Meghan Fischer Elisa Santamaria Kara Fanty Kaitlin Thomas Matthew Murphy
TABLE OF CONTENTS I. INTERNAL AUDIT........................................................................................................ ...................... 3
A.
1. CURRENT SITUATION................................................................................................................3 THE PATH TO COSTCO WHOLESALE CORPORATION: A HISTORY 3
EXECUTIVE SUMMARY: o
o
Costco wants to move the company forward in various ways. First, the opening of new stores in the United States, Canada and Japan will increase the company’s overall sales, which will allow for an increase in its profitability. Next, Costco will divest their stores in Taiwan, due to their decreasing sales over the past several years. Also, Wal-Mart is opening 100 new stores in the country, which will make 2
o
I.
it hard to compete. By divesting these stores, we can concentrate more on the opening and success of the new stores in the United States, Canada and Japan. Lastly, Costco will revamp and update their existing website to include several more features that will appeal to all the nations that Costco operates in. The online shopping market of the website will first be tested in Japan since there is not a feature of online shopping yet in that country.
INTERNAL AUDIT 1. CURRENT SITUATION
a. The Path to Costco Wholesale Corporation: A History 1976: Sol & Robert Price open Price Club on July 12, the first warehouse club for business shoppers in San Diego, California. 1980 -1989: The Price Company offers public stock on July 12th, 1980. In 1982, Jeff Brotman and Jim Sinegal meet and draw up plans to start a new wholesale club business. A year later the first Costco warehouse opens in September in Seattle, Washington. Costco’s public stock is available on December 5th, 1985. Price Club is named the Forbes Magazine's "Best Managed Company" 10 years after its open. In 1989 Costco begins the year with 46 warehouses in operation. The Price Company is the third most profitable company in the United States. 1990 - 1999: Costco celebrates its 10th anniversary in September of 1993 while shareholders approve the merger of Price Company and Costco, forming PriceCostco. Kirkland Signature, Costco's exclusive private label, is introduced in 1995. Two years later, the company officially changes its name from PriceCostco to Costco Companies, and the Executive Membership is introduced. 1997, Costco launches its E-Commerce site at Costco.com to bring Costco prices and services to the internet. Before the turn of the millennium the average annual sales per warehouse reaches $100 million. The Company changes its name to Costco Wholesale Corporation on August 30th. 2000 – Present: The 2% reward program is initiated, increasing Executive Member value. In July of 2001, Costco celebrates its 25th anniversary. Costco finishes the 2002 fiscal year with 40.5 million cardholders and 98,000 employees worldwide. Costco.com generated sales of $226 million in 2003 while average annual sales per warehouse were $105 million. In 2004, Costco is the 5th largest retailer in the U.S. and 11th largest in the world. Fortune Magazine lists Costco 29th on the Fortune 500. Over 57,000 vacation packages were booked through Costco Travel in 2005. In 2006, Costco was named one of the "most admired" companies by Fortune magazine while approximately 30 million rotisserie chickens were sold company wide. * Source: “Historical Highlights” Costco.com b. Costco’s Words to Live by: Mission & Keyword Analysis
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To continually provide our members with quality goods and services at the lowest possible prices. In order to achieve our mission we will conduct our business with the following Code of Ethics in mind: Our Code of Ethics • Obey the law. • Take care of our members. • Take care of our employees. • Respect our suppliers. If we do these four things throughout our organization, then we will achieve our ultimate goal, which is to: • Reward our shareholders. (See Appendix) *Source: “Code of Ethics” Costco.com c. Current Long-term Objectives: (with in last 2-3 years) • •
To increase sales To acquire increasing numbers of memberships each year o Costco currently has 50.4 million cardholders broken down into: 27.6 million households 18.6 million Gold Star 5.4 million Business 3.4 million Business Add-Ons
*Source: Costco 10K 2006 p.16-7, Costco.com d. Current Corporate Strategies (within last 2-3 yrs) Growth Intensive
Market Penetration
Market Extension
Stabilization
Product Development Enhancement
* Expand business in new markets by attaining a greater overall market share. *Continually offer quality products at significant savings to members. *Keep costs down and pass the savings on to members. *Offer a unique “treasure hunt” experience while shopping *Open 20 new stores in United States and abroad during 2007 *Introduce a new line of fresh, refrigerated, and frozen foods called "Kirkland Signature" by Martha Stewart in 2008 *Continually meet and exceed the high standards for
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energy efficiency placed by California law in all of our warehouses in the United States - Use of solar panel in warehouses – 2006 - Testing of hybrid trucks for distribution – Spring 2007 * Increase interaction with our members to fit current customer trends. – Sampling *Spend approximately $1.4 – 1.6 billion for warehousing, clubs, related operations: - Real estate, Construction, Remodeling, Equipment
*Source: Costco 10K 2006, Costco 2006 Annual Report, Costco.com, Barbaro 2. FUNCTIONAL ANALYSIS: a. Management:
Costco is committed to promoting from within the company. The majority of our current home and regional office team members are "home grown." This means that they started in our warehouses, depots and business centers, learned the business and moved up within the company. This philosophy also ensures promotional opportunities for motivated individuals.
Costco has one of the most competitive benefits packages in the industry. Not only do we provide our employees with a full spectrum of benefits, but employees also may elect coverage for their spouses, children and domestic partners. The company pays a larger percentage of the premiums than do most other retailers and employee-paid premiums are withheld pre-tax, which means you get to keep more of your hard-earned money. Merchandising is the lifeblood of Costco, and our business is centered on our warehouse operations. (See Appendix) *Source: Costco.com
Costco vs. Wal-Mart Facts: o o
44% of Wal-Mart employees leave after the first year. 6% of Costco employees leave after the first year. o Sell more because well-treated and motivated, which accounts for $16,550 of operating income in 2004. Wal-Mart employees only contributed $12,800.
*Source: Greenhouse, DiCarlo, Costco.com
Analysis:
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As a corporation, Costco cares about their employees. They provide a stable work environment, higher work salaries than the industry average and great benefits. They view their employees as more than an asset. This is evident because many of the people in the top management positions once worked as an employee of Costco.
Costco has the ability to furnish their employees with higher salaries because of the way they run their warehouses. The warehouses are designed with a simple structure in mind. They are not ostentatious or made to look expensive. This allows for there to be little overhead cost for each warehouse. Aside from benefiting employees, Costco’s operations also benefit the customers because it allows Costco to lower the retail price of their products. Lastly, the hours of operations for Costco warehouses are shorter on the weekends, which help employees achieve a better work – life balance. In comparison to Wal-Mart, Costco has a significantly smaller employee turnover, meaning their investments into employees are lasting and ultimately lead to a higher contribution.
In addition to employee benefits and store setup, Costco is a logistically sound company. They stream light their distribution into a single-step channel they lower costs without cutting quality. b. Marketing:
Costco figures that it saves a good two percent a year in costs because it rarely shells out money for mass-media advertising. It does, however, effectively target small-business owners as its primary target market. Operating largely under the radar of the general public, Costco has cadre of marketing representatives who are attached to each store and whose continual task it is to network with business owners. There was a 13.7% increase in net sales from 2005-2006, driven by an 8% increase in comparable store sales and opening of 25 new warehouses in 2006. Also, there was a 10.0% increase in net sales from 2004 to 2005, driven by a 7% increase in comparable store sales and the opening of 16 new warehouses in 2005. (See Appendix) Total Sales: % % Revenue Increase Net Income Increase 2 $60,151,227 13.70% $1,103,215.0 4% 006 0 2 $52,952,226 10.10% $1,063,092.0 20% 005 0 2 $48,109,907 13.10% $882,393.00 22% 004 *Source: Costco 10K 2006
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Net Profit Margin $0.018
% Increase -9%
$0.02
9%
$0.018
8%
Analysis:
Net sales in fiscal 2006 increased 13.7% over fiscal 2005, primarily because of an increase in comparable sales of 8%, which include both U.S. comparable store sales growth rates and nonU.S. comparable store sales growth rates, and the opening of 25 new warehouses. Membership fees for fiscal 2006 increased 10.7% to $1.2 billion, representing new member sign-ups at new warehouses opened during the fiscal year, increased penetration of the Executive Membership program, and continued strong member renewal rates. As shown above, the profit margin decreased as a percentage. We believe that this decrease is primarily due to increased penetratio of the Executive Membership two-percent reward program. Comparable warehouse sales, which are broken down and shown in Costco’s 10K, are also a major factor in overall net sales for Costco. Retailers see the percent increases or decreases of the amount of warehouse sales, both in the United States and internationally, and react to what they observe. They react by determining where to focus most of their distribution of products because whichever warehouses are selling more are the areas the retailers want more of their products to be shipped to. Marketing Mix: Products:
Our merchandising strategy is to provide our members with a broad range of high quality merchandise at prices consistently lower than could be obtained through traditional wholesalers, mass merchandisers, supermarkets and supercenters. An important element of this strategy is to carry only those products on which we can provide our members significant cost savings. The following table indicates the approximate percentage of net sales accounted for by major category of items: Segments
2004 Sales % of Sales 2005 Sales % of Sales 2006 Sales % of Sales
Sundries
12,027,476
25%
13,238,055
25%
14,436,269
24%
Hard Lines
9,621,981
20%
10,590,444
20%
12,030,245
20%
Food
9,621,981
20%
10,060,922
19%
11,428,733
19%
Soft Lines
6,254,287
13%
6,354,266
12%
7,218,147
12%
Fresh Foods
5,292,089
11%
5,824,744
11%
6,616,634
11%
Ancillary/ Other Total
5,292,089
11%
6,883,788
13%
8,421,171
14%
48,109,907
100%
52,952,223
100%
60,151,227
100%
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Members can also shop for private label Kirkland Signature products, designed to be of equal or better quality than national brands, including juice, cookies, coffee, tires, housewares, luggage, appliances, clothing and detergent. The Company also operates self-service gasoline stations at a number of its U.S. and Canadian locations. Additionally, Costco Wholesale Industries, a division of the Company, operates manufacturing businesses, including special food packaging, optical laboratories, and meat processing and jewelry distribution. These businesses have a common goal of providing members with high quality products at substantially lower prices. Price:
The main objective for Costco is to allow the customers to get more for less because they are buying in bulk. This allows the company to receive a high industry turnover as well. (See Appendix) Place:
Our typical warehouse format averages approximately 140,000 square feet. Floor plans are designed for economy and efficiency in the use of selling space, the handling of merchandise and the control of inventory. Because shoppers are attracted principally by the availability of low prices, our warehouses need not be located on prime commercial real estate sites or have elaborate facilities. (See Appendix) Promotion:
We generally limit marketing and promotional activities to new warehouse openings, occasional direct mail marketing to prospective new members and direct marketing programs (such as the Costco Connection) to existing members promoting selected merchandise. These practices result in lower marketing expenses as compared to typical retailers, discount retailers and supermarkets. (See Appendix) Customer Profiles:
Costco is open only to members and offers three types of membership: Business, Gold Star (individual) and the Executive membership. Business members qualify by owning or operating a business, and pay an annual fee ($50 in the U.S.) to shop for resale, business and personal use. This fee includes a spouse card. Business members may purchase up to six additional membership cards ($40 each) for partners or associates in the business. Gold Star members pay $50 annual fee (in the U.S.), and is available to those individuals that do not own a business. This
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fee includes a free spouse membership.
Costco targets individuals who have a medium to large disposable income and/or are affiliated with a small to medium sized business. Both target markets patron Costco because of the unique product sizes and varieties combined with competitive prices. The Costco member differs from the average Wal-Mart shopper. While both target markets are looking for valuable products and services at low prices, the Costco shopper could perhaps afford to spend more because he/she ha a larger disposable income than the Wal-Mart shopper. Also, while the Costco member enjoys the low-pricing structure offered, the “Treasure Hunts” that offer high-price products such as designer apparel, are very appealing. (See Appendix) Analysis: Costco does little to no advertising. Since Costco does not do formal advertising, they run the risk of not being able to reach their full customer potential. However, their main form of advertising relies on customer word–of–mouth and direct marketing. Pertaining to word–of– mouth advertising, Costco feels that the best way to get customers to their warehouses are positive feedback from current customers. Costco also receives word–of–mouth publicity from celebrity clients, such as Oprah Winfrey, who name drop the company.
The company also attracts purchases through sampling, which is direct marketing for the specifi product and, overall, the company. Sampling involves tables and/or displays of different products being strategically placed throughout the warehouses. These displays help to entice customers to buy the products they are advertising. *Source: Robes, Hazel, Costco.com, Costco 10K 2006 c. Financial Performance Costco: Sales Net income Total Assets Equity Current Assets Current Liability Inventory Debt Receivables Fixed Assets COGS Earnings Before Interest & Taxes Day Sales
2004
2005
2006
47,148,627 882,393 15,092,548 7,624,810 7,269,099 6,170,550 3,643,585 993,746 335,175 7,219,829 42,092,016
51,879,070 58,963,180 1,063,092 1,103,215 16,665,205 17,495,070 8,881,109 9,143,439 8,238,001 8,232,082 6,760,537 7,819,191 4,014,699 4,568,723 713,900 523,892 529,150 565,373 7,790,192 8,564,295 46,346,961 52,745,497
1,400,624 129174.32
1,548,962 1,751,417 142134.44 161542.96
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ROS (in %) Total Asset Turnover ROA (in %) Financial Leverage- Equity multiplier ROE (in %) Current Ratio Quick Ratio Debt to equity Inventory Turnover Receivable Turnover Fixed Asset Turnover Gross Profit Margin Operating Profit Margin Day Sales Outstanding
2004 1.87% 3.1240 5.85%
2005 2.05% 3.1130 6.38%
2006 1.87% 3.3703 6.31%
1.9794 11.57% 1.1780 0.5876 0.1303 12.9402 140.6687 6.5304 0.1072 0.0297 2.5947
1.8765 11.97% 1.2185 0.6247 0.0804 12.9223 98.0423 6.6595 0.1066 0.0299 3.7229
1.9134 12.07% 1.0528 0.4685 0.0573 12.9058 104.2908 6.8848 0.1055 0.0297 3.4998
BJ’s: Total Asset Turnover ROA (in %) Financial Leverage- Equity multiplier ROE (in %) Current Ratio Quick Ratio Inventory Turnover Receivable Turnover Gross Profit Margin (in %) Operating Profit Margin (in %)
2004
3.81 0.06 2.0139 0.12 1.1933 0.26206 9.239 83.043 8.17 1.6
2005
3.89 0.065 1.9585 0.13 1.986 1.1885 9.708 65.286 10.3 1.7
2006
4.17 0.036 1.9539 0.07 2.043 0.355 9.774 62.994 10.4 0.9
Costco is in stable financial condition, this is evident in nearly all of their financial ratios. Inventory turnover is particularly strong, with Costco turning over inventory approximately once every month. Return on Sales and Return on Assets are also consistent from 2004-2006. Costco’s current ratio is also greater than one meaning that the company is fairly liquid and able to pay their debts as they become due. Also, Costco’s Accounts Receivable ratios show that, aside from a slight decrease in 2005, Costco has approximately 104 days to be paid by their creditors. Comparing Costco to its competitor, BJ’s, the company is superior to BJ’s. This is evident in several ratios such as Inventory Turnover, Gross Profit Margin and Operating Profit Margin. In these, Costco excelled, such as having a greater ability to turnover inventory, which was about once a month, and to turn more sales into profits, giving Costco a better GPM. However, in Asset Turnover, BJ’s was better than Costco. Overall, Costco and BJ’s are stable companies on their own, with Costco’s dominating BJ’s in most ratios. (See Appendix) *Source: Hoover’s Costco 10K 2006
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*Source: BJ’s 10K 2006 d. Production/Operations:
Costco Wholesale operates stores in 37 US states and Puerto Rico. The company also operates stores in nine Canadian provinces, Japan, South Korea, Taiwan, and the UK. Costco also operates 29 outlets in Mexico via a joint venture. Because of our high sales volume and rapid inventory turnover, we generally have the opportunity to sell and be paid for inventory before we are required to pay many of our merchandise vendors. As sales increase and inventory turnover becomes more rapid, a greater percentage of the inventory is financed through payment terms provided by vendors rather than by our working capital.
