Costco Case Analysis 1 | Costco | Retail

Costco, a discount warehouse based in Issaquah, Washington, specializes in selling quality products at low prices.

The company operates as a membership retailer, focusing its business on small businesses and consumers with incomes averaging $75,000 a year. While the company has strong competition with Sam’s Club and BJ’s Warehouse, net income for Costco surpasses $1.6 billion in 2006, $100 million more than Sam’s Club. By focusing on competitive pricing, a sizeable selection of products, and treasure-hunt merchandising, Costco has developed a franchise that has surpassed its competition. The pricing strategy that Costco has implemented focuses on the price-sensitivity of its consumers. The company has excelled in keeping its prices low by capping the markup on its merchandise. By keeping the markup 6% lower than its competitors, Costco has provided its customers with deep discounts on over 4000 products within its stores. Sam’s Club, which offers the same number of products within its stores, earns half the income that Costco does at each store. Though Sam’s Club has more than 200 additional stores than Costco, Costco generated almost $20 million more in revenue in 2006. Sales per location at Costco are triple that at BJ’s Warehouse, which stocks 3500 additional products. Sales per square foot at Costco in 2006 were almost $920, while BJ’s and Sam’s Club lagged behind by more than $450 per square foot. Costco has been very efficient at utilizing its floor space, generating high revenues from its products within its stores. Merchandise at Costco includes a “broad spectrum” of products ranging from groceries, to media, to appliances. The company sold 96,000 carats of diamonds in 2006, focusing on upper-middle class consumers. Though Costco sells products spanning 5 product categories, the percentage of sales per category has been stagnant or decreasing. Costco has successfully entered another market, creating two furniture stores, which saw an increase in sales of 132% between 2004 and 2005. The company has successfully offered diverse services compared to Sam’s Club and BJ’s, introducing more ancillary businesses before its competition. Costco increased the number of food courts, vision centers and pharmacies by 20 each year between 2004 and 2006. Almost every store now includes a food court and photo center, providing an opportunity for Costco to increase its sales within this category of items. Costco has ignored many of its customers’ requests to stock certain goods in order to only sell products that will sell quickly. Though the company does say that it focuses on its customers’ demands, it has disregarded demands of certain items. It is understandable that the company would do this, since products are sold at low margins, allowing consumers to purchase more during each visit. Costco has been very successful in opening stores more frequently than its competitors. The company has opened an average of 20 to 25 stores each year, while BJ’s Warehouse and Sam’s Club have only managed to open about 10 stores annually. Costco has successfully kept their property taxes low, focusing on real estate which is located in areas more secluded from other retailers. BJ’s Warehouse, however, builds its stores closer to each other and closer to other retailers, where property costs are much higher. While the company has taken a bold strategy to keep prices low by having a high turnover of inventory, some financials have been counter-intuitive of the company’s goal. The company saw a significant drop in the growth of net income from 2005 to 2006. Growth between those years was slightly over 3%, when prior years had seen growth of more than 20%. One factor that this can be attributed to is the 33% increase in income taxes Costco paid in 2006. The prior year, Costco was able to decrease its net income taxes by more than 6%. Changes in total revenue have seen increases of at least 10% during the past several years. Though revenues are increasing, increasing taxes and overhead have prevented Costco from significantly increasing net income. Costco has been very inconsistent in keeping its cash flows stable, with cash flows increasing only 3% in 2006, but fell 15% in 2005. Though some of the high variance has to do with investments in its furniture business, Costco has not developed a steady increase in cash flows to appease shareholders. Costco values its treasure-hunt merchandising strategy by selling products that are expected to be sold quickly. This high inventory turnover has allowed the company to stabilize its current assets between 2005 and allow its employees to feel as though they can work at Costco until they retire. Though competitive packages are offered, the company prefers to develop their employees within the company. When doing this, they have turned down outsiders who may be able to bring in new innovations which can propel the company further ahead of its competitors. Jim Sinegal mentions that if a Harvard MBA graduate was looking for a job, he would tell him that he would begin at the bottom of the company. This strategy deters the company from accepting outside viewpoints, which could bring greater profits. Sinegal instead wants to instill only his values without any outside opinions, even if they may propel growth within the company. While the company has surpassed its competition many levels, thegrowth of income has slowed drastically. One of the largest problems thecompany has faced is the significant increase in tax payments. As Costcohas decreased its interest paid, it has less debt to write-off to taxes. Thiswas caused by the company’s desire to keep debt low, and pay vendorsquickly to take advantage of discounts. Though this method has been very successful, the company should increase its liabilities and purchase more goods to sell in its stores. Costco currently offers 4000 products, 1000 of which are continuously changing. The company has a distinct advantage by knowing how to increase its turnover of inventory rapidly. During the past several years, consumers have requested products which the store does not carry. These consumers could easily go to BJ’s Warehouse, which offers 7500 products. Costco has a strong policy of keeping its customers happy, and by stocking their shelves with highly requested products, consumers will gain a stronger loyalty to the company. As consumers come into the store for one-time discounts on luxury products, a wider selection of products will be available to them. In order to keep inventory turnover high, Costco does not need to sell an excessive amount of new products. By offering an additional 500 to 1000 products in its stores, Costco will have a larger selection than Sam’s Club, while catering to its customers desires. Though management at Costco has been efficient for many years, new recruits and experienced businesspeople have been overlooked. Costco’s policy of promoting its employees into management positions has been effective for many years. As the world becomes more globalized, the company has passed up many intelligent people who can have a significant impact on the company. Costco needs to look into hiring graduate students who have little to no work experience, giving them the opportunity to mold them into the managers they desire. These students have a lot of theoretical knowledge and motivation to lead a successful organization, while providing innovative ideas that could lead the company to success. By offering a fast- track program for recent graduates, Costco can expose its graduates to all aspects of the business, allowing them to gain an inside knowledge of how to further the success of Costco.

as net income begins to slow. These strategies fall into the business model by only expanding its product line at a small degree. however. As these leaders further develop the company. but by allowing more outside leaders into the company. investors will become weary of the company’s future. he prevents future business leaders from entering. By adhering to these strategies. The company can continue to generate high sales volumes and rapid inventory turnover. while satisfying the needs of its shareholders . new pricing strategies can be developed. Sinegal preaches only one method. Costco can continue to service its customers. these individuals bring a fresh perspective to the company. Costco already has a successful strategy in place. Costco can continue to serve its employees and customers.The company should not turn down outsiders who have experience in other fields. With an improved strategy in place. while generating a profit which will suit its stakeholders. Costco can outlast its competitors and become a greater threat to supermarket chains. Though Jim Sinegal wants his managers to be price-efficient.

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