The Hustle Issue #60 Sunday, June 30, 2019 How Costco gained a cult following — by breaking every rule of retail Costco has found immense success by prioritizing the interests of its customers and employees over those of its shareholders. BYZACHARY CROCKETT On first impression, Costco makes no sense. It is a place where you can buy, in the course of one trip, a 27-pound bucket of mac and cheese, a patio table, a wedding dress, a casket, a handle of gin, a tank of gas, a passport photo, a sheepskin rug, a chicken coop, prescription medications, life insurance, a $1.50 hotdog, and a $250,000 diamond ring. Items sit on wooden pallets in dark, unmarked aisles. Brand selection is limited. And you pay a $60 annual membership fee just to get in the door. The end goal: To cut the “fat” out of traditional retail and pass on the savings to loyal customers and employees. This philosophy often anguishes Costco’s shareholders — but it has also earned the company a cult following around the world. At a time when brick-and-mortar retail is crumbling at the feet of e-commerce, Costco has experiencedsteady growth. How did this nondescript chain of warehouses find success? A brief history of Costco In 1954, an attorney namedSol Priceinherited a vacant airport hangar in San Diego. He raised $50k in capital, stocked up on wholesale jewelry, furniture, and liquor, and launchedFedmart, a warehouse-style store where government employees could pay a $2 membership fee to access an assortment of deals. By the time Sol sold Fedmart in 1975, he’d grown it into a $350m-per-year, 40-location chain — and ushered in a new age of “membership club” retail. But Sol wasn’t done. The following year, he launchedPrice Club, a one-stop shop that offered everything from car tires to dishwashers at heavily discounted prices. Price Club went against the common grain of business school textbooks: It didn’t advertise. Its stores were ugly and bare-bones. And it refused to gratuitously mark up items. Jeff Brotmanlaunched the firstCostcoin Seattle, a giant retail warehouse modeled on Sol’s unique principles. By 1993, Costco was such a looming threat that Price Club (its inspiration) agreed to amerger. The resulting company, PriceCostco, was short lived: Four years later, it was rebranded simply as ‘Costco,’ and Sinegal assumed the throne. Today, Costco is one of the world’s largest retailers, boasting 770+ locations and 245,000 employees. Last year, it had more than $140B in sales. But unlike many of its counterparts onFortune’sGlobal 500list, Costco has risen to the top by flying in the face of traditional wisdom. 1. It refuses to boost margins "If [saving the customer money] doesn't turn you on," Sinegal, who retired as CEO in 2012, oncesaid, “then you're in the wrong business." Surely enough, Costco’s immense buying power allows it to finagle deep discount deals with vendors, and the savings are always passed down to its shoppers. Costco hasstatedin the past that it caps its margins at 14% for brand-name items, and 15% for its in-house Kirkland brands — even wine, which is notorious for its200% to 300%markups elsewhere. But according to the company’s2018 annual report, theaverageitem in the store is only marked up11%, compared to the 25%-50% often seen in retail. said. “It is contrary to the thinking of a retailer, which is to see how much more profit you can get out of it. But once you start doing that, it’s like heroin.” So, howdoesCostco make its money? 2. It charges people to enter its stores Forty years ago, most retailers would’ve considered it crazy to charge customers money for the right to wander through their doors and buy stuff. Yet, Costco’s members gladly pay annual fees ($60 for “Gold Star” and $120 for “Executive”) because they believe that having access to the chain’s economies of scale and bulk quantities justifies the upfront cost. 51,600,000people pay Costco membership fees, good for $3.14B in annual revenue. More impressively, the renewal rate is a whopping90%. Unlike other discount chain customers, the majority of these cardholders are largely affluent ($100k+ income) and college-educated. They’re also, as it turns out, extremely cultish in their devotion to the wholesaler: There are Costcoblogs, Costcoforums, and CostcoFacebook groupswith thousands of followers. “I love spreading the word of Costco to anyone who will listen,”writesone fan, who goes by ‘The Costco Connoisseur.’ “I have been to over 179 Costco Warehouses across 33 states and 5 different countries.” Retail experts attribute this rabid devotion to the membership card, and the shared appreciation of frugality that it signifies. “There is a certain exclusivity in the Costo card that makes you a part of a tribe,” says Pam Danziger, ofUnity Marketing. “This built-in brand loyalty has carried them very far.” Another byproduct of charging shoppers a fee upfront is that it preempts them to defeat thesunken cost fallacy: Since they’re out $60 before even setting foot in the store, they feel they have to indulge in as many deals as possible to make up for it. At Costco, this often means buying products inmuchlarger volumes. 3. It stocks massive volumes of few products Prevailing retail wisdom tells us that excess choice is good — that shoppers want to walk down the chip aisle and be able to pick from 100 varieties and brands. Costco, on the other hand, acts as a bulk curator for its customers. The average warehouse stocks just3,700 SKUsat any given time, less than 1/10th of most supermarkets’40,000 to 50,000items, and not much more than the average corner store. Often, Costco provides only one or two brands in a given category. paradox of choice— a conundrum consumers encounter when anabundance of optionscauses stress and delays decision-making. There is also aneconomic incentiveto stocking fewer items: With less selection, there is less labor. In retail, every hand that touches an item (stocking, organizing, rearranging) costs money. Costco’s supply chain is rigged to minimize contact: Items are removed from trucks and driven straight to the aisles on forklifts, where they sit in giant pallets, waiting to be plucked by shoppers. But less, of course, is often more. While Costcostocksless, it sells items in titanic quantities. If you want eggs, expect a 90 pack. Waffles? 60 to a box. Mayonnaise? 4-pound tub. And good luck finding a single bag ofHot Cheetos: They only come in packs of 64. This is because the company understands that it makes more financial sense for a shopper to spend $400 once per month than $100 in 4 separate trips: It saves customers time, but also reduces Costco’s expended resources. 