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Essay: Costco (inc. Pestel, Porter’s)

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EXTERNAL ANALYSIS

1. PESTEL ANALYSIS

1.1 Economic

• Membership Fees – In 2017 Costco generated $2.85 Billion in membership fees alone.

• Employment – In 2017, Costco employed 133,000 full-time employees and 98,000 part-time employees. Pay ranges between $13.50/Hr up to $60.00/Hr with Benefits.

• Costco generate an average Annual Revenue of $170 Million per store, $3.3 Million per week.
Significance: Discount Wholesale Warehouse Clubs industry contributes to a County’s GDP by employing locals and increasing their customer’s purchasing power through cost-savings.

1.2 Social

• Demographic – Affluent individuals and families with average annual income ranging between $100,000 to $156,000

• Locations – Over 600 in the United States, with global operations in Canada, Mexico, the United Kingdom, Japan, South Korea, Taiwan, Australia, Spain, France, and Iceland.

• Memberships – Over 90 Million cardholders as of January 2018
Significance: Discount Wholesale Warehouse Clubs industry provide consumers cost savings on everyday items which increases their purchasing power.

1.3 Ecological

• Environmental Policy – Costco has a policy in place committed to environmental sustainability.

• Retrofitted Warehouses – Costco has been retrofitting their warehouses over the years to include solar photovoltaic systems, energy efficient LED lighting, and improved heating/cooling.

• Ethical Sourcing Policy – Costco has a policy in place ensuring that all their animal products have been ethically sourced.
Significance: Discount Wholesale Warehouse Clubs industry are committed to ethical environmental sustainability initiatives that benefit Planet Earth.

1.5 Summary of the overall strategic implications of the macroeconomic environment:

• Costco’s strategic implications of their macroeconomic environment can be summarized as being strong due to their market dominance. They employ a significant amount of people, directly contributing to a country’s GDP, as well as increasing their purchasing power due to being a discount retailer. Costco has policies in place that abide by legal standards, including labour and safety laws. Costco’s environmental sustainability policies allow them to be a responsible corporation, and socially, they are one of the most well-known discount retailer brands. Costco is in a good position on these macroeconomic factors.

2. DOMINANT ECONOMIC FEATURES ANALYSIS

Industry Defined: Costco is considered to be a part of the Discount Warehouse and Wholesale Clubs, where memberships are sold for a yearly fee, allowing their members access to bulk-buying everyday items at a discount, such as groceries, cleaning supplies, pharmacies, technology, etc.

2.1 Economies of Scale

• Costco’s low operating costs allow them to set low profit margins. Costco has the capability to provide consumers with everyday items at a discount compared to their competitors.

• In a supply chain model, wholesalers are typically upstream, where they sell their items downstream in the chain through different channels. Instead, Costco’s model allows them to sell directly to consumers, profiting off selling their low-profit margin items in bulk.

2.2 Absolute Cost Advantage

• Costco’s low operating costs due to operating efficiencies such as saving on electricity or heating bills gives them a cost advantage over their competitors with the capability to set their prices low.

• This cost advantage allow Costco to sell consumer goods in bulk at a lower per-unit cost that is appealing to their consumers.

2.3 Buyer Needs and Price Sensitivity

• Being a discount retailer, Costco’s consumers find them appealing based on the premise of offering everyday items at a lower price than their competitors. This is a good indication that their customers are price sensitive to their needs and will spend a higher opportunity cost looking for the best bargain.

• If Costco is unable to provide the best deal for a commodity that their consumer wants or needs, then that consumer will purchase it from a competitor who is able to provide that same item at a discount.

• Based on external research, data shows that in locations where Costco is present, local competitors, particularly grocery stores, will “charge higher prices in response to competition from Costco…electing not to compete on price and instead focusing on appealing to less price sensitive consumers, perhaps by offering higher-quality products or a more pleasant shopping experience.” (Courtemanche & Carden, 2014)

3. PORTER’S 5 FORCES

Overall Industry Rating Comments

Threat of New Entrants

Assessment: Moderate

Rating: Favourable There is strong competition among competitors in the Discount Warehouse and Wholesale Clubs industry based on price. Firms looking to compete in this industry will need to establish operating efficiencies in order to be able to set their profit margins low, which is difficult to do. With 64% market share, Costco is enjoying an almost monopoly and only 2 other competitors (Sam’s Club and BJ’s Wholesale Club). However, Costco also competes with other retailers that are not in the same industry, such as Home Depot, Walmart, and Best Buy. These firms carry items that might differ with Costco in terms of having better quality or are specialty items, so if they offer a discount on such items, then Costco will be unable to compete. Therefore, any retailer can compete with Costco for a single commodity based on price or quality, as indicated by external data (Courtemanche & Carden, 2014).

Bargaining Power of Buyers

Assessment: Strong

Rating: Unfavourable Costco competes mainly on price by offering common items which can be found at any type of retailer, on at a discount and in bulk quantities. However, comparable quality may differ among competitors (Courtemanche & Carden, 2014), a Costco might not always be available in a region or in a convenient location, and not all consumers are interested in obtaining a Costco membership, becoming a barrier. Due to price-sensitive customers in this industry, and obdurate low-switching costs among competitors, Costco will not always be the ideal choice.

