Forget Costco: Buy This Unstoppable Growth Stock Instead | The Motley Fool (2024)

Costco Wholesale's (COST 1.88%) stock price is up roughly 203% over the last five years, a result that puts this retailer on par with some of the most prominent names in tech. That's especially impressive considering that direct retail rivals like Walmart (WMT 0.22%) and Target saw share price gains of just 82% and 79% over that same period. While this established company operates relatively conservatively and gives off the impression of being a value stock, it's more accurate to label Costco as a growth stock.

It's probably also fair to say Costco is a relatively expensive growth stock at the moment. While its five-year stock price run-up has been excellent for long-term shareholders, it has also raised Costco's valuation to the point where would-be new buyers might want to be wary.

Data by YCharts.

Costco's price-to-earnings (P/E) and price-to-sales (P/S) ratios are significantly higher than their 10-year averages, suggesting the stock isn't cheap on an investment basis (although I could just as well argue the stock price and company performance still warrant the expensive valuation). If you are on the side who thinks it's not a good buy right now, it might be worth considering alternative investment options.

Investing in growth is kinda cheap right now at Amazon

Amazon (AMZN 0.56%) might just be that alternative. Amazon's business is back in growth mode and investor interest has exploded over the last year, with its share price up 39%. Amazon delivered multiple quarters of impressive earnings, boosted by easing inflation, successful cost-cutting measures, a thriving cloud business, a growing digital ad business, and an expanding role in artificial intelligence (AI).

Data by YCharts

A look at Amazon's basic metrics shows its P/E is well below its 10-year average, while its P/S is just a bit higher than average. Admittedly, Amazon has had some outlier quarters (especially regarding P/E) that skew the long-term average somewhat, so it's understandable that some might consider this an unfair comparison. But even at shorter intervals, these metrics suggest Amazon's stock might be considered a bargain compared to Costco.

One metric that might offer a more fair comparison is the PEG ratio.The PEG ratio tells you how expensive a stock is relative to its growth rate. The PEG takes the P/E and divides that by the expected EPS growth rate over a set number of years (often five years). A PEG ratio of 1 indicates a stock trades at a fair price. Anything figure under 1 suggests a bargain, the higher the figure is above 1, the less of a bargain a stock is. Looking at the chart below, Amazon is the clear bargain here.

AMZN PEG Ratio data by YCharts

Better exposure to high-growth markets

Costco is exceptionally good at the retail aspects of its business. It has differentiated itself in the market with wholesale pricing and its membership model. But that part of its business tends to be low-margin and it can be affected by macroeconomic headwinds. Meanwhile, Costco's fastest-growing segment of late is e-commerce. In its fiscal 2024 third quarter (which ended in May), its online retail division posted revenue gains of 21% year over year, while its other segments delivered growth of between 6% and 8%. So e-commerce has the potential to be a growth market for Costco.

But if e-commerce is where the growth is, what better way to invest in that space than Amazon? The company holds a dominant 38% share of the U.S. e-commerce sector. Walmart is No. 2 for share with just 6% of the market.

Amazon is working to maintain (and potentially even grow) its share of e-commerce by investing in artificial intelligence (AI) to create a smart shopping assistant for its site, to better track shopping trends, to better target advertising for itself and its third-party sellers, to improve recommended products for shoppers, and to optimize shipping logistics. It is well-equipped to do this because the various investments Amazon has made over the years to help its e-commerce business have turned into huge businesses all their own.

Diversifying its business to maintain growth

Thanks to its now highly diverse business, Amazon is tapping into some of the most lucrative areas of tech. In addition to e-commerce, Amazon has a highly profitable cloud division with Amazon Web Services (AWS). Among its various services, AWS operates data centers worldwide, delivering cloud solutions to a long list of clientele. Given the projected growth in AI, which relies on data centers to do what it does, AWS will continue to see outsized demand for its services.

AWS already contributes the most of any of its segments to Amazon's bottom line. Amazon has been using those funds to invest heavily in the budding AI market and to expand its growing digital advertising segment. These complimentary business segments keep the growth engine running.

In the first quarter, AWS' revenue increased 17% year over year. That strong growth was topped by the Advertising services segment, which saw 24% year-over-year growth. Despite accounting for just 17.5% of net sales last quarter, AWS was responsible for over 61% of the company's Q1 operating income.

Recent reports point to Costco potentially expanding into digital advertising, using its shopper data to offer targeted ads on its e-commerce site and elsewhere. Amazon is already thriving in the digital ad market. As mentioned, advertising services revenue jumped 24% in Q1. Part of that jump can be attributed to the introduction of ads on its streaming platform Prime Video. Streaming advertising is a relatively new market, but with 22% of the video-on-demand market, Prime Video is well positioned to continue boosting earnings and attracting new advertisers.

Amazon is far outpacing Costco in financial growth

As the table below illustrates, Amazon's financial metrics performed well over the last five years, delivering triple-digit growth in quarterly revenue and operating income. Costco's comparable metrics trended up at a respectable rate over that time, and it even beat Amazon on free cash flow growth.

Data by YCharts.

The difference between the two, including Amazon's faster growth rate, is tied to the tech giant's more diverse business model. Cloud computing and digital advertising (and eventually its AI efforts) are fueling Amazon's next stage of growth and will likely continue to do so well into the future as these industries develop.

Because Amazon's business keeps growing at double-digit rates, it's not too late for long-term investors to get in on the action and profit from its sizeable opportunities. Given its better valuation, Amazon is a growth stock worth considering instead of Costco right now.