the Company's public statements and reports filed with SEC.

Forward-looking statements speak only as of the date they are made, and we do not undertake to update these statements except as required by law.

For the 12-week first fiscal quarter that ended two weeks ago Sunday, this past Sunday, earnings came in at $1.24 a share, up 14% or $0.15 a share over last year's reported earnings per share of $1.09.

A few items to point out as was mentioned in today's release.

This year's first quarter benefited from a nonrecurring $51 million legal settlement.

This $51 million pretax figure represented a 19 basis point benefit to gross margin, and a benefit to first quarter's earnings per share of $0.07 a share.

Last year in the first quarter, there were two nonrecurring items that we mentioned that together, negatively impacted last year's earnings results.

In that quarter, we recorded a $22 million pretax charge which represented an 8 basis point impact to SG&A to the negative and a reduction in last year's first quarter earnings of $0.04 a share.

Stock compensation expense was 13% or $25 million higher year over year, so $0.04 a share more.

There are about 4,800 people of our employees that receive restricted stock units as a significant part of their annual compensation.

These grants are made annually each October in our fiscal first quarter, and then typically vest over a five-year period with accelerated vesting when the recipient reaches 25, 30 and 35 years of employment with the Company.

Factors driving this increase included additional levels of accelerated vesting given the rising number of our employees achieving long tenure with the Company.

An increased stock price with a five-year ago grant coming off of the thing when the stock price was in the $80s to last year's grant when the stock price was in the $150s.

And of course, having a larger number of employees in the plan.

Note that the $25 million year-over-year increase in Q1 is a larger year-over-year dollar increase than we'd expect to record in each of the second, third and fourth fiscal quarters of this year given the October RSU grant cycle.

Next gas profitability, our profits from gas during the quarter as compared to last year's first quarter were lower by about $20 million pretax or $0.03 a share, primarily a function of last year's very strong profit results in the first quarter for gas.

Fifth, IT costs.

These expenses negatively impacted SG&A in the first quarter on an incremental year-over-year basis by about $18 million or 5 basis points of SG&A, which is about $0.025 per share.

Lastly, when I get to the discussion on year-over-year gross margin and SG&A comparisons, I'll review with you the very positive impact that our new Citi Visa deal has had on margins, SG&A and of course our bottom line.

Turning to the first-quarter sales, total reported sales were up 3% and our 12-week reported comparable sales figure on a reported basis came in at 1% year over year.

Comp sales were negatively impacted by weaker FX relative to the US dollar and slightly impacted by gas price deflation, for a combined negative impact reported comp number of about 0.75% of sales.

Excluding gas deflation, the reported 1% US comp figure for Q1 remained at 1%.

The reported Canadian comp figure of plus 4% would have been plus 5% ex gas deflation and FX, and the reported 0% other international comp figure excluding gas and FX would have been plus 3%.

Total comps reported at 1% for the quarter, again excluding gas and FX, would have been plus 2%.

And of course this plus 2% total Company adjusted figure is also being impacted by increases in deflation and other merchandising categories overall, primarily foods and hardlines.

In terms of new openings, in the first quarter we opened nine new locations which included one relo, so a net increase of eight.

And later in the call, I will discuss our upcoming expansion plans for the balance of the fiscal year.

This afternoon I'll also touch on membership trends and renewal rates, again, discuss margins and SG&A in Q1, update on the Citi Visa, the new Citi Visa relationship and the card and which we began offering in the US and Puerto Rico this past June 20 during the fiscal fourth quarter of 2016, talk about e-commerce and then a couple of other items of note.

So going down the income statement, again, sales for the first quarter, the 12 weeks ended November 20 were $27.5 billion, up 3% from last year's first quarter of $26.6 billion.

And again on a comp basis, reported 1% and ex-gas and FX up 2%, again that up 2% still being impacted by other aspects of deflation that we hadn't called out historically.

For the quarter, the plus 1% reported comp results were a combination of an average transaction decrease of 1.3% on a reported basis and an average shopping frequency increase of 2.2% to the positive.

Now the average transaction decrease of 1.3%, this includes, again, the combined headwinds of FX and gas that I mentioned which is about 0.75% and I'm sure other levels of deflation in other categories.

I will give some example of that later in the call.

In terms of sales comparisons by geographic region, within the US, Northwest Texas and Midwest showed the best results.

Internationally in local currencies, better performing countries were Mexico, UK and Korea.

In terms of merchandise categories for the quarter, in terms of sales for those.

Within food and sundries, overall flat year over year with spirits, sundries and deli coming in best.

Tobacco of course, as I mentioned in the last call, was down a little over 20% year over year as we continue to see lower sales in that category.

As I mentioned before, these big tobacco declines should anniversary this coming spring.

For hard lines, also flat year over year.

The departments with the strong results were hardware, tires and health and beauty aids.

I give you an example of deflation which is impacting this department.

In November, for example, our reported November sales, TV sales in dollars were up 2% and in units were up 17%, so quite a bit of deflation on the big-ticket items as well as some of the fresh food items that I mentioned earlier.

Within soft lines, up low single digit comps, with apparel, small electrics and special events being the standouts.

Within fresh foods, produce and deli were the strongest departments.

And in ancillary businesses, hearing aids and optical showed the best results.

In recent months, we've seen additional deflation overall in the low to mid-single digit range in many food and fresh meat categories and a little more in some of the other non-food areas as I mentioned, like electronics.

Moving to the line items in the income statement, membership fees, good results for the first quarter coming in up 6% and 6 basis points as a percent of sales, or up $37 million year over year.

In terms of membership fees, good renewal rates, 90% US and Canada, or actually 90.3%, and 88% worldwide rounding up to 88%.

Continued increasing penetration of the executive membership, and in terms of the number of members at Q1 end, compared to fiscal year end 12 weeks earlier, Gold Star which stood at 36.8 million accounts, at Q1 end it was 37.1 million.

Primary business was 7.3 million, both at fiscal year end and at Q1 end.

Business add ons, 3.5 million and 3.5 million.

For total household memberships, 47.6 million at fiscal year end and up to 47.9 million at first quarter end.

And given that many of the people have two cards, many of the accounts have two cards, at fiscal year end we stood at 86.7 million cardholders, and at first quarter end 87.3 million people with a membership card.

At the November 20 first quarter end, executive members stood at 17.7 million member households, an increase of 348,000 since the end of the previous quarter.

That's about 29,000 additional executive members per week increase during the 12-week quarter.

As I've said before, executive members are a little over third of our base and a little bit more than two-thirds of our sales where executive members are offered.

In terms of renewal rates, our business renewal rate, which at fiscal year end stood at 94.4% came in at 94.3% renewal rate as of first-quarter end.

Gold Star at 89.5%, both at fiscal year end and at the first quarter end.

For total 90.3% at fiscal year end, and it remained at 90.3% at first quarter end.

Worldwide at year end it was 87.6% and it ticked to 87.5% at first quarter end.