Our typical warehouse format averages approximately 140,000 square feet. Floor plans are designed for economy and efficiency in the use of selling space, the handling of merchandise and the control of inventory. Our warehouses generally operate on a seven-day, 69-hour week. Generally, warehouses are open weekdays between 10:00 a.m. and 8:30 p.m., with earlier closing hours on the weekend. (For specific store counts, historical and forecasted, see IV. D “Operation Issues” pages 34 – 35)
(See Appendix) *Source: Costco.com, Costco 10K 2006 *Source: Standard & Poor’s 2007
Analysis Costco is very effective in tapping into global markets in addition to their domestic ones. Their operations hours lower production costs and are appealing to employees. e. Information Systems:
The Internet Systems Division of Costco consists of four groups: 1.) AS/400 Application Development - designs and maintains programs for the different business applications within the company. For example, there are teams to maintain and enhance accounting, inventory, payroll, membership, and payroll applications. 2.) Customer Service and System Support - is divided into several groups that provide focused, daily support of all IS functions for users of all levels throughout the company.
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3.) Client/Server and Internet Technologies – is divided into three groups (Network Security, ECommerce Administration, and BackOffice Administration), each with a separate function. 4.) e-Commerce Application Development - supports Costco's corporate efforts in the Internet, obtains the web technology needed to streamline internal systems, and implements major phases and daily maintenance. (See Appendix) *Source: Costco.com, Costco 10K 2006
Analysis: While Costco is effective with their significant participation in many international markets, the company has yet to bring this strength to their websites. By only allowing shipping to Canada and the United States through their website, they are potentially cutting off and not tapping in to a huge segment of their online market. However, the company does offer websites in the official languages of the countries they are in.
The website layout is over-whelming due to the clutter of the opening page. The tabs are not the same size, the pictures are cluttered, and there is no distinct focal point of the page. As a result, the navigation of the website is a little confusing, because it conveys a sensory overload. Though the main page is problematic, the department pages give a simplistic way of navigating the different products within each department. A more simplistic way of designing the layout of the website would help parallel the message of the warehouse layouts, which are simple with a lot of products.
In an effort to hedge against the confusing setup, the website does have a business tab that help remind the small business customers to check out the different products for companies. The graphics of the website showcase the quality of the products because of their high-resolution and clarity. Browsers are also able to enlarge the pictures. Also, some products can be viewed in many different angles, allowing the customer to glean more information about the products.
II.
GLOBAL EXTERNAL AUDIT: 1. MACRO ENVIROMENTAL AUDIT: a. Economic Forces
The United States:
The US has the largest and most technologically powerful economy in the world with a $40,100 per capita purchasing power according to 2004 statistics. They have the fastest growing GDP and one of the lowest unemployment rates showing a healthy and prosperous economy for Costco to be in. These factors affect demand for products and services or require a change in the
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mix of products they sell which adversely affects profitability. There inflation rate is however, the highest of the three countries which causes Costco to face high cost of sales and operating, selling, general and administrative expenses, and otherwise adversely affecting operations and results. US as compared with Japan has more flexibility to expand capital plant, to lay off surplus workers, and to develop new products. At the same time, the US faces higher barriers to enter their rivals' home markets than foreign firms face entering US markets. Canada:
Canada resembles the US in its market-oriented economic system, pattern of production, and affluent living standards. While the GDP growth rate is not as prominent as the United States it is still increasing by 2.4 percent. The GDP purchasing power is also slightly less then the United States but above that of Japan with $31,500 per capita. The unemployment is the highest at 7 percent which could affect Costco by having a huge segment of the population out of work and unable to purchase, slowing down the economy. Their inflation rate is lower then the United States, which presents an opportunity for Costco to have lower cost of sales and operating expenses. Costco is highly dependent on both Canada and the US, which represent 94 percent of their total net sales. A prosperous economy is necessary for to ensue financial success for Costco. Japan:
Government-industry cooperation, a strong work ethic, mastery of high technology, and a comparatively small defense allocation (1% of GDP) helped Japan advance to the rank of second most technologically powerful economy in the world after the US and the third-largest economy in the world after the US and China. Their GDP growth rate is 2.9 percent which is above that of Canada and their GDP per capita is $29,400. Their unemployment rate is the lowest of the three countries at 4.7 percent which has a high potential for Costco to profit. One notable characteristic of the economy is how manufacturers, suppliers, and distributors work together in closely-knit groups called keiretsu. A second basic feature has been the guarantee of lifetime employment for a substantial portion of the urban labor force. This results in a stable economy that is able to purchase Costco’s products. GDP Real Growth Rate GDP Per Capita
United States 4.4% (2004 est.)
Canada 2.4% (2004 est.)
Japan 2.9% (2004 est.)
purchasing power purchasing power purchasing power parity - $40,100 (2004 parity - $31,500 (2004 parity - $29,400 (2004 est.) est.) est.) Unemployment Rate 5.5% (2004 est.) 7% (2004) 4.7% (2004 est.) Inflation Rate 2.5% (2004 est.) 1.9% (2004 est.) -0.1% (2004 est.) Population Below 12% (2004 est.) 15.9% (2003) NA Poverty Line The following chart summarizes the economic situation for 2004 and forecasts that each of the nations, the United States, Canada and Japan, will continue on this path. The United States will
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continue to be the dominant nation when it comes to purchasing power. Canada has the highest unemployment rate, which means there is a percentage of the population that is able to work and could potentially work at Costco. Japan is second highest in GDP Real Growth Rate, next to the United States, which make them a significant purchasing power for Costco. Economy Forecasting: 2006 – 2009
Country
Real GDP Growth
Inflation
Current Account (in billions)
United States
3.0%
2.7%
-$862.3
Canada
3.6%
2.4%
$20.56
Japan
2.2%
0.3%
$174.4
*Source: www.indexmundi.com, CIA World Factbook, 2007 b. Demographic/Sociocultural Forces The United States:
The United States is the most culturally diverse country of the three. They also have the highest population and fastest growth rate. Majority of the spoken language is English but there is still prominent speaking of Spanish and Asian languages. Costco must adapt to the diverse cultures that are present in the US but also to the US’ own culture. The largest population age range is 67 percent between the ages of 15-64, which is a great segment for Costco to target to. Canada:
Canada has a fairly diverse ethnic population with 28 percent British Isles, 23 percent French, 15 percent European and 2 percent American. Even though the country is diverse its population maintains strong ties to their cultural background. It is important for Costco to understand and adapt to the different cultural products and languages when doing business in Canada. They have the lowest population of the three countries with around 32,000,000 and a growth rate .9 percent. Japan:
Japan’s population is second to the United States with around 127,000,000 which averages out to around 327 persons per square kilometer. Such a dense population has help to promote extremely high land prices. They also maintain a strong pride in their culture do to the fact that 99 percent of the population is Japanese and it is the only spoken language. This forces Costco to adapt to their language and culture to fully break into their market. The population growth is the smallest out of the three countries and their biggest age range is 66 percent between the age of 15-64.
Ethnic Groups
United States white 81.7%, black
Canada British Isles origin
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Japan Japanese 99%, others
Languages
Population Population Growth Age Structure
Literacy Rate
12.9%, Asian 4.2%, 28%, French origin 1% (Korean 511,262, 23%, other EuropeanChinese 244,241, Amerindian and Alaska native 1%, 15%, Amerindian 2%,Brazilian 182,232, native Hawaiian and other, mostly Asian, Filipino 89,851, other other Pacific islanderAfrican, Arab 6%, 237,914) 0.2% (2003 est.) mixed background note: up to 230,000 note: a separate listing 26% Brazilians of Japanese for Hispanic is not origin migrated to included because the Japan in the 1990s to US Census Bureau work in industries; considers Hispanic to some have returned to mean a person of Brazil (2004) Latin American descent (including persons of Cuban, Mexican, or Puerto Rican origin) living in the US who may be of any race or ethnic group (white, black, Asian, etc.) Japanese English 82.1%, English (official) Spanish 10.7%, other59.3%, French Indo-European 3.8%,(official) 23.2%, other Asian and Pacific 17.5% island 2.7%, other 0.7% (2000 census) 295,734,134 (July 32,805,041 (July 2005 127,417,244 (July 2005 est.) est.) 2005 est.) 0.92% (2005 est.) 0.9% (2005 est.) 0.05% (2005 est.) 0-14 years: 20.6% 0-14 years: 17.9% 0-14 years: 14.3% (male (male (male 31,095,725/female 3,016,032/female 9,328,584/female 29,703,997) 2,869,244) 8,866,772) 15-64 years: 67% 15-64 years: 68.9% 15-64 years: 66.2% (male (male (male 98,914,382/female 11,357,425/female 42,462,533/female 99,324,126) 11,244,356) 41,942,835) 65 years and over: 65 years and over: 65 years and over: 12.4% (male 13.2% (male 19.5% (male 15,298,676/female 1,842,496/female 10,435,284/female 21,397,228) (2005 2,475,488) (2005 est.) 14,381,236) (2005 est.) est.) definition: age 15 and definition: age 15 and definition: age 15 and over can read and over can read and over can read and write write write
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total population: 97% total population: 97% total population: 99% (1986 est.) male: 99% male: 97% male: NA% female: 99% (2002) female: 97% (1999 female: NA% est.)
(See Appendix) c. Political/Legal:
Budget
United States revenues: $1.862 trillion expenditures: $2.338 trillion, including capital expenditures of NA (2004 est.)
Canada Japan revenues: $151 billion revenues: $1.401 trillion expenditures: $144 expenditures: $1.748 billion, including trillion, including capital expenditures capital expenditures of NA (2004 est.) (public works only) of about $71 billion (2004 est.)
(See Appendix) d. Technological:
Telephones-Main Lines Telephones- Cellular Phones Internet Users
United States 181,599,900 (2003) 158.722 million (2003) 159 million (2002)
Canada 19,950,900 (2003) 13,221,800 (2003)
Japan 71,149,000 (2002) 86,658,600 (2003)
16.11 million (2002) 57.2 million (2002)
These three nations are very technologically advanced. Due to the growing Internet users in each nation, visitors to the Costco website will increase. Also, many people are more and more technologically savvy. This means that, for Costco, new ways of scanning membership cards or having a more interactive shopping experience will become increasingly important to the success of the company. (See Appendix) *Source: Costco 10K 2006 *Source: CIA World Factbook *Source: U.S. Department of Commerce *Source: U.S. Census Bureau, 2004, "U.S. Interim Projections by Age, Sex, Race, and Hispanic Origin,"
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2. TASK ENVIRONMENT AUDIT a. Industry Audit:
Costco is identified as a major player in the Warehouse Clubs & Supercenter industry along with Sam’s Club and BJ’s Wholesale. According to NAICS, this industry specified with code 452910, “comprises establishments known as warehouse clubs, superstores or supercenters primarily engaged in retailing a general line of groceries in combination with general lines of new merchandise, such as apparel, furniture, and appliances..” Breakdown of Warehouse Club and Supercenter Industry from the parent industry of Retail Trade is as follows: Industry
NAICS
Detail
Code 44-45 452 4529 45291 452910
# of Description
Estab.
Sales
3,056,421,99 1,114,637 7 40,723 445,224,985
Retail Trade General Merchandise Stores Other General Merchandise Stores 31,368 Warehouse Clubs & Supercenters 2,912 Warehouse Clubs & Supercenters 2,912
224,482,103 191,252,396 191,252,396
% of Estab .
% Sale s
3.7%
14.6%
2.8% 0.3%
7.3% 6.3%
% Estab.
% Sales
GM
GM
77.0% 7.2%
50% 43%
Although Warehouse Clubs & Supercenters (WC&S) only make up .3% of the retail trade industry in terms of number of establishments, this industry earns only 1% less than other general merchandise stores in terms of sales. If the WC&S industry is compared to General Merchandise Stores, it pulls in 43% of the industry’s sales with only 7.2% of the industries establishments running with a WC&S classification. According to Hoover’s Online, warehouse clubs are seeing customer membership at an all-time high. While annual membership fees range from $40-100, Costco’s offers its memberships from $45-60.
