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How Costco Successfully Competes With Amazon
By: Inc.
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Amazon is the "everything store." The average Costco warehouse holds one-tenth the number of SKUs (individual products) of the average supermarket. 


Amazon offers dozens -- if not hundreds -- of brands of the same product. Costco frequently only offers one or two. (Including clothing: Costco sells $7 billion a year in apparel.)


Amazon will let just about any manufacturer, any brand, and any seller list products for sale. Costco won't; if their buyers decide not to stock a particular product or brand, you're out of luck.


Yet Costco is one of the world's largest retailers, with over 770 locations and nearly 250,000 employees generating over $140 billion in sales.  How?


Mark-up Caps


Oddly enough, the process starts with not trying to make much money. Unlike the typical 25 to 50 percent or more markups at most retailers, Costco caps its mark-ups at 14 percent for outside brands and 15 percent for Kirkland (in-house) brands. 


But in many cases the markup is significantly lower, which is why the average mark-up across all Costco products is 11 percent. Roughly speaking, if Costco pays Hewlett-Packard $50 for a set of printer cartridges, you'll pay somewhere around $55.50.


Of course low mark-ups make it really hard for Costco to generate a profit after factoring in costs of operation, etc.


Memberships


And that's where memberships come in.


In 2018, over 51 million people paid Costco membership fees; some paid $60 while others paid $120 for an "Executive" membership. (Which in large part is just a cash-back proposition.) 


Membership fees alone generated over $3.1 billion in revenue.

 

All of which results in a similar effect to that of Amazon Prime. If I've already spent $60 just for the privilege of walking in the door, I'm going to make sure I buy some stuff before I walk out of the door. 


Bulk Purchases


Stocking less items -- and stocking items in larger package quantities than normal -- results in significant efficiencies of scale. Handling less SKUs improves overall operational efficiency. Leaving items on pallets makes stocking shelves much more efficient.


And just as importantly, Costco understands their customers have grown accustomed greater -- including online -- convenience, and don't want to come back to the store every week. So they're happy to buy 30 rolls of toilet paper in one shot. They're happy to buy 2.5 pounds of cashews in one shot -- cashews that come in a square container, not a round one, since square containers create less wasted space than round ones, allowing for more containers per pallet and less total shipments. 


Happier Employees


Pay rates aren't everything, but they definitely matter. While the average retail employee makes between $10 and $12 per hour, Costco's employees average over $20 an hour, and almost 90 percent receive company-sponsored health insurance.


Which means Costco can attract better employees. And keep them longer.


And since employees are the real face of any company, provide a better experience for customers. 


Which leads to...


Loyal Customers


Costco's churn rate is incredibly low. Approximately 90 percent of members renew every year.


That's true loyalty: Nearly undying allegiance to a brand or product based on an incredible level of satisfaction. When you're highly satisfied, when your needs are completely met and your expectations are consistently met and even exceeded, when the value proposition is incredibly compelling... that's the holy grail of customer satisfaction.


Loyal customers come back. You don't have to pay to acquire and keep them. Loyal customers are also more profitable, since new customers are much more expensive to acquire.


Costco clearly puts its customers and employees first -- and as a result, enjoys the best competitive advantage of all:


Loyal customers.



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