As you know, it's been probably almost two years in Canada when we converted to the MasterCard.

And with that, we saw, as we would have expected, a slight decline in the renewal rate.

As occurred in Q4 2016 this past summer, we saw that finally reverse and saw an uptick in renewal rates in Canada and that continued in Q1 of this fiscal year too.

We are now seeing the same thing in the US.

It ticked down a little bit over the last couple of quarters and it ticked down a little bit as well in Q1.

We don't see any issues there at this point.

Regarding membership fees, at the beginning of this past September, or beginning of our fiscal year, we increased membership fees in our Asia operations, Taiwan, Korea and Japan, as well as in Mexico and the UK.

Again, that's due to deferred accounting.

It's about 15% of our membership fee income base, and due to deferred accounting and the fact that it will roll in over the next 12 months in September, that will be a little less than $0.01 a share a quarter.

Before continuing down the income statement line items, a quick update on the Citi Visa card offering.

This past June 20 midway through the fourth quarter of FY16, we stopped accepting AMEX, American Express, at all US and Puerto Rico Costcos and at Costco.com, and begin accepting all Visa cards including of course the new Citi Visa Anywhere card.

The new card is great in terms of increased cash back rewards for our members and that's great for us as well in terms of driving member value and sales over the next years, and of course lowering our effective merchant fees related to the new program.

In terms of new card, as was mentioned over the last couple of quarters on these calls, there were approximately 11.4 million AMEX American Express co-branded cards or about 7.5 million accounts that were transferred from American Express to Citi for conversion to the new Citi Visa Anywhere card.

Over 85% of the accounts transferred over have been activated, and since the June 20 cut over several months ago we have 1 million members that have signed up for and have been approved for the new Citi Visa card.

Most of them have it in hand, but to the extent that it was the last couple of weeks, they may not have gotten their card yet.

In terms of conversion, usage and new sign-ups for the card, all good so far.

Now turning to gross margin.

Our reported gross margin in the first quarter was higher year over year by 29 basis points, coming in at 1,158 this year versus 1,129 last year.

As usual, I'll have you jot down for the quarter a few numbers.

We'll just make the two columns for the quarter, reported and without gas deflation.

In terms of core merchandising, year over year in the first quarter, core merchandising was up 19 basis points, up 16 without gas deflation.

Ancillary businesses down 5%, minus 5% year over year and for the quarter, minus 6% without deflation.

2% reward, minus 2% in the quarter, or on a reported basis, minus 1% without gas deflation.

LIFO minus 2% and minus 2%.

Other, which is the big one-time nonrecurring benefit we got from a litigation settlement plus 19 basis points both for the reported and without gas.

All told for the quarter, we reported again a 29 basis-point improvement and ex-gas deflation, 26 basis points.

So overall again, 26 basis points up on an ex-gas basis.

The core merchandise component was higher by 19 basis points year over year, and again 16 without the gas deflation.

The majority of the core gross margin increase, and I'm already taking out -- we've separated out already the one-time legal settlement, about 13 basis points of that 16, if you will, was due to higher year-over-year revenue share and bounties associated with the new Citi Visa agreement.

Some of those monies go to the revenue line as revenue share.

The gross margin of our -- notwithstanding that, the gross margin of our core merchandising categories which are the food and sundries, hardlines, softlines and fresh foods.

That gross margin as a percent of their own sales were higher year over year in the first quarter by 17 basis points.

With food and sundries, hardlines and fresh foods all showing higher year-over-year margins, and softlines being down a little bit year over year.

I know one of the impacts was the warmth of the season and outerwear issues.

Ancillary and other business gross margin was down 5 basis points, 6 basis points ex-gas deflation in the quarter.

All a function of lower year-over-year gas profits, as I discussed earlier in the call.

Ex-gasoline operations, all other ancillary and other business gross margins were up 6 basis points.

2% reward, again ex-gas, a negative impact of 1 basis point, and that's to the margin.

That's the sales penetration and the associated executive member rewards for where executive members continue to grow.

LIFO in the first quarter this year we did not book a LIFO credit or charge compared to a 2 basis point positive or $5 million pretax credit last year in the quarter.

And lastly, the one-time nonrecurring legal settlement, this benefited Q1 gross margin by 19 basis points as we discussed at the beginning of the call.

Moving on to SG&A, our SG&A percentage in the first quarter year over year was higher by 16 basis points on a reported basis and by 13 basis points ex-gas deflation.

Again, I'll have you just jot down a few line items.

Core operations for the quarter was higher or a negative 8 basis points, and without gas a negative 6. Central, higher by 9 and 9, both reported and without the gas deflation.

Stock compensation expense, minus 7 and minus 6. Other, plus 8 and plus 8, that's that rough $20 million or $22 million amount that I told you about earlier in the call that impacted SG&A to the positive last year versus nothing this year.

Again, reported SG&A was higher by 16 basis points in the quarter, higher by 13 ex-gas deflation.

The core operations component of SG&A, again in the chart shows 8% higher -- I'm sorry, 8 basis points higher year over year reported and 6 ex-gas.

This minus 6 consisted of higher payroll and benefits of about 31 basis points year over year.

That's certainly impacted by the lower sales result and certainly that's impacted by the deflation.

And I'll give you a couple examples of that later.

This was primarily offset by lower year-over-year merchant fees as a result of the switch to Citi Visa.

That had a benefit to the SG&A line of plus 25 basis points impact to the positive.

Central expense was higher year over year in the Q1 by 9. Increased IT spending, again as I mentioned, was 5 of that.

Stock compensation expense, higher by 5 or 6 without gas.

Lastly, the other item I mentioned, the plus 8 was nonrecurring in nature.

Next on the income statement line, pre-opening expense, it was $4 million lower this year versus last year coming in at $22 million versus $26 million a year ago.

Really a function of openings.

This year in Q1 we had 9 openings, last year 13.

The 9 included one relo and the 13 last year in the first quarter and included 2 relos.

Pretty much in line with that number of openings.

All told, operating income in the first quarter came up $82 million or 11%.

But up $9 million or 1% year over year excluding just the nonrecurring items that I previously mentioned.

Below the operating income line, interest expense in the first quarter came in at $29 million this year versus $33 million last year.

Lower due to the retirement of some senior notes in December of last year.

Interest income and other was lower by $2 million in the quarter coming in at $26 million versus $28 million a year ago.

Actual interest income from the quarter was better year over year.

This was offset by approximately $4.5 million in charges related to the FX transactions that usually fluctuate pluses or minus in the zero to $10 million range, so no surprises there.

Overall reported pretax income on a reported basis was higher by 11%.

Again, higher by 1% ex those nonrecurring items that I mentioned early in the call.

In terms of income taxes, our tax rate in the first quarter came in at 34.4% for the quarter compared to 36.1% last year.

We benefited from a couple of positive discrete items this year in Q1.

Our anticipated effective rate for the year is expected to be approximately 35.2% as best we can tell at this point.