The supermarket industry lost market share to such warehouse clubs and supercenters. Current in North America, supercenter Wal-Mart has achieved the number one spot of top 10 Mass Market Retailers, with Costco coming in at number 3. On the global scale, Costco is the seventh largest food retailer. In regard to the warehouse industry, Costco rivals both Sam’s Club and BJ’s for the number 1 spot. (See Appendix) *Source:
US Census Bureau. – Industry Statistics Sampler
*Source: Hoover's, Inc. *Source: Supermarket News 2006
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*Source: Mass Market Retailers, August 2006 *Source Mintel Oxygen: Warehouse Club Buying, 2005 b. Financial Performance:
The industry has a steadily growing return on revenues and return on assets. Return on equity, throughout the industry, varies from year to year. This is mainly because the amount of debt the different companies take on during specific years. The debt to capital ratio has a wide range due to the amount of financial leverage the different companies choose to incur. The net income is a mixed stream throughout the industry due to the increase of sales of the varying companies. The forecast of the industry appears to be positive, with strong financial activity ratios. This is apparent from Costco’s Annual Report and their 10K statements. (See Appendix) *Source: Standard & Poor’s
18
Porter’s Model: Industry: Warehouse Club and Supercenters: Threat of Entry = HIGH Absolute Cost Advantage - High
Economies of Scale - High Brand Identity - High Access to Distribution – High Switching Costs - High Government Policy - Mod Bargaining Power Of Suppliers = LOW Supplier Concentration – Low # of Buyers – Low Switching Costs –Mod. Substitute Raw Materials – High Threat of Forward Integration – Low
Degree of Rivalry = MOD. Number of Competitors – Low Industry Growth – Moderate Asset Intensity – Low Product Differentiation – Low Exit Barriers - Low
Bargaining Power Of Buyers (consumers) = HIGH Buyer Concentration – High #of Buyers – High Switching Costs – Low Substitute Products – Low Threat of Backward – High Integration
Threat of Substitution Functional Similarity – High Price/Performance Trend – Mod Product Identity – High
Overall competitiveness is high to moderate, thus profit potential is moderate to low. This is because the higher the competitiveness, the lower the attractiveness because margins are erode countering the forces. * Source Mintel Oxygen: Warehouse Club Buying, 2005 *Source: Costco.com *Source: Standard & Poor’s c. Competitor Analysis:
Costco’s industry is highly competitive, based on factors such as price, merchandise quality and selection, location and member service. In addition to other membership warehouse operators, they compete with a wide range of national and regional retailers and wholesalers, including supermarkets, supercenters, general merchandise chains, specialty chains, gasoline stations, as 19
well as E-commerce businesses. Over 1,178 warehouse club locations exist across the U.S. and Canada, including our 426 North American warehouses, and every major metropolitan area has one, if not several, club operations. Wal-Mart has become the largest retailer in the world and has expanded further into various food merchandising formats. Target and Kohl’s have also emerged as significant retail competitors. Low-cost operators selling a single category or narrow range of merchandise, such as Lowe’s, Home Depot, Office Depot, PetSmart, Staples, Best Buy and Barnes & Noble, have significant market share in their respective categories. Competitor Analysis
Current Objectives
Current Strategies
BJ's
Wal-Mart
Staples
* Be environmentally friendly and provide * Provide high-quality, brand * Provide low cost goods various ways for name merchandise so people can live better recycling *Provide quality * Provide easy, multiple * Provide lower prices thanmerchandise and options other retailers services for customers * Reward and embrace mutual respect, integrity *High sales with rapid * Be the number one and diversity. brand for inventory turnover *Be first or second in every*Sam’s Club segment school and office market provides brandsupplies * Offer high quality name merchandise at office products at a low cost "members only" prices for business and personal use * Continue unit growth, with 660 stores with half *Offer narrow assortment of *Emphasize brand in the US food quality * Focus on supercenter *Donate school and general merchandise growth supplies to schools around the *Use warehouse club to sell diversified categories. *Provide organic foods world *Utilize store design * Target small efficiency businesses *Target small businesses, households, and individual *Open two regional and grocery distribution centers
20
*EDLP and Rollback are*Domestic retail and appealing strong sales Competencies *Customer-friendly shopping to customers Operations * One-stop shopping *Domestic delivery to *High name recognition experience provide *Streamlined management,* Distribution leads to prompt deliveries distribution and marketing.high in-stock throughout levels for products The U.S. * Many stores are open *Strong brand *Convenient operation hours 24 hours Recognition *Diverse product line that * Operates in 14 exceeds countries bulk packaging Future Outlook
*Open 8-10 new clubs in * Expand to Hungary, * Continue to existing markets for 2007 Poland, differentiate from *Develop new club prototype *Taiwan major competitors * Be the world's best office products supplier *Gain membership *Play harder against competition *Offer new presentation of products Staples 2006 16,078. 80 11,493. 30 4,585.5 0 28.50% 2,968.4 0 303.9 1,313.3 0 8.20% 58 56.8 1,314.5 0 479.8 834.7 834.4 --
Revenue
Cost of Goods Sold Gross Profit
Gross Profit Margin
SG&A Expense
Depreciation & Amortization
Operating Income
Operating Margin
Non-operating Income
Non-operating Expenses
Income Before Taxes
Income Taxes
Net Income After Taxes Continuing Operations
Discontinued Operations
21
Wal-mart 2006 315,654.0 0 240,391.0 0 75,263.00
BJ's 2006 7,949.90 7,123.70 826.2
23.80% 52,016.00
10.40% 518.5
4,717.00 18,530.00
103.8 203.9
5.90% 248 1,420.00 17,358.00
2.60% 7.8 0.6 211.1
5,803.00 11,555.00 11,231.00 --
82.3 128.8 128.8 -0.3
Total Operations
834.4
Total Net Income
834.4
Net Profit Margin Gross Profit Margin
5.20% 28.60%
Pre-Tax Profit Margin
Net Profit Margin
Return on Equity
Return on Assets Days of Sales Outstanding
Inventory Turnover
Days Cost of Goods Sold in Inventory
Asset Turnover
Current Ratio
Quick Ratio
Leverage Ratio
11,231.00
11,231.00
3.60% 24.20%
128.5
128.5 1.60% 9.90%
8.10% 5.40% 21.00% 12.60% 17.85 6.5 56
5.40% 3.40% 20.80% 8.20% 2.78 8.3 44
1.80% 0.90% 7.80% 4.10% 5.32 9.7 37
2.4 1.59 0.7 0.06
2.4 0.84 0.2 0.27
4.5 1.32 0.4 0.01
Looking the 3 competitors’ financials, Wal-Mart has a substantial amount of revenue over BJ’s and Staples. BJ’s limits its expenses which reflect their low cost of goods sold and SG&A expenses. They also turn over their inventory 9.7 times which is higher than Wal-Mart’s of 8.3. However, Wal-Mart had a high debt leverage ratio of .27 when compared to staples .06. WalMart has high revenues and a strong leverage ratio which shows that they are at the top of the industry and a leading retailer. (See Appendix) *Source: BJ’s 10K 2006 *Sources: BJ's 10-k, Hoovers, Planet Retail, Wal-mart's 10k, Staple's 10k
III.
SWOT ANALYSIS: CURRENT SITUATION
Management
Marketing
Strengths Weaknesses Majority of top management officialsSimple layout may detract from are “home grown”. luxury items offered in store. Section B-1 Only 6% of Costco employees leave after the first year, compared to 44% of Wal-Mart’s. Section B-1 Costco does little to no formal Increase in comparable store sales 2004advertising except in the instance of 2005 (8%) and 2005-2006(7%). a store opening, so they may not be reaching their full membership Internet sales increased 59% from 2005 potential. to 2006 and are projected to reach $1 billion in 2007 Section B-2 22
Membership increases steadily at 10% each year and is a constant 2% of revenue “Treasure Hunt” aspect makes shopping fun again; Costco’s philosophy is to keep overhead costs low and pass those savings on to customers in the form of low prices. Accounting / Finance
Section B-2 Costco turns over its inventory nearlyBJ’s has a stronger Asset Turnover once a month, which is more frequentthan Costco. than its competitor BJ’s. Costco’s gross profit margin has declined from 2004-2006, while BJ’s Costco has consistent Return on Sales has increased. and Return on Assets. Section B-3
Production & Operations
Costco operates stores in the US, Canada, Mexico, UK, Japan, South Korea, and Taiwan.
Section B-3 Costco’s international sales are only 6% of total net sales
Taiwan stores are losing money
Because of Costco’s high inventory Section B-4 turnover we generally have the opportunity to sell and be paid for inventory before we are required to pay many of our merchandise vendors. Information Systems
Section B-4 Costco only offers an online retail Costco has a separate website for stores in each of its international reasons. outlet to customers in Canada and the US. Costco offers special online deals each week dubbed “This Week’s Treasure Costco’s homepage is overwhelming Hunt”. due to the conglomeration of graphics. Costco’s website showcases the quality of the products it offers and lets the Costco’s website focuses on customer view products from variousconsumers, leaving out small different angles. businesses. Section B-5 Section B-5
23
Economic
Opportunities High GDP per capita means these people have disposable income: US- $40,100 Canada-$31,500 Japan- $29,400
Threats 12% of the US population is below the poverty line and 15.9% of Canada’s population is below the poverty line.
Inflation Rates are relatively low: US- 2.5% Canada-1.9% Japan- -0.1% in will have to expend energy Demographic / Approximately 67% of the populationCostco and resources for translation of Sociocultural the US, Japan, and Canada are between the ages of 15-64 company materials and websites as all of the regions we operate in have a different primary language. Political / Legal Canada and Japan’s revenues and The United States’ expenditures far expenditures are fairly balanced exceed their revenues. Technological 159 million internet users in America57.2 million Internet users do not and 16.11 million in Canada have access to online purchases in Japan. 1. STRATEGIC ISSUES:
Continue sales growth in a competitive, global market.
IV. STRATEGY ANALYSIS: 1. REVISED MISSION STATEMENT:
To continually provide our members with a unique product mix of quality brand name and private label merchandise, as well as everyday services, at the lowest possible prices in order to be an industry leader competing in a global market. In order to achieve our mission we will conduct our business with the following Code of Ethics in mind: Our Code of Ethics • Obey the law. • Take care of our members. • Take care of our employees. • Respect our suppliers. • Be environmentally aware. If we do these four things throughout our organization, then we will achieve our ultimate goal, which is to:
24
•
Reward our shareholders.
(See Appendix) 2. LONG TERM OBJECTIVES:
Increase sales by 14% annually for the next 3 years. (Note: 2006-2007 was 13.4%, 20072008 was 17% and 2008-2009 was 14%) (in thousands) 2006 2007 2008 2009 Total $58,963,180 $67,218,025 $76,628,549 $87,356,546 United States $46,642,516 $53,172,468 $60,616,613 $69,102,939 International $12,320,664 $14,045,557 $16,011,936 $18,253,607 o
Increase membership sales by 12% annually for 3 years (in thousands) 2006 2007 2008 2009 Membership Sales 1,188,047 1,330,613 1,490,286 1,669,120 o
3. POSSIBLE CORPORATE STRATEGY: 1. GE Matrix:
This GE Matrix explains that Costco’s three strongest locations, which means they have the most industry attractiveness and competitiveness, are the United States, Canada and Mexico respectively. The United Kingdom, Mexico, Japan and South Korea are average in these two categories, while Taiwan is doing poorly in every aspects.
25
This GE Matrix explains that in the categories of industry attractiveness and competitive position, food and sundries are doing very well in these categories. Hardlines, softlines and ancillary are doing average, while membership is doing the poorest of all the products offered. Therefore, this is why a strategy to increase membership sales through the website, which will add to overall membership sales for Costco. (See Appendix) 4. TOWS Matrix Model: Strengths – S Weaknesses – W 1.) An increase in 1.) Costco only offers an comparable store sales online retail outlet to from 2004 to 2005 of customers in Canada 8% and from 2005 to and the United States. 2006 of 7%. 2.) Costco does little to no 2.) High inventory formal advertising. turnover rate (nearly 3.) Costco has not yet once a month). expanded into every region of the globe. 3.) Costco has a consistent 4.) Costco puts so much ROS and ROA. 4.) Costco keeps overhead emphasis on being cost low and pass those simple (layout of savings on to warehouses) that is customers in the form may translate to of low prices. customers that no quality products could be bought there. 5.) Costco in Taiwan is struggling to stay alive and the market there is failing.
26
Opportunities – O Strength – Opportunity Weakness – Opportunity 1.) Canada, Japan and Strategy: Strategy: United States have high GDP per capita SO1: Update the website to WO1: Costco will open new and low inflation rates. facilitate international usagestores internationally (Japan and advertise the new and Canada) 2.) Potential to compete in functionalities, while exploding global WO2: Develop promotions introducing an online markets. 3.) There are 59 million shopping option with test trials online, such as buying Internet users in the beginning in Japan. keywords through Google. United States and SO2: Open more stores in the WO3: Costco will close their 16.11 million in Canada. United States. stores in Taiwan. 4.) An online website that WO4: Costco will open stores ships to the United SO3: Costco will offer trial States and Canada. memberships through their in India. website to increase same store 5.) Costco in Japan is very WO5: Costco will acquire stable, with middle tosales and website visits. their competitor BJ’s. high market share, growth, opportunities,SO4: Increase in-store WO6: Introduce new nonetc. sampling. food product lines such as a makeup counter Threats – T Strengths – Threats Weakness – Threats Strategy: Strategy: 1.) 57.2 million Internet users do not have ST1: Improve asset turnover.WT1: Costco will close their access to online purchases in Japan. stores in Taiwan. ST2: Fully functional website 2.) BJ’s has a stronger asset turnover ratio that has links to the Costco than Costco. website in all the countries 3.) Different legal laws they are in. and restrictions exist in the different countries, which creates a challenge. 4.) Diversity of the languages in the global regions cause for energy and resources to be expended for translation for company materials and the website. 5.) Wal-Mart is set to open 100 supercenters in
27
Taiwan. 5. STRATEGY SELECTION Strategy Selection Matrix: SO1 SO2 SO3 SO4
ST1
ST2 WO1
WO2
WO3
WO4 WO5 WO6
WT1
1. 2. 3. 4. 5. 6. 7.
1 5 5 4 5 4 5 5 4 5 4 3 4 3
2 4 4 4 4 3 4 3 2 4 3 4 4 3
3 4 5 5 5 4 5 5 4 4 4 4 3 3
4 5 5 5 4 4 4 5 3 4 4 4 4 5
5 3 4 3 4 2 3 2 2 3 3 2 2 2
6 4 4 4 4 3 4 4 3 4 2 3 3 5
7 Total 3 28 3 30 5 30 4 30 2 22 4 29 3 27 4 22 3 27 2 22 2 22 2 22 2 23
Fit with mission, vision, & objectives Consistency with realities of external audit Feasibility given firm’s internal audit Ability to build upon competitive advantage Shelter from environmental changes Potential rewards Lack of risk
Chosen Strategies: Rejected TOWS: o o o o o
WO2: Develop promotions online, such as buying keywords through Google. WO4: Costco will open stores in India. WO5: Costco will acquire their competitor BJ’s. WO6: Introduce new non-food product lines such as a makeup counter ST1: Improve asset turnover.
The above strategies were rejected because they are secondary strategies. This means that the strategies we accepted should be implemented first, so later the rejected strategies could be put into effect. Overall, these strategies are not as important for the initial long-term objectives, as the accepted ones. Accepted TOWS:
28
o
o o
o o o o
o
SO1: Update the website to facilitate international usage and advertise the new functionalities, while introducing an online shopping option with test trials beginning in Japan. SO2: Open more stores in the United States. SO3: Costco will offer trial memberships through their website to increase same store sales and website visits. SO4: Increase in-store sampling. WO3: Costco will divest their stores in Taiwan WO1: Costco will open new stores internationally (Japan and Canada) ST2: Fully functional website that has links to the Costco website in all the countries they are in. WT2: Costco will close their stores in Taiwan.
The above strategies were accepted because they are the most influential to the growth and success of Costco. Beginning with these strategies, Costco as a whole would feel a large positive impact because these strategies are the best for implementing our long-term objectives. For example, increase in advertising (since at the moment Costco does very little) and opening new stores in the exploding global market are sure to help boost Costco’s success. These strategies would be implemented first because they would set the pace for the strategies that were rejected in hopes of making all of the strategies contribute to the long-term success of Costco.
V.
STRATEGY IMPLEMENTATION:
Costco plans to increase number of stores domestically and globally by 13.7%, or 63 stores (with 35 stores in the United States and 20 stores outside of the United States; 11 in Canada and 17 in Japan), in 3 years. Along with this, Costco will close all stores in Taiwan due to Wal-Mart opening 100 new stores in the area, as well as these stores having decreasing sales over the past several years. By doing this Costco will be able to focus more on the opening of their new stores. Trial memberships through the Costco website (to increase comparable store sales) will allow visitors to website to enter their driver’s license information and then print out a receipt of their trial membership activation. Direct mail, to those in Costco’s demographic, will tell those interested to go to the website for the membership. When a customer goes to the store they will present their driver’s license and print out, which will activate their trial membership from that day on. Costco also plans to have some of their trial memberships to turnover to permanent memberships. • 50.4 million current membership card holders • An increase of 2% of the current holders would give Costco 1 million new members a year • Assume that 0.5% (of the 2%) of the trial memberships would turn into new memberships = 5000 trial to new memberships
29
Through the website, Costco will be able to increase their reach to small businesses. Since smal businesses tend to do more of their business transactions online, as to save time and energy, the Costco website would be very helpful towards those needs. There would be a “Small Businesses” tab that would allow those businesses to be able to log in and order quickly what they need through a reorder link. Lastly, sampling with in the stores will help increase the products sampled being purchased. This will add to Costco’s net sales and their overall success. Every week different products Costco currently sales will be able to be sampled. This, along with the expertise the employees will market the products, will entice customers to buy those sampled products. 1. MANAGEMENT ISSUES:
Costco’s management structure is very stable and effective and there are little to no strategies that need to occur to make this segment more productive. Most upper management are people that were once long-term employees of the company that have since worked their way up. Whether it be upper management or store employees, both stay with the company for long periods of time, if not for an entire working career. Costco creates value for its employees, which then creates value for its customers; this continues the value creation cycle. Costco is significantly better than its competitors, in the management department, paying higher salaries their employees and lower employee turnover (higher employee retention). Having a complete and effective management segment allows for other areas of Costco, those that may not be doing so well, to be focused on and restructured.
