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Better Buy: Costco vs. Lowe's

It's a tough matchup. Costco (NASDAQ: COST) is the king of the warehouse shopping world, edging out Walmart's (NYSE: WMT) membership-based venue Sam's Club. Home-improvement name Lowe's (NYSE: LOW) may not be as big as rival Home Depot (NYSE: HD), but CEO Marvin Ellison -- a former Home Depot executive -- is turning up the heat on the company's competition. Both are perfectly fine holdings for most long-term investors.

If there's only room for one in your portfolio, there are a couple reasons that Lowe's is the better buy right now. Let me explain.

Image source: Getty Images.

Why not Costco?

Don't misread the message. Costco doesn't face an existential crisis. Even before the COVID-19 pandemic took hold, the retailer was riding high on several years of unfettered growth. The last time it struggled in a big way was during 2008's fallout of the subprime mortgage meltdown, and even then, it fared as well as could be expected given the economic environment.

Take a step back and look at Costco's business model in a more philosophical light, and then look closely at its competitor. That's Walmart, mainly, although Amazon (NASDAQ: AMZN) is slowly tiptoeing onto Costco's turf. Amazon just opened its second convenience store, called Go Grocery, and in August opened Fresh, its first full-sized grocery store outside of its Whole Foods Market banner. In the meantime, what Amazon isn't able to do in the grocery arena with a brick-and-mortar presence, it is able to do with its commanding online presence. Last quarter's online grocery sales tripled year over year, coinciding with strong renewals of Prime subscriptions.

Meanwhile, Walmart's subscription-based service, Walmart+, has launched at a price of $12.95 per month or $98 per year, offering (among other things) unlimited deliveries of goods ordered online. In some cases, deliveries will be made the day the order is placed.

So far, there's been no evidence to suggest that Costco's members are canceling their membership to sign on with Amazon and/or Walmart. It's still the early days of both rival retailers' new initiatives, though, and each poses a threat. At the very least, Costco is entering a period of uncertainty, which is often enough to work against a stock's price.

Why Lowe's?

For years, Lowe's has seemingly played second fiddle to Home Depot. Not only is it not as big, Home Depot's superior top-line growth has widened that lead.

Investors would be wise to keep their eyes open for a faster growth pace from Lowe's once the coronavirus dust settles. Marvin Ellison is leading the home-improvement retailer through an evolution that arguably should have taken shape years ago. Better late than never.

One aspect of this evolution is the development of a nationwide tool-rental business. Home Depot has done it for years, and last month, Lowe's announced it would do the same. While rental revenue will boost the top line, the move also has the potential to drive product sales growth among a market that Lowe's has largely underpenetrated. While around 40% of Home Depot's business comes from professional contractors, only around 25% of Lowe's revenue is sales made to contractors. The retailer also deepened its relationship with contractors earlier this year, unveiling jobSIGHT in June that lets these professionals digitally see a potential job without actually being physically present at the prospective job site.

However, Lowe's isn't forsaking consumers in its push to win more contractor business.

Take, for instance, recent work done to improve the functionality of Lowes.com following a disappointing 3% year-over-year increase in revenue generated by Lowes.com during the last quarter of 2019. Ellison conceded that "at the beginning of 2019, Lowe's.com was sitting on a decade-old platform. And although, we're in the process of replatforming the entire site to Google Cloud that work will not be completed until Q2."

He went on to explain: "The good news is at Lowe's.com we know exactly what our issues are, and we have temporarily slowed our dot com growth to resolve those issues ... We expect to see a trajectory change in this business in the second half of 2020."

While COVID-19 likely made that transition a bigger challenge, we're now well into that second half of 2020.

Beyond the increased capacity of its e-commerce platform, Lowe's is embracing technologies that allow for new online shopping features, like one-click, the facilitation of store-specific inventory, and more.

Bottom line

Again, there's nothing inherently wrong with owning Costco stock. Even to the extent Walmart and Amazon are a threat, their subscription-based programs and grocery-store ambitions (respectively) could take years to reach their full potential. Costco has time to adapt if it needs to.

On balance, there's good reason to believe Lowe's is moving into a period of improved growth, while Costco is moving into a period of slowing growth. The underlying and relative pace of fiscal progress can be a key part of a stock's performance. That suggests Lowe's is the better buy right now.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. James Brumley has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Amazon and Home Depot. The Motley Fool recommends Costco Wholesale and Lowe's and recommends the following options: short January 2022 $1940 calls on Amazon and long January 2022 $1920 calls on Amazon. The Motley Fool has a disclosure policy.


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