How Costco avoids failure? Focus on what sucks

Retail today is dominated by online shopping and Amazon, leaving most retailers struggling to survive. Yet, Costco is thriving despite having the smallest e-commerce channel. How? By focusing on what sucks, then working hard to avoid it.

Sections

1. What makes a business suck?
2. How Costco avoids failure
3. Johnny Carson on how to guarantee a life of misery

1. What makes a business suck?

Imagine you inherit a grocery store. Your spouse warns you not to take the job. She lists the things that will make your lives miserable, including:

• Unreliable staff;
• Store theft;
• Unsold inventory; and
• Copycat competitors.

You ignore her and tell her about the amazing growth opportunities from e-commerce, new store expansion, fit outs and expanding into new product lines.

Fast forward and the bad things she warned you about become worse:

• Staff turnover grows and customer satisfaction drops.
• Bad customers steal from you, take advantage of returns policies and force you to hike prices for everyone.
• Unsold stock piles up, forcing you to discount and lose money.
• Copycat competitors open next door and sell items cheaper with better service.

Your business and life sucks.

2. How Costco avoids failure

Costco takes a unique and oftentimes counterintuitive approach to their business strategy. Focus on what sucks, then work hard to avoid it.

1. How to avoid unreliable staff?

Pay staff more and treat them well

Costco spends 37% more on their employees than Walmart, offers better healthcare and promotes from within. By hiring good people, giving them good jobs and paying them good wages, Costco achieves 3x more revenue per employee than Walmart and a 90% employee retention rate.

If you hire good people, give them good jobs, and pay them good wages, generally something good is going to happen.

Jim Sinegal, Costco Co-Founder

2. How to avoid store theft?

Choose better customers

Costco charges a $US60 annual membership fee. They deliberately choose to have fewer but higher quality shoppers visit their stores. Not surprisingly, Costco shoppers spend more, steal less and treat staff better. Costco’s inventory shrink (loss from theft, damage and fraud) is estimated to be around 0.1% of annual sales compared to a 13x higher industry average of 1.6%.

3. How to avoid unsold inventory?

Stock fewer categories

Costco stocks fewer product categories, but offers bigger discounts. Costco limits markups of its goods to 15% above cost, attracting volume and further negotiating power with suppliers to further lower costs and pass on savings to customers. The average revenue per Costco store is 3.7x higher than Walmart in the US, with annual sales of $US299m vs $US79m per store.

4. How to avoid competitor copycats?

Pay more for better locations

Thanks to advice from Charlie Munger, Costco began paying more to acquire land and store locations to avoid copycat competitors setting up next door.

We used to buy the cheapest land possible…That was fine until you have a competitor in the same market. Location does matter. Charlie said ‘Why don’t you pay twice as much and get a better site.’ From a long-term ROIC perspective, it has worked very well.

Richard Galanti, Costco former CFO

3. Johnny Carson on how to guarantee a life of misery

Johnny Carson, legendary host of the Tonight Show in a Harvard graduation speech as recalled by Charlie Munger said:

Carson couldn’t tell the graduating class how to be happy, but he could tell them from personal experience how to guarantee misery.

These included:

• Ingesting chemicals in an effort to alter mood or perception;
• Envy; and
• Resentment.

Charlie noted:

I can still recall Carson’s absolute conviction as he told how he had tried these things on occasion after occasion and had become miserable every time.

So how do you avoid failure?

Focus on what sucks, then work hard to avoid it.