Costco Store Locations
United States
Canada
United Kingdom
Korea
*With Taiwan
30
Japan
Taiwan
Costco Store Locations
United States
Canada
United Kingdom
Korea
Japan
*Without Taiwan (after closing stores there) 2. MARKETING ISSUES: a. The 4 P’s:
First, Costco’s product line will consist of a core group of products that will be sold in every store Costco runs. However, in each of the different countries and regions there will be products specifically geared to that culture and their tastes in food and other products that those specific Costco stores will sell. Products will continue to be bundled, but in areas where storing food is not a major issue, the bundles will be smaller and more tailored to the needs of the people in those areas. Also, the website will help showcase these products to all those interested in purchasing them through the website and in stores. Next, Costco will keep the basic layout of their warehouses the same. They will however increase the number of stores both in the United States and outside. Costco will open 63 new stores globally in the next 3 years in the United States, Japan and Canada, but will close their stores in Taiwan. Price for sampling for Costco will be at 13%. This is because Costco has a cap of 14% for instore sampling. Therefore, by keeping sampling costs at 13%, Costco is able to be most cost efficient. Finally, for promotion Costco will increase advertising for new stores for a specific period of time while there is still hype about the new openings, but will otherwise keep the amount of advertising they currently do the same. To draw customers to the new and improved website, Costco will offer a trial membership. To access the one month trial membership, the user will print the membership card from the website and it is good for one month from the date of their
31
first visit to Costco stores. We hope that these trial members will eventually become longtime loyal members. Finally Costco will increase the frequency and variety of products that are sampled in store to encourage an increase in each individual shopper’s purchase amount which will in turn raise same store sales. Overall, the 4 P’s, as part of the marketing plan, will increase Costco’s company brand. *Source: Progressive Grocer Costco’s Sales Forecast: Costco Wholesale Base Year (in millions) (actual) 2006 Comparable Store Sales New Store Sales Total Net Sales
Plan Year 1 (forecasted) 2007
Plan Year 2 (forecasted) 2008
Plan Year 3 (forecasted) 2009
$65,374.5
$72,805.0
$82,665.4
$1,419
$5,031
$9,933
$66,793.5
$77,836.0
$92,598.4
Plan Year 1 (forecasted)
Plan Year 2 (forecasted)
Plan Year 3 (forecasted)
$47,433.6
$49,315.4
$54,375.1
$60,490.3
$12,529
$14,290.2
$16,468.6
$19,991.0
-
$589.6
$653.7
$728.0
$589.6
$653.7
$728.0
$589.6
$653.7
$728.0
$65,374.5
$72,805.0
$82,665.4
$58,963.2 -$58,963.2
Comparable Stores Sales Forecast: Comparable Store Base Year Sales (in millions) (actual) 2006 United States International Website Sampling
-
Target Small Businesses
-
Total Net Sales
$58,963.2
New Store Sales Forecast:
32
New Store Sales (in millions)
Plan Year 1 (forecasted)
Plan Year 2 (forecasted)
Plan Year 3 (forecasted)
-
$1,419
$1,806
$774
Japan
-
$258
$387
$1,032
Canada
-
$258
$903
$3,096
Divest Taiwan
-
($516)
-
-
Total Net Sales
-
$1,419
$5,031
$9,933
United States
Base Year (actual) 2006
Costco’s sales are driven by the opening of new stores and an increase of comparable store sales Comparable stores sales have increased by 7% in the past in then United States and by 11% internationally. Sampling, website and targeting of small business will each contribute another 1% to comparable store sales. (See Appendix) 3. FINANCE/ACCOUNTING ISSUES:
Costco will finance their new stores through taking funds from their current cash on hand. Pre-opening expenses for new stores for Costco (in thousands): o 2007 = $37,957 o 2008 = $30,385 o 2009 = $32,171
0.025 0.019 -0.001
2009 Pre Cost Inflation Cost US 14867 372 15239 CANADA 11151 212 11362 JAPAN 5575 -6 5570 $ 32,171
Cost with Inflation 2008 2007 Pre Cost Inflation Cost Pre Cost Inflation Cost 20443 511 20954 26018 650 26669 7434 141 7575 7434 141 7575 1858 -2 1857 3717 -4 3713 $ 30,385 $ 37,957
It will also cost $5,016 (in thousands) to close stores in Taiwan. This is because of store closing expenses.
WACC
11%
33
year 0 4,327,595 100,702
Project cash flow-PV Project cost
NPV
year 1 2,179,509
year 2 845,813
year 3 2,294,327
4,226,892
** 0.039% Required Rate of Return (based on other store openings and return rates)
According to the NPV (being positive), Costco will accept the project of opening new stores for each year. WACC WD(Kd)(1t)+(Wpfd)(Kpfd)+(We)(Ke) Long-term debt Common Stock
0
Preferred Stock WACC= Beta
215369 23,120 28,18
0.280 0.055 0.070 0.067
We Kd 11% Kpfd 0.5 Ke
0.039 0.055
Risk Free Return Market Risk Premium
2.139 0.230
Wd Wpfd
$ 100,702 0.371
Intial In. Tax rate
*Source: Costco 10K *Source: yahoofinance.com 4. OPERATION ISSUES:
Wal-Mart is moving into Taiwan and opening 100 new stores. This would make competing in Taiwan difficult for Costco and would consume money and time. Therefore, closing Costco’s stores in Taiwan would allow for the company to focus on opening new stores in other countries that would be very successful; such as opening stores in the United States, Canada and Japan. Previous Openings: Year US
Canada
Other International
Total
Total in Operation
2004
18
2
0
20
417
2005
11
2
3
16
433
2006
20
3
2
25
458
Future Openings:
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Year
US
Canada
Other International
Total
Total in Operation
2007
14
4
2
20
478
2008
11
4
1
16
494
2009
8
6
3
17
511
Additionally, Costco operates regional cross-docking facilities (depots) for the consolidation and distribution of most shipments to the warehouses, and various processing, packaging, and other facilities to support ancillary and other businesses. At the end of fiscal 2006, we operated eleven depots in the United States, three in Canada and two internationally, excluding Mexico, consisting of approximately 6.5 million square feet. *Source: Costco’s 2006 10K 5. SOCIAL RESPONSIBILITIES:
Costco have many different ways of being socially responsible. All of the United States warehouses operate under an energy management system that meets or exceeds the demanding energy efficiency standards that meet California law. In 2006, they increased their energy saving efforts by installing the first, large scale solar panel system in one of the California warehouses. Costco, in the future, is anticipating the installment of a second solar panel. Also, they will test hybrid trucks in their business operations. Costco has a van-pool system, or Commute Trip Reduction, which was started twelve years ago (1994). They started with 18 vans and now currently have 52. Lastly, they offer employees subsidies to use the pool. 6. INFORMATION SYSTEMS ISSUES: a. Mock Website:
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Welcome to Costco.com Select your location North America: United States Canada Mexico Europe: United Kingdom
Personal Business
Asian Pacific: Japan Korea
Costco will revamp and update their current website to include features for all the different nations they currently and will, in the future, do business in. Costco’s website will open the availability of shipping in Japan, which it currently does not do. An example of this is Ikea’s website; it allows links to all the different countries it does business in and constantly updates th new products they have or are on sale. A major factor in the revamping of the website is that there will be constant maintenance to the website. Constant updating and construction to the site will take place to ensure that it is up to the high standards the customers wish to receive. To revamp the website it would take approximately $100,000 for two people. This is in accordance with the United States of a web designer, which is $50,372. Costco already has a web team that constantly updates their current website weekly. Therefore, the same team will update the new website weekly. The costs of these updates are imbedded into SG&A in their financial reports. *Source: Costco 10K *Source: http://swz.salary.com/salarywizard/layouthtmls/swzl_compresult_national_IT1 0000109.html VI.
EVALUATION & CONTROL
1. 3 Year Pro Forma Forecast:
Costco’s projected financials are increases in all operating costs, which are shown as follows: o Merchandise Costs will increase 14% because it is a variable cost.
36
o
o o
o
Selling, General and Administrative by using a consistent 86.9% because Costco is not adding any additional product lines, therefore, we are not increasing SG&A. Pre-opening expenses will decrease from 0.06% to 0.05%. Impared Assets (which are shipping costs and damaged assets) and Closing Costs will remain the same because Costco is closing stores in Taiwan, not reselling. o Also, we are liquidating the inventory for the Taiwanese stores because the packaging there will not translate well to another store location. Net Sales will increase an average of 14.68%.
The increases in all of the costs are due to the fact that Costco is opening new stores both domestically and globally. This is all shown here: INCOME STATEMENT REVENUE
Net Sales Membership Fees Total Revenue Merchandise Costs Gross Profit
OPERATING EXPENSES
Selling Expenses Depreciation Website expense Preopening Expenses Impared Assets and Closing Costs Total Operating Expenses Operating Income
OTHER INCOME (EXPENSE)
Interest Expense Interest Income and Other IBIT Provisions For Income Taxes
Actual
Projected
Projected
Projected
2006 (000)
2007 (000)
2008 (000)
2009 (000)
58,963,180 1,188,047 60,151,227 52,745,497 7,405,730
66,793,482 1,342,493 68,135,976 59,109,277 9,026,699
77,835,976 1,530,442 79,366,419 68,881,395 10,485,024
92,598,424 1,760,008 94,358,433 81,945,508 12,412,925
1 2
5,216,856 515,285 42,504 5,453 58,525,595 1,625,632
5,792,932 572,186 47.4 22,770 5,016 6,392,951 2,633,748
6,617,628 666,781 2.4 36,432 7,320,844 3,164,180
7,720,922 4 793,244 5 2.4 6 36,432 7 8,550,600 3,862,325
(12,570) 138,355 1,751,457 648,202
(13,958) 153,633 2,773,423 1,026,424
(16,266) 179,032 3,326,946 1,231,280
(19,351) 212,987 4,055,961 1,501,083
3
8
NET INCOME 1,103,215 1,746,998 2,095,667 2,554,878 1 Based on Sales Forecast 2 Membership increases 1% each projected year 3 Based on Average 13% Markup 4 Due to economies of scale, Selling Expenses decreases in terms of common stock 5 Depreciation is constant 6 Based on initial design costs, then decreases in 2008 & 2009 for Maintenance only 7 As per average opening costs per store 8 Equals Provisions For Income Taxes (previous year) / IBIT (previous year) * IBIT (projected year)
37
Common Size:
INCOME STATEMENT REVENUE
Net Sales Membership Fees Total Revenue Merchandise Costs Gross Profit
2006
2007
2008
Actual
Projected
Projected
2009 Projecte d
Common %
Common %
Common %
Common %
98.02% 1.98% 100.00% 87.69% 12.31%
98.03% 1.97% 100.00% 86.75% 13.25%
98.07% 1.93% 100.00% 86.79% 13.21%
98.13% 1.87% 100.00% 86.84% 13.16%
8.67% 0.86% 0.00% 0.07%
8.50% 0.84% 0.00% 0.03%
8.34% 0.84% 0.00% 0.05%
8.18% 0.84% 0.00% 0.04%
0.01% 97.30% 2.70%
0.01% 9.38% 3.87%
0.00% 9.22% 3.99%
0.00% 9.06% 4.09%
-0.02% 0.23% 2.91% 1.08%
-0.02% 0.23% 4.07% 1.51%
-0.02% 0.23% 4.19% 1.55%
-0.02% 0.23% 4.30% 1.59%
1.83%
2.56%
2.64%
2.71%
OPERATING EXPENSES
Selling Expenses Depreciation Website expense Preopening Expenses Impared Assets and Closing Costs Total Operating Expenses Operating Income
OTHER INCOME (EXPENSE)
Interest Expense Interest Income and Other IBIT Provisions For Income Taxes
NET INCOME
(See Appendix) Net Income per Common Share:
NET INCOME PER COMMON SHARE Basic Diluted Shares Used In Calculations (000's) Basic Diluted Dividends Per Share
Actual
Projected
Projected
Projected
2006
2007
2008
2009
2.4 2.3 469,718.0 480,341.0 0.5
2.61 2.55 521,587.05 533,383.10 0.54
3.04 2.98 607,817.35 621,563.56 0.63
3.62 3.54 723,096.58 739,449.92 0.75
To forecast, common size for 2006 was used for each of the other numbers. This showed a steady increase in our basic and diluted shares and our dividend per share. 2. Balanced Scorecard:
38
Financial: Increase in Net Sales Close Stores in Taiwan
Customers: Customer Satisfaction Customer Loyalty New Memberships
BALANCED SCORECARD
Internal: Employee Satisfaction Regulatory and Social Process
Learning and Growth: Opening New Stores Domestically and Globally
Financial Perspective: Costco will continue to have growth in Net Sales. This will increase their overall revenue growth. Along with an increase in Net Sales, closing stores in Taiwan will help keep unnecessary costs out of Costco’s overall financials. Internal Perspective:Costco will continue to make their employees feel like a major part of the success of the company. Along with this, employee turnover rate will stay low, since there will remain a sense of family within the company. Also, Costco will continue a regulatory and social process; stay true to how they do business while being socially responsible. Customer Perspective:Customer satisfaction will continue to be a major facet of Costco, due to the fact that without them Costco would become obsolete. Costco will continue to provide their customers with quality products at bargain prices. This will keep the customers loyal to Costco. Lastly, the amount of memberships will continue to increase year by year. Learning and Growth Perspective: Costco will open new stores, both domestically and internationally. This will allow Costco to keep growing, which will ultimately allow revenues to increase. Also, new stores will allow for more employment opportunities, as well as places people can shop and therefore become loyal customers.
39
Appendix Current Mission: To continually provide our members with quality goods and services at the lowest possible prices. In order to achieve our mission we will conduct our business with the following Code of Ethics in mind:
Our Code of Ethics • Obey the law. • Take care of our members. • Take care of our employees. • Respect our suppliers. If we do these four things throughout our organization, then we will achieve our ultimate goal, which is to: • Reward our shareholders.
Principal products or services
Quality goods and services, lowest possible prices, members, employees, suppliers, shareholders n/a
Geographic scope
n/a
Philosophies (basic values)
Obey the law, Ethics
Value Creation
Self-image (distinctive competencies) n/a Public image (social responsibility)
Ethics
Revised Mission: To continually provide our members with a unique product mix of quality brand name and private label merchandise, as well as everyday services, at the lowest possible prices in order to be an industry leader competing in a global market. In order to achieve our mission we will conduct our business with the following Code of Ethics in mind:
Our Code of Ethics • Obey the law. • Take care of our members. • Take care of our employees. • Respect our suppliers. • Be environmentally aware.
If we do these four things throughout our organization, then we will achieve our ultimate goal, which is to : •
Reward our shareholders.
Value Creation
Quality goods and services, lowest possible prices, members, employees, suppliers, 40
Geographic scope
shareholders. A unique product mix of quality brand name and private label merchandise and everyday services. Global
Philosophies (basic values)
Obey the law, Ethics
Principal products or services
Self-image (distinctive competencies) Be our industry leader. Public image (social responsibility)
Be environmentally aware.
