A Little Color on Costco

During earnings calls, analysts often ask executives for "a little color" on certain items. Thursday's Seeking Alpha transcript with Richard Galanti, CFO of Costco, had plenty of color: Where the margin is, why Costco prices aren't rising as fast as those of other stores, and why Costco stores now show up on mall sites after years of the cold shoulder from developers.

The Kirkland, Wash., membership warehouse saw sales rise 13 percent to $16.3 billion in the third quarter ended May 11. Comps (same-store sales) rose 8 percent, on the strength of mid- to high-single-digit sales growth in packaged and fresh food, paper goods, health and beauty aids, and a few surprising categories, such as apparel, which rose 10 percent.

It's good to be Costco, and here's why:

I Can Haz Margin
According to Galanti, 60 percent of Costco's 4,000 items are "the commodity critical competitive items like paper goods and milk and cheese and detergent and soda pop and Snickers bars that we and Sam's and others are fiercely competitive on. And you are not going to win or lose the game because we are both making very competitive low margins on that stuff."

So the other 40 percent is where the game is played. It includes fresh food -- bakery, meat, produce, and prepared items -- which accounts for 13 percent of sales and, Galanti says, huge markups. It also includes all the higher-ticket impulse items, from electronics to cashmere sweaters. "When we bring in swing sets and patio furniture and doormats, or at Christmas time when we bring in a different SKU or pack size of wrapping paper or ribbons or snow globes with the music box, or gift packs, all these things are unique and what we've done is to say hey, we deserve to make more money as a company," Galanti said.

All Your Merchandise Are Belong To Us
More Galanti:

You all go into the warehouses and you will very well see many branded items you've never seen before in apparel, in tools, and many of these items are great for us, and because they are high quality, high-end brand items that typically you only see at the high-end department stores and specialty stores, and in many instances because of the weakness of what I'll call the mall business right now, there's goods out there and they've got to get rid of them. And we are the highest end discount operation out there and we'll take it all.

And there are many items out on the floor right now that if they retail for a buck and wholesale for $0.50, we are going to sell them for $0.55 or $0.56 or $0.57 and save you $0.45....

The retail apparel industry (is) probably down 5 percent to 20 percent at different stores. At Costco, it's up a few to 10 percent. And that's because of availability of those items.

I know that we are in a few shopping centers now, (whereas previously) we were never invited in shopping centers -- recognizing when I say in shopping centers, typically it's on the parking lot premise adjacent to or barely connected physically to a mall. And guess what? They like it. We bring on average 3,200 front-end transactions to our warehouse, which means on average probably close to 5,000 upscale members to that parking lot. And we may sell a diamond ring or a strand of pearls, but from what we're told by the shopping center developers, the Neiman Marcuses and the jewelry stores and the apparel stores like the traffic.

We are going to hold prices as long as we can, and as long as we can means if we bought in, we are going to keep it longer than everybody else at the lower price and not make anything ... whereas some retailers will choose to bring up the price quicker. And also we are going to be subject to what our competitors do. Even if we feel we need to raise the price on a very competitive item, we're not going to be the first one to do it.

And I think it was the purchasing power of us collectively that was able to A, hold off on some of those increases and B, when they came through, they probably were less than the manufacturers originally wanted to. Ultimately, they said next Thursday, this is the new price. We did our job of holding them off as long as possible.

I think in today's environment, we see more manufacturers just bringing you increases. Now, we have a little bit of an advantage in the sense that we don't have to sell all four brands and all six sizes of something, so if anything, we can push a little harder, knowing that we are prepared to sell Brand A instead of Brand B, because they are both high quality, national brands.