Why Costco Depends Less On The Holidays Than Most Retailers

by Trefis Team
-8.34%
Downside
142
Market
130
Trefis
COST
Costco
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The holiday season in the U.S. is important for most retailers as they can generate up to 30% of their annual revenues during the months of November and December. [1] However, this period accounts for only 18% of Costco’s (NASDAQ:COST) annual revenues. [2]

So is Costco doing something wrong? We don’t think so as the company’s business model is different from that of some of the general retailers. Costco’s store traffic comprises of its members and is not accessible to all the buyers. A lot of these members are small business owners who are regular buyers and less influenced by holiday season. Moreover, with its warehouse business structure, Costco provides holiday-like benefits to its customers all year long and sales are less driven by promotional events that you might expect elsewhere.

The products that appeal to customers during holiday season constitute a small part of Costco’s overall merchandise. In addition to this, the retailer keeps holiday deals and discounts to a minimum and closes its operations on key holidays such as Thanksgiving and Christmas day. [3] [4]

See our complete analysis for Costco

Emphasis On Increasing Membership

Costco does not emphasize on improving holiday sales to increase its profits. With low margins at around 10%, it will require a substantial increase in sales in order to facilitate a material growth in its operating income.

Then how does Costco plan on increasing its profits? The answer lies in its membership income. For fiscal 2012, while membership income contributed around 2% to Costco’s revenues, it accounted for 20% of its gross profits. [5] Hence, Costco’s strategy to improve on the membership front is critical to its success. An increase in the membership renewal rate, new member sign ups and the membership fee are some of the prime focus areas for the retailer. Costco will look to attain this goal by offering additional services such as health insurance and mortgage programs to its members. An increase in the number of members will directly result in sales growth too.

Costco does not advertise through television, radio commercials and newspaper ads. [3] Moreover, its store layout is not that attractive with concrete slabs and wooden pallets. [3] This indicates that Costco is less focused on promoting its products and more focused on building its customer base on back of its low price benefits. Costco’s loyal customers act as a marketing channel by spreading awareness amongst their peers. This has generated good results as the retailer has been able to increase its membership income despite fewer advertisements.

Holiday Season Is Steady

The holiday season (November-December) accounts for about 18% of Costco’s revenues, indicating its proportional contribution. More than 50% of the retailer’s revenues come from groceries and sundries, the sales of which remain steady throughout the year. [5] On the other hand, hardlines and softlines – a part of which includes items such as electronics, apparel, jewelery, furnishing and seasonal items, which have holiday appeal associated with them – constitute about 25% of the annual revenues. Costco does not provide any discount coupons or holiday special deals to its customers. Even if it did, the overall revenue increase would not be substantial due to relatively low revenue contribution of holiday items as mentioned above. Costco’s stores remained closed on Thanksgiving, when Wal-Mart (NYSE:WMT) reported around 22 million customers visiting its stores in the U.S. [6]

Our price estimate for Costco stands at $111, implying a premium of about 10% to the market price.

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Notes:
  1. Update 3- Retail stocks slip, holiday sales boost seen fleeting, Reuters, Nov 26 2012 []
  2. Costco’s Monthly sales results []
  3. 1 Retailer To Stock Up On This Christmas, The Motely Fool, Dec 8 2012 [] [] []
  4. Costco’s Hours and Holidays Closure []
  5. Costco’s SEC filings [] []
  6. Wal-Mart U.S. reports best ever Black Friday events, Wal-Mart, Nov 23 2012 []
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