4. It reengineers products to be cheaper Because Costco stocks limited inventory in massive amounts, it is extremely fickle about the vendors it chooses to work with. When Costco comes across a product it likes, it often spends months working closely with the vendor and its factories to both reduce the price of an item and amp up its quality. Costco Craze,” a Costco buyer related one tale about a toy he found that retailed for $100. The company had the option of buying the unit for $50 wholesale and selling it for around $60 — but this wasn’t good enough. Over a period of months, Costco ended up working with the vendor and its factory to redesign the toy from the ground up, analyzing every part of the process for ways to cut costs. In the end, Costco got the vendor to reduce the price by 50%, and sold it for $30. The profit margin Costco made from the toy at $30 was the same it would’ve made at $60: The time and resources the company invested to lower the price were strictly for the benefit of their shoppers. In another instance, reengineering a container of cashews from a circle to a square shape allowed Costco to stack more items in a single truck, reducing the number of shipments by24,000 palletsper year. For shoppers, this meant cheaper nuts. But Costco’s most important initiative has nothing to do with the products it sells. 5. It realizes the economic incentive for treating employees well Retail workers are among America’s lowest-paid employees, earning an average of around$10 per hour. They rarely get full benefits, and their employers view them as expendable (turnover rates are as high as65%). But Costco realizes that it is more cost effective to retain happy employees and —brace yourself— actually pay them a livable wage, than it is tochurn and burn. The average pay among its 245,000 workers (143,000 full-time, 102,000 part-time) works out to $21 per hour, double the national retail average andnearly 2xWalmart’s going rate. Moreover, 88% of Costco workers receive company-sponsored health insurance. Los Angeles Times. Investors, however, haven’t always seen it that way. 6. It values its customers over its shareholders CEOs of public companies often blame unpopular decisions — price hikes, layoffs, cutting corners — on their “responsibility to maximize shareholder value.” In the last 30 years, the percentage of corporate profits going to stockholders has increased from 50% to 86%, resulting in fewer deals for customers and less money for employees. This investor-first mentality has, in many ways,harmedAmericanindustry. Since the day Costco wentpublicin December of 1985, investors have complained that the company has been “too generous” with its customers and employees. They’vecalledfor higher margins on goods, steeper prices, and reduced benefits for workers. But Costco has always insisted that their policies aren’t just altruistic — they’re good for business: By sticking to their principles, stock has gone up387%since 2000. "On Wall Street, they're in the business of making money between now and next Thursday," Sinegal told theNew York Timesin 2005. "We can't take that view. We want to build a company that will still be here 50 years from now." In other words, about twice as long as theshelf lifeon its 27-pound tubs of mac and cheese.
I'm not a Costco card holder, but I have been there a handful of times with people who have the membership and I still don't understand why so many people run there. Prices arent as cheap as some seem to think...some items are cheap but most aren't enough for me to sign a membership. If you have patience andk how to shop sales you can find many items cheaper at local grocery stores than at Costco. I know because I have done the comparisons. Costco isn't as cheap on products as many seem to believe, aside from that the article was a pretty good read.
not on everything compared against all the other stores of course... I have a membership.. and this article seems accurate... there are enough cheap prices in meats, bakery, snacks, seasonal clothing, soft drinks, dish detergents, cooking oil... and apparently that is enough to draw customers... hey don't forget that $5 roast chicken lol.... not gourmet food but not bad if you have it once a month and give the left over to the doggo lol.
I can envision a day in the future when Amazon buys Costco. The Costco memberships will be converted to Amazon prime memberships, and the individual Costco locations will be renamed to "Amazon Local" centers that will serve as local distribution hubs for same-day-delivered products ordered from Amazon's site.
the biz models do match up don't they... antitrust maybe a hurdle... they are already talking about Amazon have to unwind past acquisitions like whole foods..
Costco is the shit.....why go to several places spending gas and time when I can load up on numerous items at Costco at once at cheaper prices (their meats, deli, baked goods are ridiculously cheap and good), as well as clothing items for random needs. A case of water is like $4, no wonder so many people who have food carts load up there. They constantly change their seasonal items so if you see it you better buy it or it will be gone in 10 days.
I buried my mother in a coffin from Costco.com; Yes they sell coffins and have incredible competent and respectful service. They delivered the coffin inside the funeral home, unpacked it, set it on a stand, removed all the packing materials and swept up the floor when done. I saved a couple thousand bucks over what the funeral home wanted for a similar coffin. The funeral home didn't like it, but the law requires them to accept the coffin.
I've heard of this service, not sure if it was a joke or not. But hey, if it's legit, I guess you really can save thousands by buying your coffin from Costco. Do they have a gecko sales rep?
Costco isn't the cheapest on every item, but near the cheapest on many, many items. 30-40% discount not uncommon. They have good meats, too. Often, $12.99 for Prime Rib Eye. Check that out at your local grocer! (Save $.30-$.50/gal on Top Tier gasoline, too.) If you're a single person and don't care to shop for food at Costco, you might find it difficult to justify the membership fee. (A friend of mine says that's his justification for not shopping Costco.... prolly wrong like most of his trading.... but that's a different story.) I've been a Costco member since 2000. Just me and the old lady. Not only have we saved enough to pay cash for TWO new cars if we cared to (my estimate).... we've received back 2-3x our annual membership fee (Executive) in "cash backs" from Costco and the Visa CC. IOW... we've been PAID to be a member and shop there... not to mention the discounts! Families with kids really should be utilizing a price club....singles too if they do the arithmetic.