978-1259732782 Case 4 Part 3

subject Type Homework Help
subject Pages 8
subject Words 2143
subject Authors Arthur, John Gamble, Margaret Peteraf, Thompson Jr

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Case 4 Teaching Note Costco Wholesale Corp. in 2016: Mission, Business Model, and Strategy
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6. Based on the data in case Exhibits 1, 5, and 6, is Costco’s financial performance superior to
that at Sam’s Club and BJ’s Wholesale?
The comparisons are mixed. Costco had the fastest rate of growth in sales revenues, operating income and
net income, and far and away the highest sales per store location. Sam’s Club has had higher operating profit
margins (which might partially be due to the fact that some of its distribution expenses might be shared with
its sister division, Wal-Mart stores and supercenters). Facilities-sharing with other Wal-Mart operations
7. How well is Costco performing from a strategic perspective? Does Costco enjoy a competitive
advantage over Sam’s Club? Over BJ’s Wholesale? If so, what is the nature of its competitive
advantage? Does Costco have a winning strategy? Why or why not?
Costco’s strategic performance seems rather solid.
n Since its founding in 1983, Costco has grown to become the second largest retailer in the United States
and the world, and the clear leader of the discount warehouse and wholesale club segment of the North
American retailing industry.
n Net sales at Costco’s warehouses have been on a nice growth trajectory for over a decade, increasing
from $32.16 million in fiscal 2000 to $52.93 million in fiscal 2005 to $88.91 million in fiscal 2011 to
$116.19 million in fiscal 2015 (see the data in case Exhibit 1).
We think students should conclude that Costco has a competitive advantage over Sam’s Club and certainly
an advantage over BJ’s Wholesale. The basis for Costco’s competitive advantage relates chiey to Costco’s
more appealing “treasure hunt” atmosphere and better selection of bargain-priced, upscale merchandise.
Average sales per Costco warehouse are substantially larger than average sales at Sam’s and BJ’s. Such
larger sales volumes at Costco stores, along with the short operating hours at its stores, very likely result in
Costco having very competitive labor costs per dollar of sales.
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Case 4 Teaching Note Costco Wholesale Corp. in 2016: Mission, Business Model, and Strategy
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Conclusions Regarding Whether Costco Has a Winning Strategy. In our view, it is fair to conclude
that Costco has a winning strategy. As discussed in Chapter 1, there are three tests of a winning strategy:
(1) Does the strategy fit the company’s situation?
(2) Is the strategy building competitive advantage?
(3) Is the strategy improving company performance?
As concerns Costco, the answers to these 3 questions are yes.
n Costco’s strategy seems quite well matched to market conditions in the membership warehouse segment
of the retailing industry and to the company’s resources and competitive capabilities. We can see no
justifiable basis for criticizing the match-up.
What really seals the case for Costco having a winning strategy is that Costco is likely destined to remain the
clear market leader in the membership warehouse segment for some time to come. Neither of Costco’s two
rivals in the membership warehouse segment is in a position to challenge or overtake Costco as the market
leader in sales.
8. Are Costco’s prices too low? Why or why not?
This is an important question to pose to the class. In the case, students will read that Costco’s markups and
prices were so low that Wall Street analysts had criticized Costco management for going all out to please
customers at the expense of charging prices that would increase profits for shareholders. In commenting on
Costco’s pricing strategy, one retailing analyst said, “They could probably get more money for a lot of the
items they sell.”
