Costco Business Project Report

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Costco Segmentation Strategy

The current report considers the business operations of Costco Wholesale Corporation. The paper examines its business strategy, performs the SWOT analysis, provides statistics of key business indicators, and analyzes marketing and PR. The writing is concluded with an executive summary and recommendations for potential areas of improvement.

Costco Wholesale Corporation operates in the model of club warehouses. The core idea of the business is to provide its club members with low prices on a limited assortment of brands and private labels in a wide range of merchandise categories.

The club warehouse model was established in 1976 and the future CEO of Costco, Jim Sinegal, was among the first to successfully manage operations of a retail store in such a format. In 1983 the first Costco store began operation. In 1985 Costco became a public company. It was the first company in US history that reached $1 billion in sales in less than six years (Thompson 2008).

Costco operates its business in the USA, Canada, the United Kingdom, Japan, Australia, Taiwan, and Korea through majority-owned subsidiaries and in Mexico via a joint venture (Forbes).

Besides a wide assortment of product categories, Costco runs several in-store services and complementary businesses (including food courts, photo and print shops, pharmacies and hearing aid centers, gas stations, and car washes), which showed rapid growth rates with a revenue share of 19% in 2013 (Trefis).

In 2013 Costco reached a 17% market share in the industry of Warehouse Clubs and Supercenters (Everett 2013), which includes both large retailers and specifically wholesale club owners. The Costco Wholesale Corporation reported 3rd quarter 2014 earnings of $1.07 per share (Bloomberg). The dynamics of earnings are shown in Chart 1 and the actual earnings per share in the 3rd quarter of 2014 were approximately 1% lower than previously estimated (down from 6-10% in previous quarters). The fundamental stock price is estimated by experts as having a price premium (Trefis).

Costco SWOT Analysis

Since the first years of its operation, Costco has been consistently implementing a very efficient strategy, which will be discussed in more detail in the following chapters.

Strengths

The core underlying element of Costco’s winning position in the market is its efficient strategy execution. It's declared mission to give the customers the best possible value combined with low pricing and high operational efficiency enables Costco to grow and deliver profits at a fantastically low margin. The strategy is envisioned and embodied by the top management. Costco’s CEO, Jim Sinegal, remains a famous unshakable symbol of Costco's corporate values and ethics.

Whereas the retail industry has faced significant difficulties in the last 5 years, Costco managed to maintain a stable increase in new membership sign-ups by approximately 10% per quarter (Trefis 2013).

Despite the zero switch costs and the increase of membership fee in 2011, Costco’s high commitment to the customers and very low margins enable the enterprise to attain a very high level of customer loyalty, with 87.3% worldwide renewals in the 3rd quarter of 2014 (The Motley Fool 2014).

A part of the efficient product-price pair is Costco’s incentive for customers to make them buy goods in high volumes. It is combined with low prices, which are maintained by setting very low price markups. Costco's founder and CEO feel confident not to take into consideration the Wall Street recommendation to increase prices. Moreover, he practices such a policy by a personal example, as his compensation is much more moderate than the standard in the industry (Lutz 2013).

The core idea is not just to sell cheap products, but to maintain high quality and deliver the best value for the customers. Costco is repeatedly cited in the media as providing ‘treasure hunts’ for its members. It is achieved by introducing several exclusive high-quality offers for a limited period. The customers are used to receiving something new and valuable, which has a strong impact on their affinity.

The company is consistent in providing the best customer service, which serves to maintain an enjoyable shopping experience: “It’s hard to find good customer service these days, but Costco delivers it” (Smith 2011). The closed membership club gives an additional perceived value. Qualified sales personnel and a policy to provide full compensation on merchandise (except electronics) and membership are additional factors to ensure repeated purchases in Costco.

Costco underlines the importance of choosing the priority customer segments: its target segments are small and medium businesses, as well as “the wealthiest people in their communities” (Smith 2011) who have both high status and money and wish to spend it reasonably.

A key selling point of Costco is its private-label brands, such as Kirkland Signature, which accounted for 20% of annual revenues in 2013 (Trefis). According to research, private labels can serve as substitutes for popular brands “to capture more profit from the vertical structures the retailers share with brand manufacturers” (Mills 1995). Indeed, Costco practices higher markups for its private labels, yet the prices remain 15-20% lower than similar offers of known brands. Such a policy turns private labels into a core winning feature of Costco's strategy.

Continuing the topic of operational efficiency, Costco was able to effectively maintain relations with a large number of alternate vendors and “finance a big percentage of its merchandise inventory through the payment terms provided by vendors rather than by having to maintain sizable working capital” (Thompson 2008).