Overall reported net income, $545 million this year, up $65 million from $480 million last year, so an increase of 14% ex the nonrecurring items that I mentioned, up 3%.

Next for a quick rundown of other topics.

While the balance sheet is included in this afternoon's press release, a couple of the balance sheet info items, depreciation and amortization from the cash flow statement which is not here for the quarter came in at $297 million for the quarter.

Accounts payable, if you look at one of these, we always look at is our accounts payable as a percent of inventories.

It reported on a reported basis, it was up from 100% a year ago in the quarter and to 103%.

If you take out non-merchandise payables, more of an accounts payable merchandise versus inventories, it improved from a 90% to 93% from last year's first quarter end to this year's first quarter end.

Average inventory per warehouse was actually lower by about $67,000 per warehouse, coming in right at $14.9 million a year ago and $14.83 million per location this year.

FX was of that roughly $70,000 lower.

FX was about $170,000 lower, just the impact of FX, so about $100,000 net if you assume flat FX.

That's about what majors was up, electronics, it was up $117,000.

So really not a lot of pluses and minuses over sub departments, but pretty much in line and pretty much flat year over year.

In terms of CapEx, we spent approximately $670 million during the quarter, and our estimate for the whole year, as I mentioned hasn't changed from last quarter end, our expectation for FY17 is somewhere in the $2.6 billion to $2.8 billion compared to $2.6 billion for all of FY16.

Next Costco online, we are now in of course in the US, Canada, UK, Mexico and more recently Korea and Taiwan.

For the first quarter, sales and profits were up, total online sales were up 8% in the quarter and 7% on a comp basis.

Pretty choppy.

Essentially, the first several weeks and the last several weeks of the quarter were in the mid singles with the middle part of it in the low doubles, if you will.

I want to point out that over the past three weeks, and that would include the last week of Q1 which is the Thanksgiving week, and the first two weeks of our second fiscal quarter, eComm sales were up in the low to mid-teens, including similar results for both Black Friday and cyber Monday.

Of course, that's notwithstanding a significant amount of TV sales which were essentially flat in dollars and up 15% in units.

Lastly, as it relates to our online business, we are improving our offerings and enhancing our member experience.

I touched on this a little bit last quarter's call.

Our current focus comes in three primary areas in terms of improving merchandise first.

We are adding more exciting high-end branded merchandise on an everyday basis.

We are improving in-stocks on high-velocity items, and there's a few other things that we will be doing coming the first couple of months of the new calendar year.

Second, we're improving the experience and functionality of our site.

We're improving our search, we have and are continuing to do that.

We've shortened the checkout process from many clicks to two, and so a big improvement, recognizing this is new for us.

We are simplifying and automating our returns process, a much better experience particularly on big-ticket items, and we've seen great improvement in that in the last several weeks.

And we're improving our member's ability to track their orders, again that's something that we weren't terribly good at historically.

And thirdly, we're improving our distribution logistics.

We've increased the number of depots from where we fill online orders, so closer and faster and less expensive delivery.

And again, look for more improved and quicker distribution comments from us in early calendar 2017.

Next in terms of expansion, I mentioned we had eight net new units this year, this fiscal first quarter.

We planned two for Q2, a net of five for Q3, so ex the relocations.

And a net of 16 in Q4 for an anticipated number for the year of net new units of 31.

34 less the three relos, so 31 net new locations.

Last year, recall we opened 29, so about 4.5% square footage growth.

If we get to the 31, that would be about the same, about 4.25% plus square footage growth.

Assuming the 31 net new openings in FY17 locations by country, that will be 16 in the US.

Mind you that last year, it was 21 out of 29 in the US, 8 in Canada which is quite a number for Canada, and 1 each in Taiwan, Korea, Japan, Australia and Mexico, as well as France, our first in France and also 1 in Iceland.

Note that these include our first locations to open in France and Iceland, and again, those will be in late spring, early summer.

Now as you can tell by the quarterly dispersion of these, about half of the 31 planned openings are scheduled in Q4.

To the extent a couple of those could slip into the next fiscal year, so be it.

So somewhere in the very high 20s, if not 30 of 31 is what we would expect.

As of first quarter end, our total square footage stood at 104.5 million square feet.

In terms of common stock repurchases, for the first quarter, we repurchased 809,000 shares for a total of $122 million or an average price of $151 a share.

That compares to all of FY16 when we repurchased $477 million, 3.2 million shares, and an average price of just under $150 a share.

In terms of dividends, our current quarterly dividend stands at $0.45 a share and that was a 12.5% increase and that was effective last spring.

A 12.5% increase from the prior $0.40 a share.

So $0.45 a share on a quarter, so that yearly $1.80 dividend represents an annual cost to the Company of just under $800 million.

Lastly, before I turn it back for Q&A, our FY17 second-quarter scheduled earnings release date for the 12-week second quarter ending February 12 will be after market close on Thursday March 2. With the earnings call that afternoon at 2:00 Pacific time.

I'll now turn it back to Kimberlynn, and open it up for questions and answers.

Thank you.

(Operator Instructions)

John Heinbockel from Guggenheim Securities.

Richard, the new Citi agreement, was that a -- something that was a total benefit in the quarter of 38 basis points, if I'm hearing you right, and I assume that was exactly what you thought it would be?

Probably a little higher than we thought it would be.

There's lots of nuances to the program.

There's bounties that we received for signing up new members and applications that incensed the warehouse to do that.

There's revenue share an outside spend.

I think that's a little more than we'd anticipated.

We knew and felt that over time it would go up because of the acceptance of Visa in terms of penetration of Visa throughout all types of merchants, and that happened a little faster than we anticipated.

There's also some other aspects of it.

Again, there is lots of little pieces, but those are two of the bigger ones.

On the merchant side -- on the fee side, rather, I think some is related to the fact that we're making estimates of the different reward buckets, if you will, gas at 4%, Costco at 2%, those velocity categories at 3%.

Again, there's all kinds of equations there that as that changes there is some sharing.

It's all good at this point.

Well, as a follow-up to that, is that, recognizing there's some volatility, is roughly that level, is that what you would expect going forward?

Right now it's covering soft sales and some investments in labor.

Is the idea that when the soft sales changes, that more of that drops to the bottom line?

Or do you think you find other things to invest in?

Well, time will tell, won't it?

I think it's still early program, we're in the first full fiscal quarter of it.

Over the next couple of quarters, as I'd said last quarter, this would be the first time we'll try to provide a little bit more insight and I'm sure we'll be able to do a little bit more each time.

As you know, we're going to invest in loyalty and growth and while it's raining on everybody as it relates to higher levels of deflation, we are known for deflating the sale price sooner and faster.

Certainly, one other sound bite example would be meat sales.

Just in the month of November, meat sales were up 6% in dollars and 16% in pounds.

That's the kind of stuff that this deflation, it's impacting all retailers of course, and it's probably impacting a lower margin, quicker to pass it on up or down, certainly down, faster.