Long-term Objectives: FISCAL YEAR 2006 Opening Date Location First Qtr ‘06 9/17/2005 San Luis Obispo, CA 10/14/2005 Pembroke Pines, FL 10/21/2005 Kalispell, MT (relocation) 10/26/2005 La Habra, CA 10/27/2005 Centennial, NV 11/7/2005 Milton Keynes, UK 11/10/2005 Veracruz, MX 11/11/2005 Phoenix, AZ (Cave Creek) 11/16/2005 Kanata, ON 11/17/2005 Hillsboro, OR Second Qtr ‘06 11/22/2005 W. Bountiful, UT 12/1/2005 Chandler, AZ 3/28/2006 Gatineau, QC (relocation) 3/29/2006 Sherwood Park, AB 3/30/2006 NW Calgary, AB 4/26/2006 SW Bakersfield, CA 5/3/2006 Mall of Georgia, GA 5/4/2006 SE Gilbert, AZ 5/5/2006 Lake Elsinore, CA Third Qtr ‘06 03/28/06 Gatineau, QC (NRL) 03/29/06 Sherwood Park, AB 03/30/06 NW. Calgary, AB 04/26/06 Bakersfield II, CA 05/03/06 Mall of Georgia, GA 05/04/06 SE Gilbert, AZ 05/05/06 Lake Elsinore, CA
Fourth Qtr ‘06 06/01/06 S. Austin, TX 06/02/06 Juarez, MX 06/29/06 Sheffield, UK 07/18/06 Lacey, WA 07/27/06 E. Bayamon, PR 07/28/06 Wilmington, NC 08/09/06 Duncanville, TX 08/17/06 Sequim, WA (NRL) 08/23/06 Nampa, ID 08/24/06 Lehi, UT 08/25/06 Sparks, NV FISCAL YEAR 2007 Opening Date Location First Qtr ‘07 09/21/06 Marysville, WA 10/17/06 Kauai, HI 10/20/06 Gypsum Eagle Co., CO 10/25/06 Raleigh, NC 10/26/06 Louisville, KY 10/27/06 Maple Grove, MN 11/10/06 Vancouver, BC 11/14/06 W. Nashville, TN 11/15/06 Cumberland Mall, GA 11/16/06 Toluca, MX 11/17/06 Fontana, CA 11/21/06 Boisbriand, QC 11/22/06 La Quinta, CA Second Qtr ‘07 11/28/06 Helena, MT
41
11/29/06 Columbus, OH 11/30/06 Orland Park, IL 12/02/06 Chester UK Third Qtr ‘07 02/21/07 Thornton, CO 03/08/07 W. Homestead, PA 03/30/07 E. Markham, ON 04/12/07 Estero, FL 04/13/07 Royal Palm Beach, FL 05/05/07 Potomac Mills, VA
Fourth Qtr ‘07 06/07/07 Tustin II, CA 07/12/07 Kawasaki, JP 08/03/07 West Valley, UT 08/15/07 Spartanburg, SC 08/16/07 Greenville, SC 08/23/07 NE San Jose, CA 08/29/07 Toledo, OH 08/30/07 Grafton,
GE Matrix: Sundries Good Market Share 3 Technological Know How Product Quality 3 Distribution Network 3 Price Competiveness 3 Operating Costs Customer Know How Total 18 Hardlines Good Market Share Technological Know How Product Quality Distribution Network 3 Price Competiveness Operating Costs Customer Know How Total
16 Good
Softlines Market Share Technological Know How Product Quality 3 Distribution Network 3 Price Competiveness 3 Operating Costs Customer Know How Total 16 Food Good Market Share 3 Technological Know How Product Quality 3 Distribution Network 3 Price Competiveness 3 Operating Costs Customer Know How 3 Total 16
Med
Poor
2
Market Growth Market Size Capital Requirements Competitive Intensity
2 2 Med 2 2 2
Poor
1
2 2 2 Med 2
Poor
1
2 2 Med
Poor
2
Market Growth Market Size Capital Requirements Competitive Intensity
Market Growth Market Size Capital Requirements Competitive Intensity
High
3
9 High 3
9 High 3 1
8 High Market Growth 3 Market Size 3 Capital Requirements 3 Competitive Intensity 1
2 10
42
Med 2
Low
2 2
Med 2
Low
2 2
Med 2
Low
2
Med
Low
Ancillary/Other Market Share Technological Know How Product Quality Distribution Network Price Competiveness Operating Costs Customer Know How Total Membership Market Share Technological Know How Product Quality Distribution Network Price Competiveness Operating Costs Customer Know How Total US Market Share Technological Know How Product Quality Distribution Network Price Competiveness Operating Costs Customer Know How Total Canada Market Share Technological Know How Product Quality Distribution Network Price Competiveness Operating Costs Customer Know How Total Mexico Market Share Technological Know How Product Quality Distribution Network Price Competiveness Operating Costs Customer Know How Total UK
Good
3 3 2 3 17 Good
3 14 Good 3 3 3 3 3 3 20 Good 3 3 3 3 3 19 Good
3 3
15 Good
Med 2 2 2
Med 2 2 2
2
Poor
Poor
1
Market Growth Market Size Capital Requirements Competitive Intensity
Market Growth Market Size Capital Requirements Competitive Intensity
2 Med
Poor
Market Growth Market Size Capital Requirements Competitive Intensity
2 Med
Poor
2 Poor
2 1 2 2 Med
Market Growth Market Size Capital Requirements Competitive Intensity
2
Med 2
Total
Poor
43
Total Market Growth Market Size Capital Requirements Competitive Intensity
Total
High
3 1
8 High
Med 2 2
Low
Med 2
Low
2
8 High 3
3
10 High 3
Med
1 3
Low
2 2
Med
Low
Med
Low 1
3 3 1
10 High
3
8 High
2 2
Med
Low
Market Share Technological Know How Product Quality Distribution Network Price Competiveness Operating Costs
3 3 3 3
Customer Know How Total Japan Market Share Technological Know How
16 Good 3
Product Quality Distribution Network
3
Price Competiveness
3 3
Operating Costs Customer Know How Total S. Korea Market Share Technological Know How Product Quality
18 Good
3
2
Market Growth
2
Market Size Capital Requirements Competitive Intensity
2 Med
2
2 Med
Operating Costs
2 2
Taiwan
13 Good
Market Share Technological Know How Product Quality
Med
2
Distribution Network Price Competiveness Operating Costs
2
Customer Know How
9
Total
Poor 1
2 2
Market Growth Market Size Capital Requirements Competitive Intensity
2
Distribution Network Price Competiveness Customer Know How Total
Poor
Total
1
Poor 1 1 1 1 1
Total Market Growth Market Size Capital Requirements Competitive Intensity
Total Market Growth
3
3 1
9 High
3 3
9 High
3 1
8 High
Market Size Capital Requirements Competitive Intensity
1
Total
5
Management:
Some of the benefits that management provides to their employees are: o o o o
Health Care Dental Care WorkLife Program Voluntary Short Term Disability 44
2
Med
Low 1
2
Med 2
Low
2
Med
2
Low 1 1
o o o o
o o o o o
Pharmacy Program Long Term Disability Vision Program Life Insurance o 401(k) Plan Employee Stock Purchase Plan Health Care Reimbursement Account Long-Term Care Insurance Dependent Care Reimbursement Account Employee Assistance Program
With the average age of the top management being 66 years old and having an average span wit the company for twenty-one years, they are more likely to continue with the current way the company is being run. This has been successful for the company over the years Usually it means that one to two people are working the phones all day calling prospective members and setting up appointments, and others are out calling on businesses," says Wanklin. "They work leads that they get from business lists and networking. They go through unions, credit unions, church affiliations and more." At the same time, while competitor Wal-Mart is being attacked more and more for its lowcompensation policies, Costco is emerging as an exemplar of how to treat employees right. In turn, this highly motivated staff of internal marketers is a powerful force for building Costco's sales.
Marketing:
45
Breakdown of Revenue 2005
Breakdown of Revenue 2006
2%
2% 14% 12% 20%
Food
30%
Sundries
16%
Hardlines
24%
12%
12%
31% 29%
Softlines
Food Sundries Hardlines Softlines Other
Other
Membership
Membership
Breakdown of Revenue 2004 2%
13%
11% 16%
31% 29%
Food Sundries Hardlines Softlines Other Membership
Sales Forecast Calculations: 2007 14 2 4 20
US JAP CAN Total Divest Taiwan TOTAL New Store Sales
TOTAL US/store INTL/store 2006 US INTL
NEW STORE SALES FORECAST Contribution 2008 Contribution 2009 1444.8 11 3192.75 8 206.4 1 290.25 3 412.8 4 1161 6 2064 16 4644 17 516 1548 4644
COMPARABLE STORE SALES FORECAST 2006 0.00 46,642.5 12,320.7 58,963.2 2007 Comparable Store Sales 1 US .07 $49,907.5 Intl 1.11 $13,675.9
46
Contribution 3217.411765 1206.529412 2413.058824 6837 6837
Web 2007 US INTL
37 1 98
2008 US INTL
14 6
2009 US INTL
11 5
Net Sales Food Sundries Hardlines Softlines Other Total
sample target sm
0 .01 0 .01 0 .01
$589.6 $589.6 $589.6 $65,352.3
07 New Store Sales
% change 2008 Comparable Store Sales 1 1915.34735 US .07 $55,450.5 820.86315 Intl 1.11 $16,091.5 0 Web .01 $653.5 0 Sample .01 $653.5 0 1702.20056 Target SM .01 $653.5 08 New Store Sales $73,502.5 773.727526 % change 2009 Comparable Store Sales 1 US .07 $61,153.3 Intl 1.11 $18,720.4 0 Web .01 $735.0 0 Sample .01 $735.0 0 Target SM .01 $735.0 09 New Store Sales $82,078.8 % change
31% 23% 20% 11% 15% 100%
SALES FORECAST BY 2006 $58,963.2 $18,278.6 $13,561.5 $11,792.6 $6,486.0 $8,844.5 $58,963.2
07 Net Sales 1548 $66,900.35 13.46%
80 Net Sales 4644 $78,146.5 16.81%
09 Net Sales 6837 $88,915.8
13.78%
PRODUCT LINE 2007 2008 $66,900.3 $78,146.5 $20,739.1 $24,225.4 $15,387.1 $17,973.7 $13,380.1 $15,629.3 $7,359.0 $8,596.1 $10,035.1 $11,722.0 $66,900.3 $78,146.5
2009 $88,915.8 $27,563.9 $20,450.6 $17,783.2 $9,780.7 $13,337.4 $88,915.8
Membership Breakdown:
Gold Star Business Total primary cardholders Add-on cardholders Total cardholders
17,338 5,214 22,552 25,127 47,679
47
Increase in Comparable Warehouse Sales:
United States International Total
2006 7% 11% 8%
2005 6% 11% 7%
2004 9% 14% 10%
2003 4% 10% 5%
2002 7% 2% 6%
Products:
Items that members may request but that cannot be purchased at prices low enough to pass along meaningful cost savings are often not carried. We seek to limit specific items in each product line to fast-selling models, sizes and colors. Therefore, we carry an average of approximately 4,000 active stock keeping units (SKUs) per warehouse in our core warehouse business, as opposed to discount retailers and supermarkets that normally stock 40,000 to 60,000 SKUs or more. Selected Products and Services •
Alcoholic beverages
•
Checks and form printing
•
Apparel
•
Cleaning and institutional supplies
•
Appliances
•
Collectibles
•
Computer hardware and software
•
Computer training services
•
Automotive insurance products (tires, batteries)
•
Automobile sales
•
•
Baby products
Copying and printing services
•
•
Books
Credit card processing
•
Cameras, film, and photofinishing
DVDs
•
•
•
Candy
Electronics
•
•
Caskets
Eye exams
•
•
CDs
Flooring
•
Floral arrangements
•
Gasoline
•
Gifts
•
Glasses and contact lenses
•
•
Groceries and institutionally packaged foods
Insurance (automobile, smallbusiness health, home)
•
Jewelry
•
Hardware
•
Lighting supplies
•
Health and beauty aids
•
Mortgage service
•
Hearing aids
•
Office equipment and supplies
•
Home insurance
•
Outdoor living products
•
Housewares
•
Payroll processing
•
Pet supplies
48
•
Pharmaceuticals
•
Tools
•
Plumbing supplies
•
Toys
•
Real estate services
•
•
Snack foods
•
Soft drinks
•
Sporting goods
•
Tobacco
•
Travel packages and other travel services Video games and system
Private Label o
Kirkland Signature
Price:
Costco’s products are priced lower than their competitors. This is due to the fact that they have loyalty to the customers not to mark up their prices. They maintain this strategy by combining the wholesaler and retailer parts of the distribution channel into one. This saves Costco money, which they then can then cut from the prices of their products. Also, by maintaining a simplistic warehouse layout and cutting labor costs by avoiding the hassle of breaking down many products, Costco is able to ultimately offer lower prices for the customer.
Business members qualify by owning or operating a business, and pay an annual fee ($50 in the U.S.) to shop for resale, business and personal use. This fee includes a spouse card. Business members may purchase up to six additional membership cards ($40 each) for partners or associates in the business. Gold Star members pay a $50 annual fee (in the U.S.), and is available to those individuals that do not own a business. This fee includes a free spouse membership. The Company also has a third membership level, called the Executive Membership. In addition to offering all of the usual benefits, it allows members to purchase a variety of discounted consume services (auto and homeowner insurance, real estate and mortgage services, long-distance telephone services, auto buying, personal check printing, financial planning) and/or discounted business services (merchant credit card processing, health insurance, business lending, payroll processing, communication solutions, check and forms printing) at substantially reduced rates. Executive Members also receive a 2% annual reward (up to $500) on most of their warehouse purchases. Executive Members pay an annual fee of $100. Membership Data:
50.4 million cardholders
27.5 million Households 18.6 million Gold star 5.4 million Business 3.4 million Business ad ons Place:
49
Costco’s warehouses are not only domestic, but global as well. They maintain the mentality that it is not a necessity to spend excessive amounts of money on prime real estate. Instead, the company buys large areas of land for their stores. This results in many of their stores being in suburban or secluded areas. These suburbs are targeted by Costco because they have the correc customer profile. Many of the residents here have the option to shop in higher priced stores, but shop at Costco because they have good quality products for a discounted price. Also, the warehouses are built very large as to hold all the many different products Costco offers. Number of Warehouses: Locations:
518 as of (8/30/07) 383 locations in 39 U.S. States & Puerto Rico; 71 locations in nine Canadian provinces; 19 locations in the United Kingdom; 4 locations in Taiwan; 5 locations in Korea; 6 locations in Japan; 30 locations in 18 Mexican states
Warehouse Information:
Warehouses in Operations (2)
2006
2005
2004
2003
2002
Beginning of the Year
433
417
397
374
345
Opened (3)
28
21
20
29
35
Closed (3)
(3)
(5)
--
(6)
(6)
End of Year
458
433
417
397
374
Promotion:
In connection with new warehouse openings, our marketing teams personally contact businesses in the area that are potential wholesale members. These contacts are supported by direct mailing during the period immediately prior to opening. Potential Gold Star (individual) members are contacted by direct mail or by providing membership offerings to be distributed through employee associations and other entities. After a membership base is established in an area, mos new memberships result from word-of-mouth advertising, follow-up messages distributed 50
through regular payroll or other organizational communications to employee groups and ongoing direct solicitations to prospective Business and Gold Star members. Customer Profiles:
Costco’s marketing mix is unique to the company and their industry. They have a large range of products that are offered in bulk and for competitive prices. They have their own signature product label, Kirkland, along with other big name brands. Costco also changes their offerings every so often to give their customers the feeling of a “treasure hunt.” This form of surprise makes a sense of excitement for the customers. Their products are in bulk packaging, which are variety packs a lot of the time. This allows for the customers to have variety; not a large amount of the same thing. o
o
Customers: o Small to medium size businesses o Individuals The typical Costco customer is both a business owner with a family who heads to Costco to shop for both. They are homeowners with higher education levels and annual household incomes of more than $100,000 yearly. A customer shops there about 20-50 times a year, depending on whether or not he/she carries an annual Gold membership or the pricier Executive membership. Averages: o Medium age: 51.8 years (well above U.S. mediums of 35.6) o Medium Income: $85,000 yearly (well above the U.S. mediums of $ 41,000 yearly. o 42% of Costco’s customers earn over $100,000 yearly.
