Costco built on more than discounts

Costco’s first Spokane store had a dynamite location.

So much dynamite, in fact, that company officials finally decided that blasting into the basalt at 800 E. Third was costing more than the then-young company could afford. They poured a cement floor with two levels connected by a sloping ramp that could be a challenge for shoppers with loaded carts.

On opening day, Dec. 1, 1983, the building was cold and the registers were not working properly. Plus, notes Costco co-founder Jim Sinegal, “It had a cockamamie parking lot.”

No matter. The store, Costco’s third, prospered beyond all expectations. The tiny chain achieved in one year far more than its founders had envisioned.

The plan, Sinegal says, was a group of 12 stores eventually doing about $80 million in revenues annually. The first few locations blew that number away in just the first year by ringing up $100 million in sales. Not 12 stores, but 452, circle the world today, with revenues for 2005 projected at more than $50 billion.

The average store today does $115 million in business. The Coeur d’Alene store that opened April 22, 2004, did $100 million in sales its first year. Although some of those sales initially came at the expense of Costco’s two Spokane stores, sales growth at the North Division and East Sprague warehouses is again tracking that for all Costco stores.

All this without benefit of advertising — a sore point with newspapers — and despite employee compensation so generous institutional shareholders get heartburn. One percent of pre-tax revenues are plowed back into the community. Store openings have become an event. Sinegal says a long-winded mayor in Taiwan was booed when his rambling remarks at a dedication delayed the opening.

Sinegal, now the chief executive officer of Costco Wholesale Corp., remains down-to-earth. He is a favorite with reporters surprised when he answers his own telephone with a brusque “Sinegal.” He is likely to appear at speaking engagements, like one earlier this week with business editors and writers, in just a dress shirt plucked from Costco’s narrow selection.

He takes home a relatively modest compensation package for a CEO. Base pay is $350,000, with the potential to earn up to $200,000 in bonuses and stock options. He shies away from criticizing executives grabbing upwards of $20 million in pay — “That’s kind of a loaded question,” he says — noting instead the wealth represented by stock and stock options worth almost $200 million that he has accumulated over his 22 years with the company.

All Costco employees enjoy rare job security. If employed for more than two years, they can be fired only with the consent of a senior officer of the company. Although some shareholders carp about high wages and benefits, the reward is “shrinkage” — customer and employee theft — that’s a small fraction of the industry average.

When an early venture into the Midwest failed in the mid-1980s, Costco refunded all membership fees and offered employees the opportunity to relocate. Three-quarters of them did, and many remain with the company.

Costco is back in the Midwest, and the earlier withdrawal represents one of management’s few mistakes. Sinegal says the company has succeeded by taking care of customers and employees, obeying the law, and respecting suppliers. News reports and survey results Sinegal is happy to share indicate some Costco competitors cannot say as much.

The company’s merchandising strategy is simple, and clever. Every store is stocked with 4,000 items, a fraction of the variety carried by other chains.

Sinegal says 3,000 are everyday items customers expect to find every time they come into the store. The other 1,000 are items Costco deliberately allows to sell out. Knowing some goods may not be in the store from week to week creates a sense of urgency that, if not bought that day, they will not be available again.

“When we’re doing our job well, we’re doing a good job in those 1,000 items,” Sinegal says. “That’s the art form of the business.”

And substance.

Costco achieved some notoriety by selling an original Picasso sketch for $39,999. Its Issaquah store sold a $235,000 diamond. In fact, Costco sold 67,000 carats in diamonds last year, putting it among the nation’s largest sellers of the precious stones.

Expensive wine has also become a specialty. Costco’s $674 million in wine sales make it the No. 1 wine merchant in the U.S., if not the world. The next frontier is cosmetics, which will go on the shelves in some stores next month.

Luxury items sell well, Sinegal says, because Costco customers are significantly wealthier than most of the population. Average income exceeds $74,000, and almost one-third earn more than $100,000. Almost 90 percent own their homes. Many are small-business owners.

But it’s not all about luxury items. Around Thanksgiving, pallets of $5.99 pumpkin pies sell out before they reach the floor.

Sinegal says, “If we’re doing our job right, we’re irresistible.”