So, all those things go into play.

Time will tell.

Lastly, have you found, when you think about this conceptually, is it better to make -- more impactful to make price investments when we start the reflation recycle, right?

So not raising while others do as opposed to cutting more now, investing more in a deflationary cycle?

We're always going to do more extreme, probably, than others.

Another example would be, as I've said in the past, as a relates to some different types of competition out there, the competitive pricing moat has gotten wider, which is good.

We haven't use that to improve our margins consciously in that regard.

The wider the better.

We are constantly figuring out that.

We're constantly going back to every supplier with our purchasing power, with our buying power as it relates to a competition of self and private label to figure out, how we can bring the quantity up, the quality up and the price down?

And we know we will sell more and each of us and our suppliers will make a little more times.

A little less, more times.

That's what we are always doing.

We see that at every monthly budget meeting.

I think that we will continue to do what we do.

We are certainly not going to benefit from every extra dollar of income.

We are going to figure out how to use it to drive that competitive spirit and to drive our sales.

That's been a little tougher in this tough deflationary environment.

Okay.

Thank you.

Your next question comes from the line of Simeon Gutman with Morgan Stanley.

My question relates to core profitability and expectations to the extent we can talk about it.

The EBIT growth this quarter, was I think about 4% adjusted, the trend line has been a little lower, and I'm not taking a lot of currency into this.

But if you think about the core profitability going forward, Richard, should we expect it to increase?

Granted this quarter had a tough top line compare.

We talked about maybe credit card getting better.

I'm not thinking about membership price increase, but that's something that could come.

Just thinking about the overall business, how it's performing, do you expect it to do better than where it is, or performing about where it should be?

Well, again, I'm not allowed to tell you what I think, completely.

We are encouraged by the last few weeks, including the first few weeks of Q2.

But we feel good about our merchandising offerings.

We feel good about some things we are doing operationally.

We certainly feel good about the strength of [gas] Kirkland's Signature, and traffic has improved a little bit.

I remember one of the analyst reports a few months ago, was we can exhale.

We are hopefully beyond that right now.

We feel that again, the last -- the traffic has seemed to have hit a trough and it's come back a little, not that we expect it to get back to four, necessarily.

But certainly it seems like it's back on the mend a little bit, and we'll see.

I feel we are doing a lot of good things.

We have got a lot of things up our sleeve in terms of merchandising.

We're clearly merchandising and selling from a position of competitive strength, and fresh foods drives the business.

The fact that renewal rates, ex a little bit of impact from auto bill in the conversion, are perfectly fine.

There's a lot of good things out there, and I guess I'll stop there.

But overall, we'll see.

Okay.

And then my follow-up, part of it relates to what John asked, where the credit card benefit that could ramp, there also could be a membership price increase on the horizon.

Speaking about what you reinvest versus what you dropped down, is the investor rate being inhibited right now, because you haven't had that membership price increase in a long time?

Or, are you going to let some of these things flow to the bottom line when we get there?

First, let me go back for a minute to the monies that we've benefited from as it relates to the Citi Visa, the new agreement.

In theory you'd say, okay, if you've made a little more [than the past], did you put it back into pricing?

We are doing a lot in pricing anyway.

And also, you don't change the reward structure every day, it's a new program.

I would assume over time, and this is -- who knows, it's hypothetical, but over the next couple of years, if the performance in the program continues to go in the, which we expect it to, in the right direction, and our piece of that action, if you will, versus the rewards that our members are getting, you would expect to see us change that over time.

But we are way too early to even think about that.

Historically as it relates to membership fee increases, we usually invest that back in the business, a lot of that in terms of competitiveness and pricing, and it eases in over the next several years into -- more fully into the bottom line.

Notwithstanding the fact that the membership fee increases take about eight fiscal quarters to get into the income statement on the membership line because of deferred accounting.

So I don't think -- first of all, we certainly haven't done anything different.

As we've seen in some examples where we do comp shops versus certain others, where that moat has gotten bigger, if you will, and that gap has gotten wider, we haven't said, hey, let's use this to get a few extra basis points of margin.

We've held the course and we continue to go in that direction.

Okay.

Thanks.

Paul Trussell with Deutsche Bank.

I just wanted to touch back on margins.

We think about the core GPM, ex the benefit from the Visa card.

It was still up, but maybe a little bit less than the past few quarters.

If you could maybe just touch on that.

And then also on the SG&A, you mentioned the higher payroll and benefits.

But if I recall, I think the second quarter last year is when you raised some wages.

Is that correct?

Should we start to cycle some of that headwind?

On the last point, the wages, in I believe the US and Canada, which is 82%-plus -- 82%, 83% of our Company, we took the bottom of the scale up $1.50, basically, from $11.50 and $12 up to $13 and $13.50.

I believe on an annual basis that's about a $40 million incremental increase in our pretax costs, or about $3 million, a little over -- low $3 million per month number.

That started in March, so that's halfway through -- early to halfway through Q3 of our fiscal -- Q2 of our fiscal year.

That's when that will anniversary, so that's kind of small.

I'm sorry, the first part of the question, I didn't write it down.

Just around core merchandise margins.

Yes, keep in mind, as I try to point out on each of these calls, I'd mentioned, what was the core, the roughly 80%- plus of our business that is food and sundries, hardlines, softlines and fresh foods, what is that margin on its own sales?

And again, as I mentioned earlier in the call, that was up 17 basis points.

When I look at the weighted average of what impact it had on our Company margin year-over-year, it's a lot less than 17, because there's increased penetration of another category with a lower margin or reduced penetration of another category with the higher margin.

That tends to -- that's why we point that out.

We don't see just because that 80% was 17 basis points up on that, that had a much smaller effect on the year-over-year for our Company.

Got it, got it.

And then just when it comes to top line, Richard, obviously, November was a tale of two periods, with the first half of the month and the second half being much better; and from the comments you made around e-commerce, it sounds like there's been some strength maybe that's sustained into the early part of December.

What's your view, right now, of the spending levels of your core customer as we turn the corner into 2017?

What's your thoughts around what our core comp expectation should be, particularly in the US?

Again, we don't know.

We'll have to wait and see ourselves.

We're thrilled that the first few weeks have been good.

And again November, the four weeks of November was choppy, frankly, particularly the week of the elections.

I think it was worse than a snowstorm in terms of nobody wanting to go out and buy stuff; and that's what I read about other retailers, as well.

Again, over the last few months it's been, A., a little choppy, a little more in November and a little weaker.

At least what we could tell you at this point, the first couple of weeks have been okay.

And again, traffic has seemed to have stabilized until something changes there, who knows.

But again, we feel good about our merchandising, what's going on.

And one of the reasons we continue to provide monthly sales results is for that reason, to keep you guys informed, and that's pretty much what I can tell you at this point.

Fair enough.

Thanks, Richard.

Michael Lasser with UBS.

Thanks a lot for taking my question.