Threat of Substitutes

Assessment: Strong

Rating: Unfavourable Costco does not sell unique commodities, and multiple retailers regardless of industry sell the same items at cheaper prices or of better quality (Courtemanche & Carden, 2014). Costco also does not always offer speciality items that other retailers might specialize in, such as internet. Also, Costco will not always be the 1st choice for consumers if they are inconveniently located in a region or not enough are available, where local retailers will offer better quality items or service (Courtemanche & Carden, 2014). There is no guarantee that Costco will always have the best bargain for an item. Therefore, substitutes are abundant.

Bargaining Power of Suppliers

Assessment: Moderate

Rating: Moderately Favourable Suppliers will seek to do business with retailers that have the highest amount of customer outreach, thus making it entirely dependent on location (Courtemanche & Carden, 2014). If there is a significant amount of Costco’s available in a region over competitors, then bargaining power is favourable for Costco. With 64% market share, Costco is therefore able to negotiate a better price in order to be capable of selling in bulk. However, in regions where Costco’s competitors are more abundant, then Costco’s bargaining power is unfavourable.

Intensity of Rivalry Among Competitors

Assessment: Strong

Rating: Moderately Unfavourable Costco’s business model is based entirely on setting low-profit margins due to their low operating cost capabilities. Since Costco does not offer unique commodities, it therefore competes with multiple retailers regardless industry. Costco will always lose out to a competitors who is able to offer a better quality item at a lower price, or if they are more conveniently located for the consumer. Costco’s profit will continuously suffer due to their dependency to sell in bulk.

3.1 Industry Attractiveness

After conducting a Porter’s 5 Forces analysis, and verifying with a peer reviewed study, it can be determined that the Discount Warehouse and Wholesale Club industry is Moderately Unfavourable for Costco. Due to Costco’s operating efficiencies, they are capable of setting their profit margins significantly lower than their competitors. However, this also means that they are dependent on selling commodities in bulk in order to turn a profit. Costco does not sell unique items, so if a retailer is able to offer the same item that is of higher quality at a lower price (Courtemanche & Carden, 2014), then Costco is at a loss. Also, Costco’s are not available in every region or conveniently located for a consumer, so Costco will be the last choice over a competitor that is (Courtemanche & Carden, 2014). With 64% market share, Costco is still the market leader in this industry. However, it is fiercely competitive due to how price-sensitive their target segment is, combined with low-switching costs for substitutes for them, thus making this industry moderately unfavourable for Costco.

4. DRIVING FORCES OF CHANGE ANALYSIS

4.1 Technological Change:

• Environmental Retrofitting – As identified in PESTEL Analysis 1.3, Costco has invested in retrofitting their warehouses with solar photovoltaic systems, energy efficient LED lighting, and improved heating/cooling with internet bases energy management systems. This strategy has allowed for Costco to lower their operating costs for warehouses while also benefitting the environment.

• E-commerce – Costco has made good use of their website by offering two-day delivery on grocery purchases, including selling travel purchases, car rentals & sales. This strategy allows Costco to remain competitive in an increasingly online dependent world.

4.2 Social and Cultural Changes:

• Competitive Wages & Benefits – Costco offers higher wages to their employees compared to other retailers, such as Walmart, also offering them health and dental benefits, with the opportunity to purchase company stock. This isn’t typical if an employer in this industry which changes the standard.

• Career Growth Opportunities – Costco has a policy in place to hire internally first for career opportunities before hiring externally. This policy helps to change the norm of an employer that doesn’t value their employees by recognizing the value of who they hire, reducing turnover.

4.3 New Products, Services:

• Luxury Products – 20 to 25 percent of Costco’s product are consistently new, such as Ultra HD LCD and LED TVs, Espresso Machines, jewelry, workout equipment, and more. Costco’s goal was to entice shoppers to purchase items that they normally wouldn’t that have a higher markup than normal.

• Ancillary Offerings – Many Costco warehouses were starting to incorporate Food Courts, One-Hour Photo Centres, Optical Dispensing Centres, Pharmacies, Gas Stations, and Hearing Aid Centres. Costco is strategically diversifying their service offerings to remain competitive.

5. KEY SUCCESS FACTORS ANALYSIS

5.1 Annual Revenue (Economies of Scale)

• Big sales volumes and rapid inventory have minimized involvement from employees. Since inventory moves quickly, Costco productivity increases for other tasks.

• The bulk-buying nature of Costco has allowed them to rapidly receive cash to pay back their distributors and can continue to replenish merchandise at a rapid rate, where in 2018 they generated $141.6 Billion annual revenue.

5.2 Diversification

• Costco has a diverse set of product offerings operating in 741 stores globally, ranging from Food (groceries), Sundries (alcohol and cleaning supplies), Hardlines (appliances and electronics), Softlines (apparel), and Ancillary (food court, travel, gasoline).

• This has allowed Costco to compete with almost every retailer by offering discounted prices on the same items that they sell, encouraging customer to purchase from Costco for all their needs.

5.3 Low Profit Margins

• Costco has a 14% cap on markups on brand-name merchandise, which is significantly lower than their competitors. Their own Kirkland brand of goods allowed them to price items 20% lower than the name brand ones.

• Costco’s low operating costs allowed them to set their profit margins significantly lower to their competitors, where it encourages bulk-buying, thus resulting in profits for Costco.

16.4.2020

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