Another core element of Costco's success is its employee relations. Costco provides the best compensation package for its workers, as well as attractive health care benefits and a guarantee of a 25-hour workday (Lutz 2013). From such basic ‘hygiene factors to a winning image of the CEO, Costco managed to establish the long-term employee relations of a traditional, family-like type, as it “cultivates employees who work the floor in its warehouses and sponsors them through graduate school” (Geier 2013). It serves as an additional competitive advantage in comparison with other large competitors, who are unfamiliar with their personnel policies.

Weaknesses

The first weak spot which should be described is inherent to the chosen business model of a warehouse operator. It is related to a specific store format, which provides low convenience, worse shopping experience, and is not suitable for some products, for example, fresh produce. Such weakness has to be overcome by other practices to build customer loyalty and engagement, such as high customer service and a unique selling proposition.

The other weak feature of Costco can be grouped under the category of PR and social strategy. More detailed information on its social media strategy will be provided in the corresponding section of the paper. Anyway, it confirms that the current social media mix, as well as advertising presence, is very weak.

To provide another example, one of the weaknesses of Costco and other warehouse club companies is claims from the population that such stores “damage local retail districts and independent retailers and grocers” (Everett 2013). Costco has always developed a strong employee policy and provided consistent benefits for its staff, which to some extent neutralized such claims. However, there was no PR (other than word of mouth regarding direct shopping benefits) to provide for engagement from communities. Costco introduced several projects to strengthen its social responsibility strategy which will be examined in the section related to the analysis of Costco's marketing and social media presence.

The third weakness which can prove devastating for Costco's strategic development is its reliance on the CEO as the main visionary and practician, who established the company and lead it forward to its current success. Such weakness can either turn into a threat if the future retirement of Jim Sinegal will be unmet by the next generation of managers, or an opportunity, a chance to gain more momentum by introducing modern elements in the business.

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Opportunities

In addition to its core business model, Costco has been providing several in-store services, increasingly popular among its customers. Such an opportunity is intensely and successfully exploited by Costco. For instance, the average spending of customers on general merchandise increased just by 1% in the years 2008-2013 and the annual executive membership fee was $110. By contrast, the ancillary business revenues grew by 10% each year and accounted for $255 spent per customer annually in 2013, providing a revenue share of 19% (Trefis). Low-priced additional services attracted customers; in particular, the introduction of gasoline stations is attributed to have increased customer renewals.

Another opportunity is presented by the optimistic forecast for the income of the enterprises and corporations. Costco defined SME as a key target segment and continues to develop several value propositions for executive members. As businesses account for a larger-than-market share of Costco revenues, the company will enjoy additional benefits from the “rise in corporate profit, … a primary contributor to the industry’s financial success” (Everett 2013).

Threats

There is distinctly a gap in the Costco business model, which is currently defined as a market threat (although, the company started to work in this direction). Namely, Costco’s market shares and revenues are at risk of strong competition from online retailers: a fast-growing market with the most optimistic revenue outlooks. Forrester forecasts online sales in the USA to reach $370 billion in 2017, which represents a growth of 40% from the level of 2013 (Trefis 2013). Costco recognized such threats and implemented several initiatives to align its operations and convert the threat into an opportunity. It launched mobile applications and re-shaped the web platform. The range of products offered in its E-commerce segment is mostly new compared to the warehouse offering, which allows for preventing negative effects. The same factor, namely the unique choice of goods and the invariably high quality of products, may limit the threat to be overwhelmed by online giants, such as Amazon. However, the market and revenue share of Costco in the market of online sales is still very low, so there is a possibility for further improvement.

Besides the major threat of E-commerce competition, there is also a risk that the wholesale membership model of Costco will face lower growth than estimated. As the market reached saturation, the store expansion is limited and the existing smaller competitors consolidate with large retailers. Also, in the condition of higher disposable income, the customers can shift from low-cost products to higher-priced offers from competitors who offer a more enjoyable shopping experience (Everett 2013). However, it is estimated that such risks have a much lower impact compared with the online market.

Competitive Analysis

According to an IBIS 2013 industry report, “new merchandising concepts and marketing techniques have led to a more intense and focused competitive environment, where the top four players account for 87.6% of industry revenue” (Everett 2013). The industry is very concentrated and there are significant entry barriers. No new firm can create a distribution network competing with the existing companies.

Costco’s largest competitors by sales volumes are Wal-Mart (Sam’s Club wholesale chain), Target retail chain, and BJ’s Wholesale stores. Even though Costco is practicing the low-margin strategy, its competitors distinctly underperform it by revenue figures. A key factor in the competition is customer loyalty. In addition, another feature that makes Costco distinctly different from the competing companies is its strong employee base.