Membership Fees:
Membership fees Membership fees increase Membership fees as a percent of net sales Total cardholders
Fiscal 2006 Fiscal 2005 $1,188,047 $1,073,156 10.7% 11.6% 2.02% 2.07% 47,679 45,258
Fiscal 2004 $961,280 12.7% 2.04% 42,416
2006 vs. 2005 Membership fees increased 10.7% to $1.19 billion, or 2.02% of net sales, in fiscal 2006 from $1.07 billion, or 2.07% of net sales, in fiscal 2005. This increase was primarily due to additional membership sign-ups at the 25 new warehouses opened in fiscal 2006, increased penetration of the Executive Membership program, and high overall member renewal rates consistent with recent years, currently 86.5%. In April 2006, we announced plans to increase annual membershi fees by $5 for our U.S. and Canada Gold Star (individual), Business, and Business Add-on Members, effective May 1, 2006 for new members and July 1, 2006 for renewals. Approximately 15 million members will be affected by this increase. Membership fees are accounted for on a deferred basis, whereby membership fee revenue is recognized ratably over the one-year term of
51
the membership, which will have the effect of spreading the full realization of the increase over the next two fiscal years. 2005 vs. 2004 Membership fees increased 11.6% to $1.07 billion, or 2.07% of net sales, in fiscal 2005 from $961 million, or 2.04% of net sales, in fiscal 2004. This increase was primarily due to additional membership 22 sign-ups at the 16 new warehouses opened in fiscal 2005, increased penetration of our Executive Membership program and a high overall member renewal rate of 86%. Financial Performance:
Selling, general and administrative expenses consist primarily of salaries, benefits and workers’ compensation costs for warehouse employees, other than depots, fresh foods and certain ancillary businesses, as well as all regional and home office employees, including buying personnel. Selling, general and administrative expenses also include utilities, bank charges and substantially all building and equipment depreciation, as well as other operating costs incurred t support warehouse operations. Fiscal 2004 Selling, General and Administrative $4,600,792 Expense Selling, General and Administrative 9.76% Expense as a Percent of Net Sales
Fiscal 2005 $5,061,339
Fiscal 2006 $5,732,141
9.76%
9.72%
2006 vs. 2005 Selling, general and administrative (SG&A) expenses were $5.73 billion, or 9.72% of net sales in fiscal 2006, compared to $5.06 billion, or 9.76% of net sales in fiscal 2005. Improved warehouse and central operating costs positively impacted SG&A by approximately nine basis points, primarily due to increased expense leverage of warehouse payroll, which was positively impacted by strong comparable warehouse sales and a lower rate of increase in workers’ compensation costs. This improvement was partially offset by an increase in stock-based compensation cost of approximately five basis points in fiscal 2006. 2005 vs. 2004 SG&A expenses were $5.06 billion, or 9.76% of net sales, in fiscal 2005 compared to $4.60 billion, or 9.76% of net sales, in fiscal 2004. Had EITF 03-10 been in effect for all of fiscal 2004, SG&A expenses as a percent of net sales would have shown improvement of four basis points as a percent of net sales in fiscal 2005. For fiscal 2005, warehouse and central operating costs positively impacted SG&A comparisons year-over-year by approximately ten basis points, primarily due to improved payroll utilization at the warehouse level, including increased leverage from increased comparable sales and cost control measures employed in employee benefits, primarily health care. This improvement was offset by the implementation of EITF 0310, which negatively impacted SG&A as a percentage of net sales by five basis points, and an increase in stock-based compensation costs approximating six basis points year-over-year.
52
The Company considers as cash and cash equivalents all highly liquid investments with a maturity of three months or less at the date of purchase and proceeds due from credit and debit card transactions with settlement terms of less than five days. Of the total cash and cash equivalents of $1,510,939 at September 3, 2006 and $2,062,585 at August 28, 2005, credit and debit card receivables were $593,645 and $521,634, respectively.
In general, short-term investments have a maturity of three months to five years at the date of purchase. Investments with maturities beyond five years may be classified as short-term based on their highly liquid nature and because such marketable securities represent the investment of cash that is available for current operations. Short-term investments classified as available-forsale are recorded at market value using the specific identification method with the unrealized gains and losses reflected in accumulated other comprehensive income until realized. The estimate of fair value is based on publicly available market information or other estimates determined by management. Realized gains and losses from the sale of available-for-sale securities, if any, are determined on a specific identification basis.
Receivables consist primarily of vendor rebates and promotional allowances, receivables from government tax authorities, reinsurance receivables held by the Company’s wholly-owned captive insurance subsidiary and other miscellaneous amounts due to the Company. Amounts are recorded net of an allowance for doubtful accounts of $2,423 at September 3, 2006 and $1,416 a August 28, 2005. Management determines the allowance for doubtful accounts based on historical experience and application of the specific identification method. Cash Flows: 2004 (in thousands) Operating Activities 2,096,265 Investing Activities (1,045,963) Financing Activities 209,569 Net Income in Cash & Equivalents (551,646) Cash & Equivalents at Beginning of Year 1,545,439 Cash & Equivalents at End of Year 2,823,135
2005 1,775,961 (2,051,513) (518,651) (760,550) 2,823,135 2,062,585
2006 1,827,290 (1,153,560) (1,233,227) (1,277,696) 2,062,585 1,510,939
Costco’s Cash Flows show that the company is stable and growing somewhat. They are investing, which means they are repurchasing stock and are paying their dividends. Also, over the years Costco’s Net Income in Cash & Equivalents and Cash & Equivalents have grown which shows the company is growing and prosperous. Costco is also financing more, which means they are able to pay off debt. One downside is that the company did increase investing from 2004 to 2005, but from 2005 to 2006 they decreased investing, which shows they were not growing at a steady rate. Common Stock:
Price – Close High Low
10/12/07 68.00 70.55 51.52
2006 52.87 57.94 46.00
2005 49.47 51.21 39.48
53
2004 48.41 50.46 35.05
2003 37.18 39.02 27.00
Our common stock is traded on the National Market tier of the NASDAQ Stock Market LLC (“NASDAQ”) under the symbol “COST.” On October 31, 2006 we had 8,172 stockholders of record.
Payment of future dividends is subject to declaration by the Board of Directors. Factors considered in determining the size of the dividends are our profitability and expected capital needs. Subject to qualifications stated above, we presently expect to pay dividends on a quarterly basis.
Share repurchases are not displayed separately as treasury stock on the consolidated balance sheets or consolidated statements of stockholders’ equity in accordance with the Washington Business Corporation Act, which requires the retirement of repurchased shares. The par value of repurchased shares is deducted from common stock and the remaining excess repurchase price over par value is deducted from additional paid-in capital and retained earnings. See Note 5 for additional information. Ownership Breakdown:
Shares Outstanding (in millions) Institutional Ownership (%) Number of Shareholders
437,940 82 8,100
Costco is not a closely held company. The majority of the company is held by outside shareholders, as well as having a large percent of the company held by employees. Cost of Goods Sold:
(in thousands)
2004
Cost of goods sold or Cost of sales Total Sales or Total Revenue Common Size (cost of goods sold divided by total sales)
2005
42,092,01 46,346,961 6 48,109,90 52,952,226 7 .875 .875
2006
52,745,497 60,151,227 .877
Costco’s COGS have remained relatively consistent. Cost of Sales have risen from 2004 to 2005 to 2006, but that is due to the increase of sales from new warehouses. Common Size has remained almost exact. Operations:
Costco buys the majority of their merchandise directly from manufacturers and route it to a cross-docking consolidation point (“depot”) or directly to our warehouses. This maximizes freight volume and handling efficiencies, thereby lowering our receiving costs by eliminating 54
many of the costs associated with multiple step distribution channels. Our depots receive container-based shipments from manufacturers and reallocate these goods for combined shipment to our individual warehouses, generally in less than twenty-four hours. Because shoppers are attracted principally by the availability of low prices, our warehouses need not be located on prime commercial real estate sites or have elaborate facilities. By strictly controlling the entrances and exits of our warehouses and using a membership format, we have limited inventory losses to less than two-tenths of one percent of net sales in each of the last three fiscal years—well below those of typical discount retail operations. Gasoline operations generally have extended hours. Because the hours of operation are shorter than those of traditional retailers, discount retailers and supermarkets and due to other operational efficiencies inherent a warehouse-type operation, labor costs are lower relative to the volume of sales. Merchandise is generally stored on racks above the sales floor and displayed on pallets containing large quantities of each item, thereby reducing labor required for handling and stocking. Preopening Expenses Preopening Expenses as a Percent of Net Sales Warehouse Openings Relocations
Fiscal 2004 $30,451 0.07%
Fiscal 2005 $53,230 0.10%
Fiscal 2006 $42,504 0.07%
20 20
21 16
28 25
2006 vs. 2005 Preopening expenses totaled $42.5 million, or 0.07% of net sales, during fiscal 2006 compared to $53.2 million, or 0.10% of net sales, during fiscal 2005. During fiscal 2005, in response to the February 7, 2005 letter of the Securities and Exchange Commission (SEC) concerning accounting standards related to leases, we adjusted our method of accounting for leases (entered into over the previous twenty years), primarily related to ground leases at certain owned warehouse locations that did not require rental payments during the period of construction. We recorded a cumulative pre-tax, non-cash charge of $16.0 million to preopening expense in the second quarter of fiscal 2005. Twenty-eight warehouses (including three relocations) were opened in fiscal 2006 compared to the opening of twenty-one warehouses (including five relocations) in fiscal 2005. Preopening expenses also include costs related to remodels and expanded ancillary operations at existing warehouses.
2005 vs. 2004 Preopening expenses totaled $53.2 million, or 0.10% of net sales, during fiscal 2005 compared to $30.5 million, or 0.07% of net sales, during fiscal 2004. As discussed above, fiscal 2005 included a cumulative pre-tax, non-cash charge of $16.0 million to preopening expense related to an adjustment to the method of accounting for leases. Twenty-one warehouses (including five relocations) were opened in fiscal 2005 compared to the opening of 20 warehouses in fiscal 2004. Preopening expenses also include costs related to remodels and expanded ancillary operations at existing warehouses. “We operate membership warehouses based on the concept that offering our members very low prices on a limited selection of nationally branded and selected private label products in a wide range of merchandise categories will produce high sales volumes and rapid inventory turnover. 55
This rapid inventory turnover, when combined with the operating efficiencies achieved by volume purchasing, efficient distribution and reduced handling of merchandise in no-frills, selfservice warehouse facilities, enables us to operate profitably at significantly lower gross margins than traditional wholesalers, mass merchandisers, supermarkets and supercenters.” “These practices are consistent with our membership policies of satisfying both the business and personal shopping needs of our wholesale members, thereby encouraging high volume shopping. Many consumable products are offered for sale in case, carton or multiple-pack quantities only. Appliances, equipment and tools often feature commercial and professional models. In keeping with our policy of member satisfaction, our policy is to accept returns of merchandise.” Costco New Store Openings 2007-2009:
Delaware County, PA Lackawanna County, PA Kent County, DE New Castle County, DE Milwaukee County, WI Santa Fe County, NM Hillsborough County, NH
2007 (15)
United States (11) Laramie County, WY Cass County, ND Pennington County, SD Oklahoma County, OK Jackson, MO St. Louis County, MO Pulaski County, AR Caddo County, LA Kanawha County, WV Lancaster County, NE Shawnee County, KS
Japan (3) Fukushima, Honshu Asahikawa, Hokkaido Morioka, Honshu
Canada (2) Westlock, Alberta Port McNeill, British Columbia
Canada (7) Fox Creek, Alberta Merritt, British Columbia Wawa, Ontario Amos, Quebec Swift Current, Saskatchewan Gander, Newfoundland Fredericton, Nova Scotia
2008 (24)
2009 (24)
United States (14) Rockingham County, NH Cumberland County, ME Aroostook County, ME Richland County, SC Berkley County, SC Dakota County, MN Knox County, TN
United States (10) Allen County, IN Gloucester County, NJ Atlantic County, NJ Collin County, TX Linn County, IA Shelby County, AL Fayette County, KY
Japan (2) Sapporo, Hokkaido Kochi, Shikoku
56
Marietta County, GA Albany County, NY Douglas County, KS
Canada (8) New Hazelton, British Columbia Yorkton, Saskatchewan Pierceland, Saskatchewan Portage la Prairie, Quebec Dauphin, Quebec New Glasglow, Nova Scotia Victoria, British Columbia Churchill, Manitoba
Japan (6) Nago, Honshu Osaka, Honshu Miyazaki, Kyushu Toshigi, Honshu Oita, Skikoku Kofu, Honshu Information Systems:
1.) Most of our applications are developed in house, using a mixture of RPG III and RPG IV. Costco also utilizes third-party applications, such as Lawson for payroll, Order Power for fulfillment, and Infinium's (Software 200) Fixed Asset system. For candidates with experience in these areas, Costco offers challenging and rewarding opportunities to use and expand their skills.
2.) Individual groups supply and maintain workstations and software installations, and provide around-the-clock on-call support for users of all AS/400 and microsystem applications. Other groups develop and maintain multimedia training and printed user manuals, and provide personto-person training on AS/400 applications. Another group ensures the efficient operation of the AS/400s and other systems in our 24-hour computer room.
For candidates with AS/400 operations, hardware, training, multimedia, technical writing, or other support experience, Costco offers many fast-paced and rewarding opportunities to use and expand their skills.
3.) Network Security designs and supports all Firewall, Internet, extra-net, and VPN access. This group is also responsible for supporting the UNIX environment and Network Management system. o
o
E-Commerce Administration is responsible for over 30 servers and 20 applications on our e-commerce site (Costco.Com), as well as the resources necessary to support our company-wide intranet. BackOffice Administration is responsible for an infrastructure of 90 servers that supports various applications available to our company's 4000 users.
Costco utilizes NT and UNIX, SQL and Oracle databases. We administer and support other thirdparty applications, such as Exchange as our email platform, and anti-virus applications to protect our network. Via distributed servers, Costco exchanges information with our regional and international data centers.
