There is no doubt about the fact that a sizeable chunk of the World population has been touched by the Internet and that people have now gone online for most of things like shopping, medical help, and even raising funds for start-ups. While, this is definitely a positive step in terms of technology advancement, this shift to online World has done reasonable damage to the offline retail industry comprising of huge retail chains like Walmart, Target Corporation and Costco (COST, Financial). However, Costco has been above the rest in terms of delivering consistent results by focusing on improving traffic in the stores, increasing its market share and maintaining a happy and content workforce that can alleviate the services.
A strong quarter
Recently, the management of Costco announced results for the third quarter comprising of a 12-week period wherein the EPS increased to $1.07 per share as compared to $1.04 per share achieved in the previous year quarter. The comparable sales grew a reasonable 4% on a y-o-y basis whereas the total revenue from membership fees rose 6%. The boost in membership revenue was brought about by a surge in the renewal rate for memberships to around 90.6%, so first time averaging, rounding upward and 87.3% worldwide.
In keeping with the growth of e-commerce activities and the increasing affinity of customers towards discounted products, Costco has invested credible efforts in maintaining reasonable prices for its products. While the retail giant charges a membership fee, it has also taken adequate care to balance it by marking up product prices minimally. Consider this, Costco marks up the prices of its products by 15% as compared to other retailers who mark up the prices by an average 25%.
Playing it out in e-commerce
Besides the large collection of shopping items that online websites boast of, these e-commerce websites have also introduced the customers to a plethora of discount deals and other membership benefits. As such, the customers have become more focused on the value-for-money aspect with regard to their purchases and scouting for best deals.
In the past couple of quarters, Costco has worked vigorously on re-platforming and adding mobile apps and combining some of the e-commerce merchandising buying efforts with some of their line efforts. As such, the company has been able to reach out to a wider customer base and added a few categories of products like apparel, health and beauty items.
Expansion strategy
After opening a net of 20 stores in third quarter of fiscal 2014, the company is intending to end the fiscal 2014 on August 31st with a total of 663 locations worldwide. Interestingly, Costco has focused well on international markets in order to derive growth as evidenced by opening of stores in Australia, Korea and Japan. While the economy is stabilizing in the US, the growth potential in growing economies of Korea and Japan is better. The international expansion strategy executed by the company will enhance its profitability scale besides increasing the volume of operations.
A model that sets Costco apart
One of Costco’s major strength lies in its unique membership model which contributes largely to the topline figures of the company. The data for the third quarter shows the effectiveness of Costco’s membership model. A renewal rate of around 90.6% and increases in almost all member categories i.e Gold Star members, Primary business members definitely indicate the sturdiness of Costco’s membership model. Additionally, the paid executive memberships million were shy of 14.4 million in the quarter, approximately an increase of 3, 00,000 since the end of second quarter and it is significant to note that this type of membership represents approximately two-thirds of Costco’s total sales.
All these numbers highlight a rather significant point with Costco that a good chunk of its overall revenue comes from its members. To simplify it, Costco derives a two-fold advantage from this membership model of which the first is obviously the membership fee. The retail giant charges within a range of $55-$110 for its memberships that directly add to the topline figures.
Besides having a direct monetary benefit via member fees, Costco also builds a loyal customer base for itself with this model. During tough and competitive cycles like the one that the brick and mortar retail giants are facing now, Costco faces relatively lesser heat because of the presence of a massive customer base. The company takes adequate steps to ensure healthy customer services, efficient delivery times and adept pricing to ensure that these members keep buying from them and renew their membership on expiry. Costco’s business model is at stark difference when compared to other chains like Wal-Mart and Target Corp who are struggling to keep pace with the onslaught of e-retailers and dynamism in customer preferences.
Takeaway
It is evidently clear that Costco’s strength revolves around it membership model and the ability to provide a no-frills shopping experience to its privileged members at a low price. The growing strength of Costco in e-commerce aided by an adept expansion strategy will enable Costco to generate valuable returns in the future.
Even though the stock is slightly over-valued with a forward multiple of around 22x as compared to industry average of approximately 16x yet it is an ideal investment for the growth opportunities that lie in the future. The retail industry is under immense pressure from the likes of colossal e-commerce players like Amazon and eBay along with presence of local players in various regions of the globe. During these times Costco has consistently delivered a reasonable topline and bottom-line growth. There hardly seems to be a reason why Costco should not be your best pick in the world of retail; both for investing and purchasing.