Richard, you mentioned that you signed up 1 million new members under the new Visa credit card arrangement.

Is that above and beyond what you would normally sign up?

Or, is that typical with your run rate?

And how does that compare to your expectations?

No, first of all, 1 million of our members signed up for it.

Many of them could very well be existing members that historically did not have an AMEX card or historically used not a co-branded AMEX card.

And they have now signed up for this because the great rewards, hopefully, or they historically, again, were using debit or a non-cobranded AMEX card and they're now switching to this.

We did not generate 1 million new members.

Certainly, when a new member, either online or walks in to sign up as a new member, we, of course, are telling them the virtues of both executive membership and these great new co-brand cards.

How are you seeing the spending patterns of those who sign up for the card or got the card versus how their spending patterns were under the AMEX card?

It's hard to know this quickly.

Generally speaking, irrespective of what credit card it is, whether it's a co-brand or a rewards card for an airline or a hotel, people -- generally we find that people on credit cards spend more than by cash or check or debit.

We also find that people with executive member spend more than non-executive member.

So the trifecta, if you will, is when they're not only a member, but they're an executive member and they use the co-brand card.

Lots of incentives for loyalty and for spend and for capacity to spend.

That's what we try to do, try to do it in a not too hard of a sell, as you might expect; and we've gotten a lot better at doing the basics.

Whether we know a member is an existing members and buys a lot historically, based on their prior 12 months, it's a no-brainer to be an executive member, we make sure they know; and we've done a better job of converting or getting people to sign up as an executive member to start with.

The credit fee, of course, is not completely in our hand, whether it was the 14-year relationship -- 14 or 16-year relationship with American Express or the new relationship here, it's up to the credit card issuer, in this case, Citi, to accept or reject an application.

Now the ones that converted over, they were all in the same deal.

But anybody new, they are signing up for a new card and there's going to be some people that get it and some that don't.

But what we do know is 1 million of the people that did sign up for it have gotten it.

Or approved and have gotten it.

My follow-up question is on the prospects for import tariffs.

What percentage of your goods do you import from overseas?

If you could break that down between the Kirkland's brand and all others, it would be very helpful.

We were just being asked that question recently, and we are putting some numbers together.

Our best guess is somewhere north of 20% and south of 30%, and I'm giving you are purposely large number, because even when you talk to some buyers in different departments, you find out it might be imported, but it's all based on, it's a US dollar sale.

And my guess would be somewhere in the mid-20%s

Mid-20%s as a percentage of total sales?

Yes.

Okay.

Thank you so much.

Have a good night.

In the US, in the US.

I'm assuming that includes -- I'm including in that, like, electronics.

Most electronics are purchased in US dollars by US trading companies that are arms of the overseas manufacturer.

So again, it's a little tenuous to come up with an exact number, particularly since we just started looking at it.

Okay.

Thank you very much.

Kelly Bania with BMO Capital.

I wanted to ask a different question about gross margin.

It's still, if you look at the core gross margin, I think you said up 17 basis points, still very strong relative -- I think it's been in the 10 to 15-point basis range.

I know you've talked about online, organics, some of the higher-margin categories and the mix shift there.

I was just curious if those are really still some of the same drivers or if there is anything else going on there, particularly as online seemed to slow a little bit this quarter?

I think part of it is, as prices have deflated, there are instances where we can make a little more, but not a lot more, where others have not deflated as much.

Even though we are going to be the first to take it down [in more], there's still a little there on the table.

Private label helps.

I think those are the kinds of things.

We've also, in terms of driving business, working with our vendors to lower the price and drive more business and we'll participate in it, but we'll still make a little more.

There's lots of little reasons.

I'd be remiss to say if, year-over-year, we had just under a [national] basis point in the shrink recovery, in other words better shrink numbers, inventory shrinkage numbers.

We don't talk about it because good news is it continues to improve a little for 30 years, essentially, meaning we are doing a better job of operating our businesses and controlling our inventories.

But it's lots of little things.

That's helpful.

And then just another big picture question.

Lots of questions on the savings and how you would think about, possibly, maybe reinvesting some of that over the years.

Here you are online and improving that experience, the checkout experience, the search.

Do you look at ways to just make things more convenient for your members?

Is there anything else you think about on the convenience front versus just the price front?

I've got to tell you, a little tongue-in-cheek here, but we arguably were a little, had been many years ago reluctant to even do e-commerce, we did it a little begrudgingly.

It took a while to do some more things.

I things that we are doing, we are doing offensively, not defensively, but we were also probably a little stubborn along the way.

There's some extreme examples of when a member orders a big ticket item, electronics or white goods or whatever, and the delivery window is much larger than anyone else's.

They want to know -- they'd like to know it pops up the calendar and here it goes.

When they want to return it, that process was not very good.

Some of these are quick fixes.

Search was not very good.

That's been a quick fix to get a significant improvement and we get some more improvement.

So I think we are doing some things -- notwithstanding decent sales --

(Inaudible)

Yes, we're investing in better convenience.

But by the way, that's not at the expense of, we won't take our prices down a little.

Those are truly independent, whether it's IT modernization efforts, some of which was a necessity or what are we going to do with regard to -- we need another $10 million or $15 million to enhance the site, that is truly independent of what we're doing there.

As Jim Sinegal said for 25 plus years, and Craig Jelinek said for now five plus years, we are clearly a top line Company and we are best when we drive sales.

We probably aren't as good at leveraging expenses when sales come down than others because we're not going to do some things, but we're clearly taking the offensive.

Again, there are some things that perhaps we should have done earlier, but we're already seeing some improvement in that.

We know that will help.

Thank you.

Karen Short with Barclays.

Hi Richard, this is Shaun Cross on for Karen.

Thanks for taking our questions.

Can you talk about your outlook for deflation and any signs of leveling off or maybe even an upswing?

I'm sorry.

I couldn't hear the question.

Can you talk about your outlook for deflation and any signs for, potentially, leveling off or potentially, an upswing?

When we talk to different categories buyers, probably the ones that have more specific insight are on the fresh food sides, because they are dealing with commodities and negotiating.

They're actually looking at the futures contracts and more of the cost of the actual item, the orange or the poultry or the pork or whatever.

Whereas sometimes that's not the case.

I think usually, when we ask, there is another three or six months of whatever, and when it gets to the anniversarying of it, there's been some huge swings, some huge examples of swings on some nuts, which last year doubled and are now down 35%.

Eggs, of course, are down well over 60% year-over-year.

If eggs were down even 50%, it doesn't mean that people are going to eat twice as many eggs to have flat sales.

They are going to eat some more eggs, but not that many.

By the way, a few of those things may help in the bakery, the margins in the bakery.

We're also not going to change the package, the cost of 16 muffins -- or 15 muffins.

Overall, I think the feeling is given that the last few months have been a little more deflationary, the view is, is that it's another few months of that.

But they all believe it's going to come back the other way.