However, it is clear from reading the case that Costco’s pricing strategy was to keep customers coming in to
shop by wowing them with low prices. A key element of Costco’s strategy to keep prices low to members was
to cap the margins on brand name merchandise at 14 percent (compared to 20 to 50 percent margins at other
discounters and many supermarkets). The margins on Costco’s private-label Kirkland Signature items were a
maximum of 15 percent, but the fractionally higher markups on Costco’s private label items still resulted in its
private-label prices being about 20 percent below comparable name brand items. According to Jim Sinegal:
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Case 4 Teaching Note Costco Wholesale Corp. in 2016: Mission, Business Model, and Strategy
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Key Teaching Point Concerning Costcos Prices. Perhaps the best way to demonstrate to students
just how low Costco’s prices are is to have them look at case Exhibit 1 and lead the class through some
number-crunching. The numbers in the table below—which you might want to use as the basis for a slide
or transparency shown in class (or as a handout to class members)—reveals that Costco is selling its
merchandise at barely more than breakeven prices (less than a 1% markup over full cost for fiscal years 2005
and 2008-2011). This becomes clear when one looks at the size of Costco’s revenues from membership fees
and then checks out what proportion membership fees represent of Costco’s income before income taxes.
Income Statement Data
2015 2014 2013 2011 2010 2009
Membership fees (in millions) $2,533 $2,428 $2,286 $1,867 $1,691 $1,533
What students ought to see from the above calculations is that anywhere from 70% to 89% of Costco’s
earnings before income before taxes in fiscal years 2009,2010-2015 has in effect come from membership
fees. This means that Costco’s markup on the merchandise it sells ends up covering the company’s operating
expenses with partlyleft over for contributing to pretax profit—in other words, Costco’s prices are just barely
above the breakeven level. These calculations also bolster the case of outsiders that Costco should consider
increasing its prices at least slightly in order to boost profitability (and profitability is indeed in need of being
boosted!).
9. What do you think of Costco’s compensation practices? Does it surprise you that Costco
employees apparently are rather well-compensated? Better compensated than employees
at Sam’s Club or BJ’s?
Costco’s compensation and benefit levels are substantially higher than those at Wal-Mart (and presumably
those at Wal-Mart’s Sam’s Club subsidiary—many of the Sam’s Club locations are adjacent to Wal-Mart
Supercenters).
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Case 4 Teaching Note Costco Wholesale Corp. in 2016: Mission, Business Model, and Strategy
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Starting wages for new Costco employees were in the $10–$12 range in 2011; hourly pay scales for
warehouse jobs ranged from $12 to $23, depending on the type of job. Salaried employees in Costco
warehouses could earn anywhere from $30,000 to $125,000 annually. For example, salaries for merchandise
Although admitting that paying good wages and good benefits was contrary to conventional wisdom in
discount retailing, Jim Sinegal was convinced that having a well-compensated workforce was very important
to executing Costco’s strategy successfully. He said, “Imagine that you have 120,000 loyal ambassadors out
Having brought out these points, you should then press the class for their opinions as to whether Jim Sinegal
was right. There are several questions you can pose to stimulate discussion:
n Do you agree with Jim Sinegal’s views about the importance of having well-compensated employees at
Costco?
n Are Costco’s employees overpaid?
n Could Costco boost profitability by trimming back on its fairly high levels of compensation and its
probably pricey fringe benefit package?
n What are the benefits to Costco and its shareholders of compensating employees so well?
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Case 4 Teaching Note Costco Wholesale Corp. in 2016: Mission, Business Model, and Strategy
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10. What recommendations would you make to Costco top executives regarding how best to
sustain the company’s growth and improve its financial performance?
Costco is not a company with glaring problems and shortcomings that desperately need to be fixed. On
the whole, we think students should recommend that the company “stay the course” and continue with the
present strategy largely unchanged from what we see the company doing as of the end of fiscal 2011. The
company has a sound strategy and no major overhaul is called for—some minor tweaking and fine-tuning
might well be proposed by class members.
There are a couple of issues that you should press the class to deal with:
Costco’s options for boosting its profit margins are fairly limited:
n Boost profitability by doing a better job of containing selling and administrative costs. The problem with
this option is that Costco is already a lean operator; management has long been aggressive in controlling
operating costs and finding ways to operate cost-efficiently. There are not likely many ways to trim costs
by very much.
n Raise prices fractionally. This is probably the quickest and surest route to better profitability. But the
culture at Costco and the company’s strong and ongoing conviction about charging the lowest possible
prices will make this option a tough sell.
