How Significant Are Membership Fees For Costco’s Valuation?

March 7th, 2017 by Trefis Team
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Recently, Costco (NYSE:COST) announced that it will increase its membership fees by $5 for individuals and by $10 for executive memberships. This announcement came after the company reported disappointing results for Q2 which fell short of investor’s expectations. Costco usually hikes its membership fees every 5-6 years, and the last increase was in 2012. The company’s membership-based business model ensures that customers can make bulk purchases at extremely low prices. Costco is able to offer these prices due to a low-margin model based on bulk purchases by loyal members. Its membership fees contribute substantially to its bottom line, and compensate to an extent for these low margins.

According to our estimates, membership fees account for almost 20% of Costco’s valuation.

We expect a steady increase in the average membership fee per cardholder over our forecast period – smoothing the hikes every 5-6 years (rather than predicting the exact date of the next fee hike).

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Costco’s total membership base is also clearly a key driver for the company, and the company has seen steady growth in members over the past several years. We forecast further growth in members going forward.

While membership fees only account for around 2-3% of the company’s annual revenues, there are very few direct costs related to the revenue stream, so gross margins are close to 100%. Accordingly, the membership fees account for a disproportionate chunk of its bottom line, relative to the lower-margin merchandise sales. This revenue stream is very important for Costco’s earnings, and enables the company to cover overhead costs and offset the low merchandise margins. With that said, a moderate increase in membership fees every 5-6 years does not have a significant impact on the company’s valuation, and is also unlikely to have a major impact on its membership base, assuming the hikes are reasonable.

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