This is a lot of estimated, semi-educated guesses among different departments.

I noticed there's also no reserve, apparently there's no charge or credit in the quarter.

Is that right?

Right.

That's correct.

Okay.

Thanks for that.

By the way (multiple speakers) -- Effective, the beginning of this fiscal year, for 30 years we've been on a retail cost system, retail inventory system.

Most companies historically have been on a cost-based system where you get down more granularly to item level, with the modernization that was part of this process, too.

With the cost system, the way you value your inventories will not have LIFO charges and credits in the future.

We will.

We will, but when we restated at the value of our inventory on the (inaudible) fiscal year, part of that (multiple speakers) --

Sorry.

I'm learning here as we go along.

At the beginning of the year, you will notice on our year-end balance sheet, we revalued the inventory at cost in a different way and it was about a $60 million-plus reduction in inventory.

At the beginning --

At the beginning of the year, but not a P&L impact.

Got it.

To the extent there's inflation in the future, we will have a LIFO charge.

I'm giving myself a thumb up.

And once you have some LIFO charges, you can have credits.

To the extent that there was LIFO as deflation right out-of-the-box, you won't take that credit because you have no charge against to which you can take it.

Got it.

That explains it.

Thanks for that.

My follow-up is just an extra week this year.

Can you give a sense of the impact?

My math is about $0.10 to $0.11, but curious if you think that's the right vicinity.

It's sounds like that's 2% of X, I don't have a calculator in front of me.

150, one-third of a year.

For the most part, most expenses, even though say on a rental facility, you pay 12 monthly rents.

We take it over the 53 weeks.

You don't get a 1/53 credit for that.

We amortize it over the course of 10 years or 20 years.

It generally should be if it's 2% more weeks, it's 2% more earnings, plus or minus.

Thank you.

Matt Fassler with Goldman Sachs.

My first question relates to the Citibank Visa deal.

Can you tell what impact the enhanced cash back features have led to?

Has it been, in your view, more sign-ups?

Has Citi seen more traction with some of the categories where you increase the incentives for consumers?

I can't speak to Citi.

To you, I can't speak to them.

We have certainly had discussions with them.

They have made their own comments that I think are generally positive about how the program is working so far for them.

What I can tell you from our perspective is, is some of these I've already mentioned in terms of a significant improvement in the value proposition of the rewards to the members assuming they spend like they did.

Hopefully they will spend more, because of the 2% at Costco instead of 1%, on top of executive rewards and 4% on gas instead of 3%, and 3% on velocity categories instead of 2%.

All that stuff is good.

(multiple speakers) There is more utilization.

There is more places to use the card.

Typically, these are smaller merchants that only perhaps accept certain brands over others and they pay higher fees, but we will have to see.

Are there any surveys you've conducted that would suggest customers have really digested that extra penny they're going to get back at the end of the year?

No.

Okay.

But what I can tell you from talking to our head of membership marketing is it stands up in good print on everybody's monthly statement, they see it.

It's pretty big, pretty fast.

So, I think those are the types of things that people look at.

We know affinity programs work and again, based on Citi's comments, publicly, it seems like it's working in the right direction for everyone, which means more spend on it.

Great.

My follow-up is on deflation and gross margin.

We've looked through your transcripts going back quite a while and this is a purely, remarkable deflation particularly in the context of a decent US economy.

In your experience how does gross margin progress through a deflationary cycle?

We've talked about your expectations for if and when deflation turns and the number of months going forward, et cetera.

In the past, as you've seen food prices in particular recover, how do your gross margins tend to behave?

It really is all over the board.

With the inflation, the dollars go up.

The percent probably changes a little downward so that would imply for us a little bit of improvement in dollars.

It can be all over the board.

Gas is an extreme example, it is a little margin-competitive business.

As prices tumbled dramatically, across general competition, prices were lowered, but not nearly proportional to the amount of savings to that retailer.

We were able to improve our margins a little and widened the gap.

That's a win-win.

Another silly example is organics.

Organics, because there is perhaps a little bit of less price elasticity to organic prices, we are able to make a little more margin, not a lot, and have a wider value proposition versus others.

Those are good things for us.

Generally speaking, when there was cost inflation on milk and cheese and things like that, we would point out, as you know, historically, in some of those quarters where we kept the chicken at $4.99 and margins went down essentially from something to nothing to the tune of $40 million a year on one item.

That was four or five years ago -- four years ago.

Conversely, when cheese prices fell, food court margins went up nicely, because we've never really changed the price of a slice of pizza.

So, there's lots of little things that don't fit in the square box or a square box and a round hole here.

I would say, generally, a little inflation is good.

It helps sales.

We could be more competitive both up and down and with prices are going up, it probably is a little bit more margin beneficial.

But not a lot.

Thank you so much.

I appreciate it.

Thanks, Richard.

Oliver Chen with Cowen and Company.

What are your thoughts regarding bricks plus clicks and whether that be buy online, pick up in store, reserve in store, car pickup from store?

We're just seeing a lot of innovation as retailers and pure-plays go to physical retail that were previously digital.

I want to know what you think about that and if it's meaningful for you and if we should be concerned about your long-term store traffic trends with the rise of Amazon?

And then mobile is about two-thirds of online traffic for many retailers.

Right.

What should we expect for your mobile app and the five-year plan for what you want to do there to make it really exciting and fun and great?

First, we are fixing some of the basics and improving some of the basics.

I'm pretty excited about some of those things.

You mentioned the number of mobile versus non-mobile e-commerce sales.

Our numbers are lower than that mobile, but they are improving quickly.

Again, we recognize there's things that we can and can't do.

We think we could and should do a lot more online.

But, we also, as you pointed out, want to get people into the warehouses.

We think that some of the things that we do in store will keep them coming.

So far, it's not been an issue.

While we try to point out these things each quarter, in terms of traffic, in terms of -- even when traffic was impacted a little bit, we were asked that $64,000 question, is it all these other things?

We see some of the categories that one would think would have been impacted negatively by it, aren't being impacted negatively.

In terms of click and pick up, we've looked at it and we are not prepared to do that, at this point.

When we see it at other places, not just the other warehouse club, you need space for it or you need a lot less volume in the location for it, neither of which we have.

And, we're not getting a lot of demands for it.

We do that at the business centers.

You can log on and get it delivered.

So, that's more for the business member, not the individual.

We recognize that we are not the retailer that's going to sell you a smaller pack size of something and even a little bit higher margin.

That's not what we do.

Now, time will tell, over time.

There's a lot of things that are going on out there.

We are looking at them.

We've all seen the video from earlier this week about you just walk in.

And there is a lot of other brick and mortars that my guess would be far more impacted than us on that, but we'll have to wait and see.

Again, if renewal rates trends changed -- by the way, we even see in the markets where we've done things with Google and we work with Instacard, as well.

Google Express and Instacard.

Probably the most extreme example would be the Bay Area where we started with Google and that was their first market and certainly that's where they are headquartered.