57
Current efforts include preparation for Windows 2000, implementing a software management solution, improving our backups (via SAN or fiber backup solution), automating the collection of performance data, and standardizing the data center design. For candidates with experience in NT system administration, IIS, SQL Database, messaging technology, network security, or network management, Costco offers challenging and rewarding opportunities to use and expand their skills. 4.) This group utilizes Microsoft technology for hardware, software, coding standards, and project management. In some cases, third-party applications are utilized for specific functions, such as tax, shipping, and address verification, and out-of-the-box technology is modified to meet the specific needs of the online warehouse. In development, Costco uses a mixture of ASP, COM, SQL, and VB, programming languages which are handled through the Visual Interdev/Visual Source Safe environment. Development teams work on individual NT server stations ("sandboxes"), and work closely with server administration, hardware support, and testing groups as projects pass through a common development system for testing and movement through the build process. For candidates with programming and ISS software experience in any of these applications, Costco offers challenging and rewarding opportunities to use and expand their skills. Internet Page: o Gives information and financials of Costco, while also functions as an online shopping resource. o Costco’s website: o Costco has an American, European and Canadian website o The language of Costco’s websites depend on the native language of the country Canada is in both French and English because they are both national languages o Websites still require Costco membership o Offers shipping to the United States and Canada o Very busy opening site page o Displays current products and/or products that are on sale Macro Environment:
We also intend to open warehouses in new markets. The risks associated with entering a new market include difficulties in attracting members due to a lack of familiarity with us, our lack of familiarity with local member preferences and seasonal differences in the market. In addition, entry into new markets may bring us into competition with new competitors or with existing competitors with a large, established market presence. While we have a track record of profitabl growth, in new markets we cannot ensure that our new warehouses will be profitably deployed; as a result, our future profitability may be materially adversely affected.
58
Any inability to open new warehouses on schedule could hurt our financial performance. We expect to increase our presence in existing markets and enter new markets. Our opening of new warehouses, domestically and internationally, will depend on our ability to: identify and secure suitable locations; negotiate leases or real estate purchase agreements on acceptable terms; attr and train qualified employees; and manage preopening expenses, including construction costs. We compete with other retailers and businesses for suitable locations for our warehouses. Our ability to open new warehouses also is affected by environmental regulations, local zoning issues and other laws related to land use. Failure to effectively manage these and other similar factors will affect our ability to open warehouses on schedule, which could adversely affect our financial performance.
We are highly dependent on the financial performance of our United States and Canada operations. Our financial performance is highly dependent on our United States and Canada operations, which comprised 94% of consolidated net sales in both fiscal 2006 and 2005. Within the United States, we are highly dependent on our California operations, which comprised 31% and 30% of consolidated net sales in fiscal 2006 and 2005, respectively. Any substantial or sustained decline in these operations could materially adversely affect our business and financial results. Declines in financial performance of our United States and Canada operations could arise from, among other things: o failing to meet annual targets for warehouse openings; o declines in actual or estimated comparable warehouse sales growth rates and expectations; o negative trends in operating expenses, including increased labor costs; o cannibalizing existing locations with new warehouses; o shifts in sales mix toward lower gross margin products; o changes or uncertainties in economic conditions in our markets; o failing consistently to provide high quality products and innovative new products to retain our existing member base and attract new members.
Risks associated with the suppliers from whom our products are sourced could adversely affect our financial performance. The products we sell are sourced from a wide variety of domestic and international suppliers. Effective global sourcing of many of the products we sell is an important factor in our financial performance. Our ability to find qualified suppliers who meet our standards, and to access products in a timely and efficient manner is a significant challenge, especially with respect to suppliers located and goods sourced outside the United States. Politica and economic instability in the countries in which foreign suppliers are located, the financial instability of suppliers, suppliers’ failure to meet our standards, labor problems experienced by our suppliers, the availability of raw materials to suppliers, merchandise quality issues, currency exchange rates, transport availability and cost, inflation, and other factors relating to the suppliers and the countries in which they are located are beyond our control. In addition, the United States’ foreign trade policies, tariffs and other impositions on imported goods, trade sanctions imposed on certain countries, the limitation on the importation of certain types of goods or of goods containing certain materials from other countries and other factors relating to foreign trade are beyond our control. We may also face changes in the cost to us of accepting 59
various payment methods and changes in the rate of utilization of these payment methods by our members.
We may not timely identify or effectively respond to consumer trends, which could adversely affect our relationship with our members, the demand for our products and services, and our market share. It is difficult to consistently and successfully predict the products and services our members will demand. The success of our business depends in part on our ability to identify and respond to evolving trends in demographics and consumer preferences. Failure to timely identify or effectively respond to changing consumer tastes, preferences and spending patterns could adversely affect our relationship with our members, the demand for our products and services and our market share.
Changes in accounting standards and subjective assumptions, estimates and judgments by management related to complex accounting matters could significantly affect our financial results. Generally accepted accounting principles and related accounting pronouncements, implementation guidelines and interpretations with regard to a wide range of matters that are relevant to our business, such as revenue recognition, impairment of long-lived assets and warehouse closing costs, inventories, self insurance, stock-based compensation, income taxes, unclaimed property laws and litigation, are highly complex and involve many subjective assumptions, estimates and judgments by our management. Changes in these rules or their interpretation or changes in underlying assumptions, estimates or judgments by our managemen could significantly change our reported or expected financial performance.
Our international operations subject us to risks associated with the legislative, judicial, accounting, regulatory, political and economic factors specific to the countries or regions in which we operate, which could adversely affect our financial performance. Our international operations could form a larger portion of our net sales in future years. Future operating results internationally could be negatively affected by a variety of factors, many beyond our control. These factors include political conditions, economic conditions, regulatory constraints, currency regulations and exchange rates, and other matters in any of the countries or regions in which we operate, now or in the future. Other factors that may impact international operations include foreign trade, monetary and fiscal policies both of the United States and of other countries, laws and regulations of foreign governments, agencies and similar organizations, and risks associated with having major facilities located in countries which have been historically less stable than the United States.
Implementation of technology initiatives could disrupt our operations in the near term and fail to provide the anticipated benefits. We have made and will continue to make significant technology investments both in our warehouses and in our administrative functions. The cost and potential problems and interruptions associated with the implementation of technology initiatives could disrupt or reduce the efficiency of our operations in the near term. In addition, new or upgraded technology might not provide the anticipated benefits; it might take longer than expected to realize the anticipated benefits or the technology might fail.
Market expectations for our financial performance is high. We believe that the price of our stock reflects high market expectations for our future operating results. Any failure to meet these
60
expectations for our comparable warehouse sales growth rates, earnings per share and new warehouse openings could cause the market price of our stock to drop.
Cost related to natural disasters could adversely affect our financial performance . The occurrence of one or more natural disasters, such as hurricanes or earthquakes particularly in California where over 30% of our net sales are generated) could adversely affect our operations and financial performance. Such events could result in physical damage to one or more of our properties, the temporary closure of one or more warehouses or depots, the temporary lack of an adequate work force in a market, the temporary or long-term disruption in the supply of product from some local and overseas suppliers, the temporary disruption in the transport of goods from overseas, delay in the delivery of goods to our depots or warehouses within a country in which we are operating and the temporary reduction in the availability of products in our warehouses. We are subject to a wide variety of federal, state, regional, local and international laws and regulations relating to the use, storage, discharge, and disposal of hazardous materials and hazardous and non-hazardous wastes, and other environmental matters. While we believe that our operations are currently in material compliance with all environmental laws, any failure to comply with these laws could result in costs to satisfy environmental compliance, remediation requirements, or the imposition of severe penalties or restrictions on operations by government agencies or courts that could adversely affect our operations.
We are involved in a number of legal proceedings, and while we cannot predict the outcomes of such proceedings and other contingencies with certainty, some of these outcomes may adversely affect our operations or increase our costs. We are involved in a number of legal proceedings, including consumer, employment, tort and other litigation. We cannot predict with certainty the outcomes of these legal proceedings and other contingencies, including environmental remediation and other proceedings commenced by government authorities. The outcome of some of these legal proceedings and other contingencies could require us to take, or refrain from taking, actions which could adversely affect our operations or could require us to pay substantial amounts of money. Additionally, defending against these lawsuits and proceedings may involve significant expense and diversion of management’s attention and resources. Our business requires compliance with a great variety of laws and regulations. Failure to achieve compliance could subject us to lawsuits and other proceedings, and lead to damage awards, fines and penalties.
Failure of our internal control over financial reporting could harm our business and financial results. Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting for external purpose in accordance with U.S. generally accepted accounting principles. Internal control over financial reporting includes: maintaining records that in reasonable detail accurately and fairly reflect our transactions; providing reasonable assurance that transactions are recorded as necessary for preparation of the financial statements; providing reasonable assurance that our receipts and expenditures of our assets are made in accordance with management authorization; and providing reasonable assurance that unauthorized acquisition, use or disposition of our assets th could have a material effect on the financial statements would be prevented or detected on a
61
timely basis. Because of its inherent limitations, internal control over financial reporting is not intended to provide absolute assurance that a misstatement of our financial statements would be prevented or detected. Any failure to maintain an effective system of internal control over financial reporting could limit our ability to report our financial results accurately and timely or to detect and prevent fraud. United States Projected Population:
Population or percent and race or Hispanic origin POPULATION .TOTAL
.White alone .Black alone .Asian Alone .All other races 1/ .Hispanic (of any race) .White alone, not Hispanic
2000
2010
2020
2030
2040
2050
282,125
308,936
335,805
363,584
391,946
419,854
228,548 35,818 10,684 7,075
244,995 40,454 14,241 9,246
260,629 45,365 17,988 11,822
275,731 50,442 22,580 14,831
289,690 55,876 27,992 18,388
302,626 61,361 33,430 22,437
35,622
47,756
59,756
73,055
87,585
102,560
195,729
201,112
205,936
209,176
210,331
210,283
PERCENT OF TOTAL POPULATION .TOTAL
100.0
100.0
100.0
100.0
100.0
100.0
.White alone .Black alone .Asian Alone .All other races 1/
81.0 12.7 3.8 2.5
79.3 13.1 4.6 3.0
77.6 13.5 5.4 3.5
75.8 13.9 6.2 4.1
73.9 14.3 7.1 4.7
72.1 14.6 8.0 5.3
62
.Hispanic (of any race)
12.6
15.5
17.8
20.1
22.3
24.4
.White alone, not Hispanic
69.4
65.1
61.3
57.5
53.7
50.1
Japan’s Projected Population:
Canada’s Projected Population: 2006
Low growth Medium growth High growth thousands All ages1
0 to 4
32,531.3
32,547.2
32,559.9
1,686.9
1,697.5
1,705.0
63
5 to 9
1,842.5
1,842.6
1,842.6
10 to 14
2,084.6
2,084.6
2,084.6
15 to 19
2,164.8
2,164.8
2,164.9
20 to 24
2,252.9
2,252.9
2,253.0
25 to 29
2,226.0
2,226.1
2,226.1
30 to 34
2,222.5
2,222.6
2,222.6
35 to 39
2,351.0
2,351.1
2,351.1
40 to 44
2,698.2
2,698.3
2,698.4
45 to 49
2,671.3
2,671.5
2,671.7
50 to 54
2,363.6
2,363.9
2,364.2
55 to 59
2,082.1
2,082.5
2,082.9
60 to 64
1,582.9
1,583.3
1,583.7
65 to 69
1,226.8
1,227.3
1,227.7
70 to 74
1,043.6
1,044.2
1,044.8
75 to 79
877.3
878.0
878.7
80 to 84
637.5
638.3
639.0
85 to 89
342.3
342.8
343.4
90 to 94
137.0
137.3
137.5
95 to 99
33.0
33.1
33.2
4.7
4.7
4.7
100 and over
2026
2031
Low growth Medium growth High growth Low growth Medium growth High growth thousands All ages1
thousands
35,786.7
37,882.7
39,931.3
36,261.2
39,029.4
41,810.8
0 to 4
1,530.7
1,812.8
2,094.9
1,486.4
1,781.3
2,101.3
5 to 9
1,606.8
1,910.9
2,197.0
1,602.3
1,910.9
2,222.3
10 to 14
1,688.8
1,956.8
2,193.9
1,670.5
1,999.4
2,313.3
15 to 19
1,808.3
1,990.3
2,146.6
1,767.2
2,058.4
2,321.4
20 to 24
2,010.4
2,096.8
2,183.4
1,931.8
2,138.2
2,321.5
64
25 to 29
2,153.9
2,241.4
2,333.0
2,073.1
2,198.8
2,328.8
30 to 34
2,425.1
2,542.1
2,665.1
2,255.9
2,402.7
2,559.4
35 to 39
2,502.3
2,639.6
2,783.3
2,503.3
2,671.1
2,850.1
40 to 44
2,511.0
2,649.3
2,793.3
2,544.7
2,717.1
2,899.4
45 to 49
2,445.9
2,561.7
2,681.3
2,522.4
2,683.3
2,852.1
50 to 54
2,336.1
2,417.8
2,501.5
2,433.3
2,563.0
2,697.8
55 to 59
2,348.1
2,404.5
2,461.7
2,309.0
2,401.4
2,496.4
60 to 64
2,567.7
2,612.4
2,657.1
2,300.3
2,367.8
2,436.5
65 to 69
2,425.6
2,466.6
2,507.2
2,469.8
2,527.6
2,585.7
70 to 74
2,004.2
2,044.1
2,083.3
2,263.6
2,318.2
2,372.4
75 to 79
1,572.0
1,610.8
1,648.8
1,785.2
1,837.3
1,888.7
80 to 84
984.3
1,016.1
1,047.5
1,283.7
1,332.1
1,379.8
85 to 89
537.2
560.3
583.4
685.0
719.8
754.8
90 to 94
243.3
257.2
271.3
280.3
299.2
318.7
95 to 99
73.6
79.0
84.5
80.4
87.4
94.8
100 and over
11.2
12.1
13.1
13.0
14.4
15.8
Ethnicity
Combined As single responses response
One of multiple responses per respondent
"Canadian" 11,682,680 6,748,135
4,934,545
English 5,978,875 1,479,525
4,499,355
French 4,668,410 1,060,760
3,607,655
Scottish 4,157,210
607,235
3,549,975
Irish 3,822,660
496,865
3,325,795
German 2,742,765
705,600
2,037,170
Italian 1,270,370
726,275
544,090
Chinese 1,094,700
936,210
158,490
Ukrainian 1,071,060
326,195
744,860
First Nations 1,000,890
455,805
545,085
Dutch (Netherlands)923,310
316,220
607,090
Polish
817,085
260,415
556,665
East Indian 713,330
581,665
131,665
65
Norwegian 363,760 Portuguese 357,690 Welsh
350,365
Jewish
348,605
Russian
337,960
Filipino
327,550
Métis
307,845
Swedish
282,760
2 1 2
Hungarian (Magyar) 267,255 American (USA) 250,005 Greek
215,105
Spanish
213,105
Jamaican
211,720
Danish
170,780
Vietnamese 151,410
1 1 1
Industry Audit:
By offering a convenient, low cost shopping environment to consumers, warehouse clubs provide a value to consumers that is not replicated in other channels. As such, across the three main competitors, consumer satisfaction and member retention are high. Mintel’s exclusive consumer research indicate that 80% of warehouse club respondent shoppers agree that clubs provide an enjoyable shopping experience, while 60% of warehouse club respondent shoppers agree that these retailers provide the most time efficient way to shop.
Furthermore, by rapidly turning inventory, expanding selections, and stocking new items quickly, warehouse clubs are among the most responsive merchandising channels, which attracts consumers because there is always something new. This ability will remain one of the key features to differentiate warehouse clubs from other retail channels. The online retail channel is one of the most rapidly expanding markets. The following figure details retail ecommerce sale sin the U.S. from 1999 through 2004. Because of the vast differences in the number of SKUs carried, warehouse clubs typically limit selection to items that are brand name leaders within their respective category or to staple products in which private label brands can compete.