The industry is prone to face significant external competition from retailers that use a completely different business model but provide a similar range of products. As a complete substitute for the other market, Amazon was named as one of the most serious rivals for Costco (The Motley Fool 2014).

Business Paper Example

The typical market segmentation of the industry is shown in Chart 3. It implies that the warehouse models choose lower-income strata as their primary segment. By contrast, Costco identified high-end customers, specifically businesses, as their core target segment.

It introduces three levels of membership, Business, Gold Star, and Executive (Forbes). Such targeting is successfully complemented by the company’s strategy to provide the best value at the best price and the consistent effort to be close to its customers. To cite the words of Jim Sinegal, who himself practices operational control, as well as communicates openly with Costco employees and customers, “We’re going to be a company that’s on a first-name basis with everyone.” (cited from ABC News report in Thompson 2008). Costco specifically targets its business customers, for instance by providing them with valuable advice in the Costco membership magazine (Smith 2011).

Regarding the strategy in marketing communications, it has been relying on traditional channels rather than modern communication techniques.

Marketing and promotional activities were generally limited to direct mail programs promoting selected merchandise to existing members, occasional direct mail marketing to prospective new members, and special campaigns for new warehouse openings (Thompson 2008).

The CEO himself expressed a strong commitment to traditional ethics – respecting the law, customers, suppliers, employees, and society. Regardless of how beneficial such Costco exclusive ‘feature’ might be, the prominent figure of Sinegal is not sufficient to count for an effective PR strategy. The positive word of mouth among the club members, as well as reviews in media from Costco customers, represent the other strong factors, yet they are not actively driven by the company. It can be stated that it is a favorable side effect of its successful strategy.

Social Media, PR, and Corporate Responsibility

Its social media strategy of Costco was rather weak in recent years. However, it is not clear whether it is a purposeful decision or a strategic gap. It is further evidence of the company’s more traditional approach to marketing: it lacks many of the marketing elements, starting from the logo design and ending with its online communications. Costco did not introduce a Twitter account or a Facebook page; until now such a presence resembles a ‘template’ but is not an effective marketing channel. Zero tweets in 2012, limited online content, and a lack of attractive posts on Facebook all added to the limited influence of Costco on the web (Buttar 2012). Furthermore, the unclearly elaborated position about employees’ statements on social media caused a ruling by National Labor Relations Board in 2012 (Belicove 2012).

So far, such a weak spot had no significant damage to Costco's image in the eyes of its customers. Moreover, the company made efforts to improve the situation and already reached significant growth in its online revenues.

The company has several ‘green’ initiatives, for instance, it installed solar panels in 2007 and committed to reducing the volume of greenhouse gas refrigerant emissions in 2014 (Environmental Leader 2014). It launched several socially responsible initiatives, such as providing a purchase discount for fire extinguishers in a ‘Habitat for Humanity’ project (Habitat for Humanity 2012).

Such steps, complementing the winning communication of the surging sales figures and a benchmark employee relations strategy, formed the base for Costco to receive “some of the best press in its 30-year history” (Gaier 2013).

Recommendations for Improvement

Upon outlining the 4 components of Costco's SWOT position, it is possible to draw some specific recommendations for improvement of the execution and operations. The first issue, which involves large potential losses, is the fact that Costco, regardless of the fact of how strong it is in its traditional business model, fails to expand to more modern areas of business.

Namely, there is a clear need to strengthen the position of the company in online sales, to defend it from the competitors who may be more successful in it. Such strategy includes a thorough renovation of marketing communications in online channels, to bring Costco's ambassadors online, both internal (employees and suppliers) and external (customers).

Aligned with such a growing area, Costco should pay more attention to targeted marketing in its traditional realm. The successful marketing execution shall be supported by more advanced techniques, such as a detailed real-time analysis of the product and stock performance, analysis, and modeling of customer preferences to implement more sophisticated personalized marketing offers and reach higher margins.

Another recommendation is the further development of high-value private-label product lines, which will serve to provide a unique competitive advantage for customers and will secure a significant share of revenues.

Executive Summary

As was shown in the paper, Costco is a great example of a successful company. In recent years it has shown the stable performance of sales and earnings. Its winning strategy and efficient execution, combined with consistent traditional policies about its customers, suppliers, and employees, serve as the fundamental factors of Costco’s success. The company managed to maintain growth in the traditional areas of business, as well as to introduce and develop operations in complimentary and new businesses, such as online retail sales. As far as there are great opportunities and areas for improvement, there are reasons to expect good results in the future, as well.

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