It's doing fine.

What we found is an existing loyal member is coming in a few less times a year, is shopping several more times -- well certainly several more because it was zero, but shopping more.

But the sum of the two is more.

They buy a lot less when they're doing it online than when they come in and part of that is the experience of walking in and seeing it all there and not everything is offered (technical difficulty).

The good news is --

Ladies and gentlemen, the conference will begin momentarily.

Please standby.

You are live, Mr. Galanti.

Thank you.

Oliver?

Hello?

Hello.

Oliver, yes.

Thanks for answering that.

I just wanted to briefly ask you, does scan and go make any sense for you, or is that something that is not conducive to your experience?

As you do your own research on Amazon, which categories or what would you say -- or draw out your best competitive advantages, and what are your opportunities just to make sure you remain very competitive against Amazon?

How are you feeling about millennials and generation Z?

It sounded like you still had a lot of good momentum with younger demographics.

Look, in terms of scan and go, honestly, we did a version of scan and go, literally, 20 years ago with a customer, a member, would walk in and get an RF gun, a radio frequency device, walked around, scanned their own items, come up to the front, hand that thing to the cashier, the scanner -- and they print out a receipt.

Needless to say, there's a lot more efficient things today.

We continue to look at scan and go type things.

We are not testing it currently, but we are looking at it.

I'm not suggesting we are going to do it.

We have done self checkout for a while.

We have chosen to not do self checkout in higher volume units because we can get people through without it.

As it relates, you had asked, in terms of millennials, generation Z, all those numbers are doing better for us.

Part of it is things like -- not that we sat down and strategically thought how do we get them?

We have a great value proposition.

Certainly some of the things that we sell like organics in my view is a big impact to that.

Certainly, some of the things we do, we've done a couple of tests with Living Social over the last couple of years.

All those things, we think help.

As it relates, you asked a question about Amazon, and Amazon is also the word for everything out there that's delivered or dot com and everything else.

Certainly, they are doing a lot of things.

We want to make sure we understand what all of these people are doing.

And not just from a competitive price shop.

Whether it's them or someone else, we recognize convenience is a value, but there's also some things that we can and can't do.

So I think that we are looking at these things offensively, not defensively at this point.

I don't think -- I think we are encouraged when we see the level of millennials, if you will, that are signing up.

We see the average age of our membership coming down.

It was just a couple of years ago when the average US Costco adult member was four-plus years older than the population, as a whole.

Now, it's a little under two, and that's without a lot of planning.

But it's part of what we do.

I think part of that is the merchandise selection and our ability to change merchandise pretty quickly.

Certainly, things like organics stand out in a big way.

I think the fact of what we're doing, even on some things that aren't directly -- they are all related to the business, but ESG and sustainability, how we take care of our employees, the culture, those are things that, again, we didn't say we have to do better at that.

We do best at that.

We do a lot of good things like that.

When it comes down to merchandising, we believe that organics, the KS, what we are very good at is driving value and we're probably not going to be the person that's the best at delivering smaller-sized goods to your house.

There are some things we are going to do between that and nothing; and again, stay tuned for calendar 2017.

Thanks.

Happy holidays.

Best regards.

Dan Binder with Jefferies.

My question was around some of the things you've already covered, including pricing and the moat that you said has opened up.

In light of that, there's been a lot of debate around the traffic just north of 2% or just under 3% depending on the month.

A lot of questions around convenience.

I just wonder, as you review this online strategy, do think there needs to be a major shift towards a broader SKU assortment?

Obviously, Amazon's got marketplace, Walmart's building marketplace, Target's chosen not to.

Do you think as part of that convenience factor, Costco just needs to materially up their SKU count online?

Keep in mind we have materially upped it over the last couple of years, recognizing it's still a fraction of anything else out there.

If we were, again, at 3,700 active items in a physical location and roughly that many online, excluding office products, which goes through a third-party and there are several thousand of those items, but in terms of what we do ourselves, and we've now taken it up to 8-ish, 8,000, maybe a little more.

Is it likely to go to 40,000 and 50,000?

Absolutely not.

Unless it does one day, but I don't think so.

Is it likely to go up a little bit more?

Sure.

Is likely for us to do a few more things that provide convenience?

Yes.

But we still want you in the door.

Again, to Amazon and others' credit, they are trying a lot of things.

Some will work and some won't.

We are pretty good at understanding what works and figuring out how to augment it to do what we know how to do and what we want to do.

We recognize that we can't be selling you a smaller size of something at our margins, nor are we prepared to double or triple the margin to do so.

Got you.

My other question was around the membership fee, or potential membership fee increase next year that's been talked about quite a bit.

Just curious if there is a sensitivity and what that threshold is, at which point you would not do it?

In other words, if the comp store sales were to continue being at the level they were at in the first quarter, would you be less likely to put an increase through?

Maybe an easier way to talk about it is what kind of comp level would you like to be at when you do it?

Directionally, I responded in the past by saying, if comps were a little weaker, it would be more likely to want to do it.

Or no impact on that decision.

It's all in our view about what additional values have we brought to the table.

Whatever amount of an increase might be contemplated, have we improved the value proposition significantly greater than that amount, which in my view has always been a no-brainer for us.

Are renewal rates okay?

And if sales are a little weak, it would be the time to do it or not to do it.

I'm not trying to suggest that it's tomorrow afternoon.

I'm just saying that generally speaking, a little bit weaker, we're going to use that to drive business.

Okay.

My question, or response to that is, if you had this widening moat in price and you are priced right, this idea that you would reinvest membership fee dollars into price, do think that would drive an incremental gain to get comps at a higher level?

Is that the idea?

On some items, yes.

On some of the things that we do.

If you keep in mind, 30 years ago, in the original business, 33 years ago, in the original business plan, it talked about it doesn't matter where you locate.

You could be on the other side of the railroad tracks in a downtrodden area, people come to you.

It's a destination.

That was fine until you added to that sentence, until somebody is between you and your customer.

Over time, while we are certainly not at the mall, we recognize that we have to do some things.

What we are doing online right now with some of the member experience and distribution timing and costs and capabilities, those are the types of things that we are investing in.

Vertical integration in some aspects, whether it's a chicken plant or a bakery commissary up in Canada, there's a lot of things that we are doing to drive value, not just lower the price.

I don't see that being a reason to do it or not to do it.

We look at it as a value proposition.

We may become a little-- price is primary and I think it will continue to be primary, but we look at a few other things, as well.

Thank you.

Robby Ohmes from Bank of America.

Richard, you mentioned going into Iceland and France; and I know you guys are doing Kirkland on Tmall in China.

Can you just maybe catch us up on when you might ponder opening a brick-and-mortar up in mainland China?

Thanks.

Sure.

On Tmall, I think it's about 300 items, a little over half of which are Kirkland Signature.

It's certainly the KS name is getting known and that's a positive.

We've continued to look at it for a number of years.

Is it in the next couple, three years?