Consumers have different expectations when shopping at warehouse clubs, thereby creating a unique experience which separates these retailers from competitors in other channels. Warehous clubs appeal to consumers’ sense of value and the convenience of stocking up on certain items. A 66
typical supermarket will stock 30,000-52,000 SKUs. Supercenters normally stock up to 125,000 SKUs. Warehouse clubs by contrast typically carry 4,000 SKUs. Even though they carry fewer SKUs, the large number of product categories covered means that warehouse clubs face a wide array of competitors ranging from drug stores to florists.
Tracking of same store sales shows that growth in the market is varied from month to month and does not display a consistent trend. In December 2004, sales increased a combined 7.3%, however, earlier growth in April 2004 was much higher. In that month, Costco, BJ’s Wholesale and Sam’s Club posted 16%, 12.1% and 11.8% gains respectively. Overall, membership revenues—which are excluded in market size data—represent only a small share of total revenue, approximately 2-3% on average. Over the review period, Costco’s membership fees as a share of net sales were 1.9-2.0%. Similarly, SAM’S CLUB’s ranged from 2.5-2.7%. This indicates that membership revenues are driven, in large part, by new store openings and by same store sales increases, to lesser degree. In terms of warehouse club locations, the market has grown 32% over the review period. Overall, 41 new warehouse clubs were added in the U.S. in 2004, following growth by 50 stores in 2003. Note that warehouse club locations is computed as the net value of store opening minus store closings over the year. However, store closings in the U.S. are relatively infrequent with only a few closings among the three industry leaders in recent years. Despite the companies’ similarities, there is a great deal of differentiation among the top three warehouse clubs, both in terms of performance and strategic execution. This differentiation exists in multiple areas, including SKU assortment, customer segments targeted, distribution capabilities and manufacturers partnered with. Top 10 Mass Market Retailers (North America) (Annual Sales):
1. Wal-Mart
6. CVS/Caremark
2. Kroger
7. Albertsons
3. Costco Wholesale 4. Target
8. Safeway 9. Ahold USA 10. Loblaw
5. Walgreen
Top 10 Worldwide Food Retailers (Annual Sales):
1. Wal-Mart
6. Royal Ahold
2. Carrefour 3. Tesco
7. Costco Wholesale 8. REWE-Zentral
4. METRO AG 5. Kroger
9. Lidl 10. ALDI
Top 5 US Warehouse Clubs (Annual Sales):
67
1. Costco Wholesale 2. Sam’s Club 3. BJ's Wholesale Club 4. Smart & Final 5. PriceSmart
Financial Performance: Return on Revenues (%) Yr. Ticker
Company
End
2 008
2 007
2 006
2 005
2 004
2 003
2 002
HYPERMARKETS & SUPER CENTERS‡
BJ
†
COST
* *
WMT
BJ'S WHOLESALE CLUB INC
1.0
1.1
1.1
1.6
1.6
1.6
2.5
COSTCO WHOLESALE CORP
JAN AU G
1.8
1.9
1.8
2.0
1.8
1.7
1.8
WAL-MART STORES INC
JAN
3.5
3.6
3.5
3.6
3.6
3.4
3.3
Return on Assets (%) Yr. Ticker
2 008
2 007
2 006
2 005
2 004
2 003
2 002
4.6
4.6
4.7
6.6
6.5
6.5
10.0
COSTCO WHOLESALE CORP
JAN AU G
6.6
6.5
6.5
6.7
6.2
5.8
6.4
WAL-MART STORES INC
JAN
8.6
8.5
8.4
8.7
9.1
8.9
9.0
Company
End
HYPERMARKETS & SUPER CENTERS‡
BJ
†
COST
* *
WMT
BJ'S WHOLESALE CLUB INC
Return on Equity (%) Yr. Ticker
Company
End
2 008
2 007
2 006
2 005
2 004
2 003
2 002
HYPERMARKETS & SUPER CENTERS‡
BJ
†
COST
* *
WMT
BJ'S WHOLESALE CLUB INC
8.8
8.9
9.1
13.2
13.0
13.2
20.4
COSTCO WHOLESALE CORP
JAN AU G
12.5
12.4
12.2
12.9
12.4
11.8
13.2
WAL-MART STORES INC
JAN
21.4
21.3
21.2
21.9
22.1
21.4
21.6
Current Ratio
Ticker
Company
Yr. End
2
68
2
2
2
2
2
2002
BJ'S WHOLESALE CLUB INC
#
COSTCO WHOLESALE CORP WAL-MART STORES INC
#
008
007
006
005
004
003
JAN
1.2
1.1
1.2
1.3
1.3
1.2
1.2
AUG
1.2
1.1
1.1
1.2
1.2
1.1
1.0
JAN
1.0
0.9
0.9
0.9
0.9
0.9
0.9
Debt / Capital Ratio (%) Yr. Ticker
Company
End
2 008
2 007
2 006
2 005
2 004
2 003
2 002
#
JAN
0.2
0.2
0.2
0.3
0.3
0.4
0.0
AUG
2.0
2.1
2.2
7.2
11.2
15.8
16.9
JAN
32.7
32.6
32.5
35.6
31.8
30.8
32.5
HYPERMARKETS & SUPER CENTERS‡
BJ
BJ'S WHOLESALE CLUB INC
COST
COSTCO WHOLESALE CORP
WMT
WAL-MART STORES INC
#
Debt as a % of Net Working Capital Yr. Ticker
Company
End
2 008
2 007
2 006
2 005
2 004
2 003
2 002
#
JAN
1.0
1.1
1.1
1.1
1.5
2.5
0.0
AUG
61.7
55.3
52.2
48.1
90.5
184.1
669.6
JAN
NM
NM
NM
NM
NM
NM
NM
HYPERMARKETS & SUPER CENTERS‡
BJ
BJ'S WHOLESALE CLUB INC
COST
COSTCO WHOLESALE CORP
WMT
WAL-MART STORES INC
#
Net Income Yr. Ticker
2008
Company
End
#
JAN
2007
2006
2005
2004
2003
2002
116.6
104.8
145.8
882.4 10,267. 0
721.0 8,861. 0
700.0
HYPERMARKETS & SUPER CENTERS‡
BJ
BJ'S WHOLESALE CLUB INC
COST
COSTCO WHOLESALE CORP
WMT
WAL-MART STORES INC
AUG #
JAN
87.6 1,697.2 15,653. 3
89.4 1,438.3 13,743. 4
92.9 1,103.2 12,178. 0
128.8 1,063.1 11,231.0
8,039.0
Porter’s Model:
Threat of Entry o Absolute Cost Advantage o Economies of Scale – High The three players in the industry have extremely large stores. A unique experience, high sales with lower SKUs than traditional Supermarkets. Rapid inventory turnover. 69
Low labor costs.
Consumers have different expectations when shopping at warehouse clubs, thereby creating a unique experience which separates these retailers from competitors in other channels. Warehous clubs appeal to consumers’ sense of value and the convenience of stocking up on certain items. A typical supermarket will stock 30,000-52,000 SKUs. Supercenters normally stock up to 125,000 SKUs. Warehouse clubs by contrast typically carry 4,000 SKUs. Brand Identity – High o Membership increases each year o Wide array of products offered
Even though they carry fewer SKUs, the large number of product categories covered means that warehouse clubs face a wide array of competitors ranging from drug stores to florists. o o o
Access to Distribution Switching Costs Government Policy
Degree of Rivalry o Number of competitors – Low There are three main players in this industry: Costco, Sam’s Club and BJ’s o
Industry Growth - Moderate Industry growth of 7.3% is below Market Median of 11.35 Same store growth does not show consistency Location growth has risen to 32% Store closings is rare
Tracking of same store sales shows that growth in the market is varied from month to month and does not display a consistent trend. In December 2004, sales increased a combined 7.3%, however, earlier growth in April 2004 was much higher. In that month, Costco, BJ’s Wholesale and Sam’s Club posted 16%, 12.1% and 11.8% gains respectively. Overall, membership revenues—which are excluded in market size data—represent only a small share of total revenue, approximately 2-3% on average. Over the review period, Costco’s membership fees as a share of net sales were 1.9-2.0%. Similarly, SAM’S CLUB’s ranged from 2.5-2.7%. This indicates that membership revenues are driven, in large part, by new store openings and by same store sales increases, to lesser degree. In terms of warehouse club locations, the market has grown 32% over the review period. Overall, 41 new warehouse clubs were added in the U.S. in 2004, following growth by 50 stores in 2003. Note that warehouse club locations is computed as the net value of store opening minus store closings over the year. However, store closings in the U.S. are relatively infrequent with only a few closings among the three industry leaders in recent years.
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Asset Intensity - High o
Industry ROA of 4.7% exceeds the Market Median of 1.5%
Product Differentiation - High o Warehouse Clubs offer high value to customers in unique bulk sizes. o High appeal for small businesses. o Differentiation exists between the three players Despite the companies’ similarities, there is a great deal of differentiation among the top three warehouse clubs, both in terms of performance and strategic execution. This differentiation exists in multiple areas, including SKU assortment, customer segments targeted, distribution capabilities and manufacturers partnered with. Exit Barriers – Low o The retail industry can easily apply inventory to other locations or liquidate. Threat of Substitution o Functional Similarity – Low o Warehouse clubs are hard to replicate because of the low cost shopping experience for customers coupled with high value. o 60% of warehouse club customers agree that channel is the most time efficient. o New products are common – exciting for customers o Increased use of ecommerce By offering a convenient, low cost shopping environment to consumers, warehouse clubs provide a value to consumers that is not replicated in other channels. As such, across the three main competitors, consumer satisfaction and member retention are high. Mintel’s exclusive consumer research indicate that 80% of warehouse club respondent shoppers agree that clubs provide an enjoyable shopping experience, while 60% of warehouse club respondent shoppers agree that these retailers provide the most time efficient way to shop.
Furthermore, by rapidly turning inventory, expanding selections, and stocking new items quickly, warehouse clubs are among the most responsive merchandising channels, which attracts consumers because there is always something new. This ability will remain one of the key features to differentiate warehouse clubs from other retail channels. The online retail channel is one of the most rapidly expanding markets. The following figure details retail ecommerce sale sin the U.S. from 1999 through 2004. Price/Performance Trend - Product Identity – High o 65% of BJ’s sales came from their private label in 2004. o Private label brand items are heavily featured because of the undulating SKUs carried
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Because of the vast differences in the number of SKUs carried, warehouse clubs typically limit selection to items that are brand name leaders within their respective category or to staple products in which private label brands can compete. Bargaining Power of Suppliers o Supplier Concentration – High o # of Buyers – High o Switching Costs – Mod. o Substitute Raw Materials – High o Threat of Forward Integration – Low Bargaining Power of Buyers o Buyer Concentration – High o #of Buyers – High o Switching Costs – Low o Substitute Products – Low o Threat of Backward o Integration – Mod. Competitor Analysis:
Competitor: BJ’s o As of 2007 Annual Report: 172 stores in US in 16 states o
New England in 1984
o
Ticker: BJ
o
287th on Fortune 500 largest public corps.
o
o
o
o
Smaller package sizes can be found in fresh food categories, including dairy, meat, bakery, fish and produce. Limit the items offered in each product line to fast selling styles, sizes and colors, carrying an average of approximately 7,500 active stockkeeping units (SKU’s). By contrast, supermarkets normally stock from 30,000 to 52,000 SKU’s, and supercenters typically stock up to 125,000 SKU’s. Food accounted for approximately 60% of BJ’s total food and general merchandise sales in 2006. The remaining 40% consisted of a wide variety of general merchandise items. Paid membership is an essential part of the warehouse club concept. In addition to providing a source of revenue which permits us to offer low prices, membership reinforces customer loyalty. They have two types of members: Inner Circle members
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Most of our Inner Circle members are likely to be home owners whose incomes are above the average for the Company’s trading areas. • Generally charge $45 per year for a primary Inner Circle membership that includes one free supplemental membership. Business members • A significant percentage of business members also shops BJ’s for their personal needs. • A business membership also costs $45 per year and includes one free supplemental membership. • Additional supplemental business memberships cost $20 each. Have approximately 8.7 million BJ’s members (including supplemental cardholders) at February 3, 2007. Members in the same household may purchase additional supplemental memberships for $20 each. BJ’s Rewards Membership program, which is geared to high frequency, high volume members, offers a 2% rebate, capped at $500 per year, on generally all inclub purchases. The annual fee for a BJ’s Rewards Membership is $80. At the end of 2006, Rewards Members accounted for approximately 5% of their primary members and approximately 13% of our food and general merchandise sales during the year. As of January 28, 2006, approximately 21,200 full-time and part-time employees (“team members”). None of their team members is represented by a union. •
o
o
o
o
o
o
BJ’s Financials:
Quick Ratio Inventory Turnover Receivable Turnover Gross Profit Margin (in %) Operating Profit Margin (in %)
INCOME STATEMENT
0.26206 9.239 83.043 8.17 1.6
1.1885 9.708 65.286 10.3 1.7
0.355 9.774 62.994 10.4 0.9
2006
2007
2008
Actual
Projected
Projected
2009 Projecte d
Change %
Change %
Change %
Change %
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REVENUE
Net Sales Membership Fees Total Revenue Merchandise Costs Gross Profit
OPERATING EXPENSES
Selling Expenses Depreciation Website expense Preopening Expenses Impared Assets and Closing Costs Total Operating Expenses Operating Income
OTHER INCOME (EXPENSE)
Interest Expense Interest Income and Other IBIT Provisions For Income Taxes
NET INCOME
13.66% 10.71% 13.60% 13.81% 12.12%
13.28% 13.00% 13.27% 12.07% 21.89%
17% 14% 16% 17% 16%
18.97% 15.00% 18.89% 18.97% 18.39%
13.92% 6.94%
11.04% 11.04%
-20.15%
-46.43%
14% 17% -95% 60%
16.67% 18.97% 0.00% 0.00%
-66.74% 13.69% 10.26%
-8.01% -89.08% 62.01%
-100% 15% 20%
16.80% 22.06%
-63.50% 26.82% 13.07% 33.41%
11.04% 11.04% 58.35% 58.35%
17% 17% 20% 20%
18.97% 18.97% 21.91% 21.91%
3.77%
58.36%
20%
21.91%
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Works Cited
Barbaro, Michael. "Next Venture From Stewart: Costco Food." The New York Times. 4 May 2007. 11 Sept. 2007. . "BJ's Investor Relations." BJ's Wholesale Club. 2007.. "Code of Ethics." Costco.com. 2004. Costco. 11 Sep 2007 . "Company Profile." Costco.com. 2004. Costco. 11 Sep 2007 . Costco Wholesale Corporation (2006). “Form 10-K” Edgar Search. Online database. Mergent Online. 9 Sept. 2007. < http://www.mergentonline.com/compsearch.asp?type=edgar>. DiCarlo, Lisa. "Costco Rings Up Results." Forbes 07 Dec 2004 11 Sept. 2007 .
Greenhouse, Steven. "How Costco Became the Anti-Wal-Mart." The New York Times 17 Jul 2005 11 Sept. 2007 . Hazel, Debra. "Costco Taking Anchor Spots." International Council of Shopping Centers. Jul. 2003. 13 Sept. 2007. . "Historical Highlights." Costco.com. 2004. Costco. 11 Sept. 2007. . Hoover's. (2007). Costco Wholesale Corporation. 11 Sept. 2007. .
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