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Case 4 Teaching Note Costco Wholesale Corp. in 2016: Mission, Business Model, and Strategy
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Winding Up the Class: You can end the class by pointing out that Costco Wholesale is a perfect example
of a company that
Costco, in our view, is a company that illustrates why Chapter 1 stressed the point that:
Good strategy + Good strategy execution = Good management
Epilogue
At November 20, 2016, Costco operated 723 warehouses worldwide: 506 United States (U.S.) locations
(in 44 states, Washington, D.C., and Puerto Rico), 94 Canada locations, 36 Mexico locations, 28 United
Kingdom (U.K.) locations, 25 Japan locations, 12Korea locations, 12 Taiwan locations, eight Australia locations
and two Spain locations. The Company’s online business operates websites in the U.S., Canada, U.K., Mexico,
Korea, and Taiwan.The table below shows Costco’s income statement for Fiscal year ending August 28, 2016,
August 30, 2015, and August 31, 2014.
COSTCO WHOLESALE CORPORATION
Consolidated Statements of Income
(amounts in millions, except per share datea)
52 Weeks Ended
August 28, 2016
52 Weeks Ended
August 28, 2015
52 Weeks Ended
August 28, 2014
REVENUE
Net sales $116,073 $113,666 $110,212
Membership fees 2,646 2,533 2,428
Total revenue 118,719 116,199 112,640
OPERATING EXPENSES
NET INCOME PER COMMON SHARE ATTRIBUTABLE TO COSTCO
Basic
$5.36
$5.41
$4.69
Diluted
$5.33
$5.37
$4.65
Shares used in calculation (000’s)
Basic 438,585 439,455 438,693
Diluted 441,263 442,716 442,485
CASH DIVIDENDS DECLARED PER COMMON SHARE $1.70 $6.51 $1.33
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Case 4 Teaching Note Costco Wholesale Corp. in 2016: Mission, Business Model, and Strategy
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COSTCO WHOLESALE CORPORATION
Condensed Consolidated Income Statement
(amounts in millions, except per share data)
(unudited)
REVENUE November 20, 2016 November 22, 2015
Net Sales $27,469 $26,627
Membership Fees 630 593
Total Revenue 28,099 27,220
OPERATING EXPENSES
NET INCOME PER SHARE ATTRIBUTABLE TO COSTCO
Basic $1.24 $1.10
Diluted $1.24 $1.10
Shares used in calculation (000’s)
Basic 438,007 438,342
Diluted 440,525 441,386
CASH DIVIDENDS DECLARED PER COMMON SHARE $0.45 $0.40
Plainly, the above results show that Costco’s performance continued to improve from 2015 to fiscal 2016. Over
the last year alone, Costco’s operating income increased by 11%.
Key items for the first quarter of 2017 as compared to the first quarter of 2016 include:
n We opened eight net new warehouses, five in the U.S. and three in Canada, compared to 11 net new
warehouses in 2016;
n Net sales increased 3% to $27,469, driven by sales at new warehouses opened since the end of the first quarter
of fiscal 2016 and a 1% increase in comparable sales. Net and comparable sales results were negatively
impacted by price deation, primarily in the foods and hardlines categories;
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Case 4 Teaching Note Costco Wholesale Corp. in 2016: Mission, Business Model, and Strategy
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Net sales increased $842 or 3% during the first quarter of 2017 compared to the first quarter of 2016. This increase
was attributable to sales at the 26 net new warehouses opened since the end of the first quarter of 2016 and
a 1% increase in comparable sales. Net sales were negatively impacted by price deation, primarily in our foods
and hardlines categories. Changes in foreign currencies relative to the U.S. dollar negatively impacted net sales
by approximately $100, or 37 basis points, compared to the first quarter of 2016, attributable to certain foreign
countries in which we operate, predominantly the U.K. of $138 and Mexico of $101, partially offset by a positive
impact in Japan of $95. Changes in gasoline prices negatively impacted net sales by approximately $77, or 29
basis points, due to a 3% decrease in average sales price per gallon.

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