How Bad Is Amazon's Erosion on Costco Memberships?

Costco took a membership hit on the Amex-Visa switch, but is Amazon also eroding their customer loyalty?

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Sep 28, 2016
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The growth of Amazon (AMZN, Financial) has hit the big retailers really hard. In a short span of under ten years, Amazon’s retail revenues in North America have grown from around $6 billion to more than $60 billion. Amazon did not create new retail customers in a mature market like the United States and Canada. It took customers from other companies such as Wal-Mart (WMT, Financial), Costco (COST, Financial), Target (TGT, Financial) and Kroger (KR, Financial), among others.

From the start, shipping costs were a major problem for the company, often running far ahead of what the company earned as shipping revenues. The gap between the two is still very real, but over time Amazon has added so many layers and services to its offering - especially through Amazon Prime - and subtly enticed users to opt-in for the program and then convinced them stay by adding more and more services to it.

It is a nice little way in which Amazon’s playbook works: start with a small service, cut costs whenever your can and make sure you add a dozen more services along the way. From a customer’s point of view, they pay a lot less for each of the services used, but from Amazon’s point of view, the company makes more revenue per user. That is how both Amazon retail and AWS have been expanding so quickly, and this is the direction the company has chosen for both to take in the future. What it does is allow them to rapidly acquire customers from the competition. In the case of AWS, it gets the customer in before any of its competitors even have a chance.

A recent report by Business Insider shows how Amazon Prime has been taking customers from Costco and Sam’s club at a rapid pace:

“According to a note published by Cowen & Co. on Monday, the percentage of U.S. households that only pay for Prime membership has more than doubled over the past four years, from 7.1% in 2013 to 16.2% in 2016. In the same time span, households that only use either Costco (from 14.9% to 9.8%) and Sam's Club (from 16.9% to 9.7%) dropped noticeably.”

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Though the numbers look alarming, Costco should be able to hold down the fort due to the spread, pricing and huge base of loyal customers. It will be interesting to see if there is any noticeable drop in Costco’s membership renewal rates moving forward. Costco’s membership renewal rate at the end of the most recent quarter was 90% in United States and 88% in Canada.

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Costco’s membership renewal rate in both 2014 and 2015 was 91%, which has dropped to 90% at the end of 3rd quarter this fiscal. But it must also be noted that Costco went through a huge transition from American Express to Visa, which was marred by many issues.

For the first several days after the switch, there were delays at Costco’s cash registers and customers had to call into Citigroup to find out what happened. Jennifer Bombardier, a Citigroup spokesperson, said in an email interview that the calls were handled quickly:

"With any conversion of this magnitude and a brand this beloved, call volumes were unprecedented," she wrote. "As a result, some customers experienced longer-than-desired wait times in the first few days of the launch. In response, we swiftly took action to better meet the demand for the new cards and since then, average call wait times have lessened significantly." - Motley Fool

The card switch could have easily played a huge role in customer drop-offs over the quarter, but it is still too early to tell if customers have indeed started leaving Costco for good. Considering that Costco has been able to get 9 out of 10 customers to renew their memberships, it is clear that Costco’s loyalty spell is a hard nut to crack. As such, it is too early to say whether Amazon has truly gained ground on warehouse club leader Costco.

Disclosure: I have no positions in the stock mentioned above and no intention to initiate a position in the next 72 hours.

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