Warehouse behemoth Costco (NASDAQ:COST) recently reported Q1 fiscal 2015 earnings that easily trumped analysts estimates. The company’s profits rose 17% to $496 million and earnings per share were $1.12, nicely above the consensus estimate of $1.09. Strong growth in comparable store sales and an increase in gross margins boosted Costco’s bottomline growth, while higher SG&A expenses had a marginally offsetting impact. The retailer’s gross margins improved by 22 basis points year over year, backed by strong margins in the gasoline business and $17 million from pretax nonrecurring loss recovery. On the topline front, the company reported revenue gains of 7.4%, which was inline with the street estimates.
Costco has effectively leveraged its dominance as a warehouse retailer to attract new members and increase store traffic. While the gradual customer shift to online shopping has created problems for almost every retail chain in the country, it doesn’t seem to trouble Costco much. In fact, even other warehouse clubs are struggling to attract customers, which suggests that it is not the entire industry that is doing well, it is Costco.
Costco Is Doing Much Better Than The Industry
During the recently concluded quarter (that was Q1 fiscal 2015 for Costco and Q3 fiscal 2015 for Sam’s Club), store traffic at Costco increased by 4.5% year over year, driven by a rise in number of members and improvement in renewal rates. Total membership fees for the quarter increased by a healthy 6% to $582 million. Renewal rates in North America and worldwide were 90.7% and 87.3%, respectively, while these figures stood at 90.4% and 86.5%, respectively, in the year ago period.
In contrast, store traffic at Sam’s Club increased by just 0.2% despite the fact that it operates with the same business model. In fact, in some ways, it has an advantage over Costco. It has a wider reach and a cheaper membership. Still, buyers prefer to shop at Costco, which clearly indicates the warehouse giant’s supremacy in this arena. The retailer relies on providing its customers with good quality products at a reasonable price in a compelling environment. Costco changes the brands it offers regularly, and therefore, customers always find something new at its stores and get a ‘treasure hunt’ experience. To add more appeal, the retailer from time-to-time offers high-end products such as Coach (NYSE:COH) purses and Dom Perignon champagne. Costco is also focused on serving its customers based on the local tastes and demand. It grants its local store managers some discretion over the products that are kept in stores.
Due to its core value propositions, Costco has been able to ensure steady growth despite the fact that its operations aren’t evenly spread across the country. Although the warehouse retailer has presence in over 40 states, it earns close to 24% of its domestic revenues from the region around California. This clearly indicates that the company hasn’t explored the complete potential of other markets, implying that there is still plenty of room for growth.
Online Provides Another Growth Avenue
Like other retail chains in the U.S. market, Costco also relies on its store sales for a bulk of its revenues. The retailer earns just 3% of its overall revenues through e-commerce sales. Since online shopping started gaining popularity in the U.S., buyers in numbers have switched from brick-and-mortar shopping to web shopping, and this trend continues to date. While this has severely impacted foot traffic at several retailers including Wal-Mart (NYSE:WMT) and Target (NYSE:TGT), it hasn’t had a notable impact on Costco. In fact, it provides the warehouse retailer with an opportunity to simultaneously grow its web business, given that about 80% of its products sold online do not overlap with its store inventory. Hence, a customer shopping online at Costco’s website might still visit its store to fulfill his needs.
During the recently concluded quarter, Costco’s e-commerce sales increased by 20%, driven by a rise in web traffic, a better shopping experience and improved delivery efficiency. The company is now shipping directly, which has resulted in an improvement in delivery times. Costco has also been testing Google Shopping Express, a Google (NASDAQ:GOOG) initiative that provides consumers a platform to shop online from local retailers and get products delivered on the same day. Through this service, Costco is mainly looking to expand its e-commerce reach. At the end of Q4 fiscal 2014, this service was live in just three markets, but now its reach has been expanded to six markets. In the years to come, the warehouse giant will look to roll this out on a larger scale, one that can have a noticeable impact on its e-commerce revenues. Additionally, Costco’s e-commerce channel is available only in four countries (U.S., Canada, U.K. and Mexico) at the moment. The company has a incredible opportunity to extend its online reach to other countries it operates in, to add more intensity to its online growth.