Costco Membership Fees Will Bring Gains
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Costco (NASDAQ: COST) offers low prices on bulk purchases to its members, but each member must pay an annual membership fee, which Costco has increased for 2012. Each member must pay an additional $5 or $10 to shop at Costco, raising the total annual fee to either $55 or $110. Because members renew their memberships throughout the year, many Costco shoppers do not have to renew their memberships yet. If the company convinces its club members to keep shopping at Costco, it has the potential to improve its profits even further this year.
The financial results that Costco reported for the second quarter of 2012 show that the company remains very popular with its members. In the second quarter of 2011, Costco sold products worth $20.4 billion, and its revenue improved to $22.5 billion this quarter. This strong revenue growth shows that Costco did not have any problem at all attracting shoppers, even with its higher membership fees, as its customers continue to feel that the company's bargain prices are worth the trade off.
Although individual shoppers can purchase food, appliances, and other Costco items for themselves, the company also serves as a wholesaler for many small businesses. Wholesale operations give the store additional power to raise its membership fees, as a restaurant that spends several thousand dollars a month to purchase food at Costco may save much more than $110 by not shopping at costlier wholesale stores.
The decision to focus on revenue from membership fees does involve a tradeoff for Costco. A shopper will only be willing to pay the higher fee if Costco sells food and other products at lower prices than other wholesale stores, which places pressure on Costco's margins. Nevertheless, this strategy paid off for Costco, as even though its margins fell slightly, its higher sales and membership fees more than made up for the lower margins. The company announced earnings of 90 cents per share in 2Q 2012, a strong improvement over the 79 cents per share it reported in 2Q 2011. Costco only started charging shoppers who renewed their memberships the higher fee in January, even though Costco's second quarter starts in late November, so it may see an even stronger income boost from higher membership fees in 3Q 2012.
Target (NYSE: TGT) does not charge its shoppers membership fees, and like Costco, it competes with food, appliance, and household product retailers primarily on price. Target also decided to reduce its prices to sell more products to cost conscious customers, weakening its margins, but it did not earn membership fees to make up the difference. Although Target announced higher revenue for the quarter, like Costco, its income for the quarter was 5.2 percent lower than it reported last year.
Walmart (NYSE: WMT) collects membership fees from its Sam's Club wholesale stores, but its regular stores, which do not require shoppers to pay membership fees, provide most of its sales. Like Costco, Sam's Club attracted customers who were willing to pay membership fees to buy products at wholesale prices, but the company's membership fees could not make up for lower margins at its regular stores. Walmart reported even weaker performance for the quarter than Target, as it announced that its income was almost 15 percent lower than last year.
Costco, Walmart, and Target all slashed their prices to attract bargain shoppers, but only Costco improved its earnings anyway by collecting higher membership fees. Costco should continue its strong performance throughout the year, while lower margins continue to pose a challenge for Target and Walmart.
Motley Fool newsletter services recommend Costco Wholesale and Wal-Mart Stores. The Motley Fool owns shares of Costco Wholesale and Wal-Mart Stores. enovinson has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