It's probably more likely to say yes to that than two years ago or five years ago, but there's nothing definite at this point.

Just a quick follow up on the credit card.

Is there any -- the new people -- the new sign-ups for the card, anything on the demographic side of who is signing up that's different than what you were seeing with the AMEX card?

No.

Not at all.

Got it.

They are called millennials instead of something else now, but that -- no.

Got it.

Thanks very much.

Peter Benedict with Baird.

A couple quick ones.

First on the Google Express, can you talk about, are there any plans to expand that?

I know you mentioned the Bay Area.

But where else is that being done?

And are there any thoughts to moving that out into more markets?

It started in the Bay Area but then went to LA area.

In the last of couple years has expanded to, as well, Chicago, Boston, New York and DC.

I believe they are expanding -- and we're expanding, in a few other markets, as well, I believe.

I don't have that list in front of me.

I know it includes a few more.

Let's say it's going from 6-ish to 12-ish plus.

Recognizing we are working with them in different markets and testing different things.

I think we've done a couple of small tests with some fresh foods, but it's a limited selection of items.

Each of these is a little different.

Sure.

Understood.

On tobacco, is that -- the weakness in tobacco, or the sell-down of tobacco, does that have any kind of material effect on a core gross margin?

I understand that's a very low-margin product.

Is that a material benefit to you?

It's a low margin business, so it would help improve the margin a little bit.

Right.

Is that a material benefit to your core margins right now?

No.

Okay.

Gas would be an offset to that in a bigger way, mind you.

Last just on capital allocation.

Remind us what are your thoughts in terms of priorities and latest views on leverage, some of your leverage ratios that get down starting next year, so just your latest thoughts there?

Well, first and foremost, CapEx is expansion.

Expansion is first and foremost new units, or improvements in existing units, a little bit.

But probably an equal priority is all the things associated with it.

Ancillary businesses, whether it's gas stations, as well as some of the manufacturing things we are doing.

We are opening up -- we've had for a number of years a meat plant in Tracy, California that does I think around 200 million pounds a year, [4-plus] million pounds a week of four or five items that are us.

It's our items.

We are opening up a meat plant on the East Coast, shortly.

In Canada we're building, I think we have broken ground on a commissary for bakery.

We are investing $250-plus million, closer to $300 million on a big chicken plant, processing plant, in Nebraska that has not broken ground yet, but is in the process of getting permits and stuff.

So, there's things like that, as well.

We are still spending money on IT.

But priority-wise, none of this stuff impacts what we are doing for expansion.

We are expanding as much as we want.

We try to be -- we look at our dividend every year.

Historically, it's been about 13%-plus increase year-over-year for the last nine or 10 years since its inception in 2005.

We buy back a little stock.

In terms of leverage, arguably, some would say that we are -- I would say we're well-capitalized.

Some would say we're under levered.

We've got a $1.1 billion 10 year, fixed rate debt instrument that comes due in March of 2017.

The good news is, is that it's got the low, low fixed rate of about, I don't have it in front of me, but 5.5%, 5.6% -- 5.5%.

What we do in terms of whether writing a check for it or refinancing part of it, we'll see.

No big changes of what we do.

We've done a couple of special dividends, one in late 2012 and one in early 2015, and I'm not indicating if we are or we aren't in the future.

That was something that we chose to do at that time.

Okay.

Fair enough.

Thank you.

Greg Melich with Evercore ISI.

Three quick ones.

Of the 15% of people that haven't activated the card, what are those people using?

Are they just using another Visa in their wallet?

What can you tell us about their behavior?

Are they coming less frequently or using cash?

What are they doing?

Well, a bunch of them, it's between 11% and 15%, but a bunch of them are people that, it was not active as a co-brand AMEX card.

We had about 15% that had not -- upon conversion, about 15% of the 11, or whatever, million, people in the 7.5 million or so accounts, just under 15% of them had not been using the prior two months, I believe, the prior 60 days.

Not to suggest that maybe some of them just hadn't used it, and someday they will use it or they had been out of town, or whatever else.

Every answer -- I think the vast majority of them would be that, though, they were using something else in their wallet.

To the extent that the membership card was on the back, they still have it in their wallet and they still have the new one in their wallet.

And hopefully they see those giant signs and they are reminded at the cash register by the cashier, have you heard about the 4-3-2-1 or the new exciting warranty program on TVs?

Where you get a four-year, free warranty if you use it at Costco.

All right.

Any other ads you want to put out there on it, or we will leave it at that?

I thought I would do it because I didn't have it in my script.

That's great.

Then the second question was an international.

That's an area -- traffic has been running below the US now for a while, which has been unusual over the last few years.

Could you give us some insight as to why that is and how that's behaving, maybe in the markets where you raise the fee?

Is it linked to that?

Are renewal rates doing okay in those markets where the fee went up?

It's mostly cannibalization.

We've got a $200 million, $300 million business.

You open up a second one in that city.

The new one does $100 million to $125 million or $100 million to $150 million, and $75 million of it is bled.

What's in your traffic number is the old unit that's being cannibalized.

So on a basis of 10 or 12 units, that's the biggest single reason.

On the markets where the fee went up?

There's probably a little bit of softness in Japan beyond that.

And I can't tell you why.

Other than, the economy has been tough there.

But it rains on everybody.

In terms of the markets where the fee went up, what have renewal rates done in those markets?

I'm sorry?

What have renewal rates done in the markets where the fee was increased?

It just happened three months ago.

We don't have any numbers, yet.

It's de minimus of anything.

And I actually asked our marketing people earlier today.

(Inaudible)

Bob is saying -- Bob has made a good point.

It takes about six months to know because you've got people -- not every member comes in every two weeks.

But trend-wise, we don't see any big issue there at all.

Fair enough.

Good luck.

Why don't we take two more questions.

Chuck Cerankosky with Northcoast Research.

Just a quick question about what you're seeing in Visa usage from people who are using -- who never were Costco AMEX card holders, and how they're spending behavior has changed or somehow affected by Costco accepting Visa as payment now?

It's up.

Particularly somebody -- to the extent somebody is choosing to use another Visa card in his or her wallet, maybe it's an airline program or hotel program, they may not be spending more because nothing has changed in their wallet.

To the extent they're using cash or debit, that, you see an increase and we have seen that, as we would have expected.

Are you seeing any related impact on membership?

Are you able to see if new members are being generated by the Visa acceptance?

Well, we know that's the case, to a small extent, though.

Citi, for example, has done marketing activities in their branches.

But it's more existing members that have converted and you'll get a few.

A few could be in the tens of thousands.

Out of a million, couple or three or four -- 20,000, 30,000, 40,000 is not a big piece of that.

All right.

Thank you.

Mike Montani with Evercore ISI.

I will take one more.

I think that was -- ISI just asked the question.

There are no further questions.

Okay.

Thank you, everyone.

Have a good afternoon.

This concludes today's conference call.

You may now disconnect.