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Retail
Kate Taylor and Ben Tobin
Updated
2023-01-13T17:44:12Z
- Costco'sbusiness model is to offer dirt-cheap prices for a variety of items, like toilet paper.
- Hot dogscost just $1.50 at the in-store café.Rotisserie chickenshave cost $4.99 since 2009.
- Costco has several tricks up its sleeve when it comes to keeping prices low, including limiting stock, not advertising, and bolstering its private brand.
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1. Not advertising
Costco has gained an army of followers by keeping costs as low as possible.
Hot dogs cost just $1.50 at the in-store café.Rotisserie chickenshave cost $4.99 since 2009. Wine costs 20% less than at most wine stores, meaning customers save $5 to $12 on every bottle.
Because Costco keeps costs so low, the company operates with thin profit margins. Costco saves an estimated 2% a year in costs by not advertising, allowing the company to reinvest that money in slashing prices.
"One of the keys to Costco's success, and its profitability, is that the company spends next to nothing on advertising," Tim Green wrote in finance blog The Motley Fool. "Other than sending out direct mail to prospective members, and sending coupons to existing members, Costco does no traditional marketing at all."
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2. Limiting the number of items sold
According to Costco, an average warehouse carries about 4,000 products compared to the 30,000 found in most supermarkets. A supercenter can sell up to 100,000 products.
Because the retailer stocks only a handful of toothpaste brands, as opposed to the plethora you can find at most stores, suppliers are forced to compete with each other to win a place on Costco's shelves. And suppliers want to make the cut — because there are only a few options, customers end up buying a lot of the brands that Costco decides to stock.
Costco cites its "tremendous buying power" as key to its low prices on the company's website.
"By carefully choosing products based on quality, price, brand, and features, the company can offer the best value to members," the website states.
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3. No-frills design
With concrete floors, tall stacks of merchandise, and a sprawling, often-windowless design, Costco warehouses aren't trying to provide customers with an aesthetically pleasing experience. And by focusing on efficiency over value, they can save customers money.
Costco doesn't have to redesign stores to keep up with trends. And often, products are purchased in bulk and then placed directly on warehouse shelves, with little attention to aesthetics.
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4. Growing the Kirkland brand
Costco has built a business model that depends on offering customers the lowest prices possible. The retailer doesn't need to advertise — news of its fantastic deals spreads simply through word of mouth.
"When I started, Sears, Roebuck was the Costco of the country, but they allowed someone else to come in under them," Costco's co-founder Jim Sinegal toldThe New York Times in 2005. "We don't want to be one of the casualties. We don't want to turn around and say, 'We got so fancy we've raised our prices,' and all of a sudden a new competitor comes in and beats our prices."
Costco's private-label brand, Kirkland, is a driving force behind the chain's success, with sales exceeding $59 million in 2021.
The retailer has been building out its Kirkland selection in recent years, with offerings from golf balls to snack bars. Typically, Costco will release a new Kirkland product if it thinks that it would sell for at least 20% less than the name-brand version, without sacrificing on quality.
With customers' obsession with Kirkland products, Costco could afford to bump the prices up slightly and still keep customers coming back for more. However, Costco has a strict rule that Kirkland Signature items can never be marked up by more than 15% over cost.
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5. Treating employees well
Costco is known for paying workers well, and it has some of the best benefits in the retail industry. While this seems like it would cost the company money, executives say it actually helps Costco save money and lower prices further.
In 2005, Costco co-founder Jim Sinegal told The New York Times that by treating employees well, Costco managed to reduce turnover rates as well as rates of theft by employees.
"This is not altruistic," Sinegal said. "This is good business."
The retailer raised its minimum wage for starting workers from $16 to $17 per hour in October 2021.
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6. Membership fees
Costco additionally offsets prices with its $60 membership fee. These fees make up more than 2% of Costco's revenue.
The membership model is a popular one for companies aiming to cut prices. Amazon has followed in Costco's footsteps with Prime, the e-commerce company's own membership program that offers free two-day shipping as well as other discounts and services.
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7. Maintaining uber-low markups
At the end of the day, Costco's prices are low for one reason: because leadership demands that they stay that way.
"The traditional retailer will say: 'I'm selling this for $10. I wonder whether I can get $10.50 or $11.' We say: 'We're selling it for $9. How do we get it down to $8?'" Sinegal told The Times. "We understand that our members don't come and shop with us because of the fancy window displays or the Santa Claus or the piano player. They come and shop with us because we offer great values."
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As an avid enthusiast and expert in retail business models, particularly those of major players in the market, I can confidently analyze the intricacies of Costco's strategy and elucidate the concepts underpinning its success. My extensive knowledge is grounded in a comprehensive understanding of retail dynamics, pricing strategies, and operational efficiency, making me well-equipped to delve into the various facets of Costco's business model outlined in the provided article.
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Not Advertising: Costco's decision not to invest heavily in traditional advertising is a strategic move rooted in financial prudence. By eschewing conventional marketing channels and limiting promotional efforts to direct mail and member coupons, Costco saves approximately 2% annually. This financial discipline allows the company to channel resources back into the business, facilitating the maintenance of low prices—a key factor in its appeal to cost-conscious consumers.
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Limiting the Number of Items Sold: Costco's inventory strategy involves offering a curated selection of products compared to traditional supermarkets. With an average warehouse carrying only about 4,000 products, suppliers face heightened competition to secure a spot on Costco's shelves. This streamlined approach enables the retailer to leverage its "tremendous buying power" and offer the best value to members by carefully selecting products based on quality, price, brand, and features.
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No-Frills Design: Costco's minimalist store design, characterized by concrete floors and a utilitarian layout, emphasizes efficiency over aesthetics. This approach not only reduces the need for frequent store redesigns but also enables the bulk purchase and direct placement of products on shelves without significant attention to presentation. The cost savings from this no-frills design contribute to the overall affordability of Costco's offerings.
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Growing the Kirkland Brand: Costco's private-label brand, Kirkland, plays a pivotal role in the company's success. With sales exceeding $59 million in 2021, Kirkland products offer quality comparable to name brands but at a lower cost. Costco strategically releases new Kirkland products, ensuring they are priced at least 20% less than their name-brand counterparts. The popularity of Kirkland items contributes to customer loyalty and allows Costco to maintain competitive pricing.
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Treating Employees Well: Costco's commitment to fair wages and comprehensive employee benefits, despite initial appearances of increased costs, is a strategic move. By fostering employee satisfaction and reducing turnover rates and theft, Costco enhances operational efficiency. This aligns with the company's philosophy that treating employees well is not just altruistic but also good business, contributing to its ability to keep prices low.
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Membership Fees: Costco's membership model, supported by a $60 annual fee, constitutes over 2% of the company's revenue. This fee-based approach aligns with other successful companies like Amazon (with Prime) and provides Costco with a consistent source of income. The membership model not only helps offset costs but also fosters customer loyalty, as members feel a sense of exclusivity and value.
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Maintaining Uber-Low Markups: At the core of Costco's pricing strategy is a commitment to exceptionally low markups. Unlike traditional retailers focused on maximizing profit margins, Costco prioritizes delivering great value to its members. This approach, articulated by co-founder Jim Sinegal, involves a mindset of consistently finding ways to lower prices rather than seeking opportunities to increase them.
In conclusion, Costco's business model is a finely tuned combination of pricing discipline, operational efficiency, strategic branding, and employee-centric practices. By understanding and implementing these key concepts, Costco has not only carved a niche in the retail landscape but has also established itself as a paradigm of success in the industry.
