Strategy Costco offers some of the best deals in the retail industry — here are 7 ways the store keeps prices dirt cheap (COST)

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Costco memberships include access to low prices because of the store's strategies like cutting advertising, limiting stock, and building up its Kirkland brand.

Costco has gained a loyal following by offering some of the lowest prices in retail. play

Costco has gained a loyal following by offering some of the lowest prices in retail.

(Paul Sakuma/AP Images)
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  • Costco's membership deals are a crucial part of why its prices are so low — but that's not the only reason why Costco is so cheap.
  • The retailer's business model depends on its ability to offer dirt-cheap prices on everything from golf balls to toilet paper.
  • Costco uses strategies including cutting advertising, limiting stock, and building up its private Kirkland brand to keep prices uber-low.

Costco has gained an army of followers by keeping costs as low as possible.

Hot dogs cost just $1.50 at the in-store café. Rotisserie chickens have cost $4.99 since 2009. Wine costs 20% less than most wine stores, meaning customers save $5 to $12 on every bottle.

Costco has built a business model that depends on offering customers the lowest prices possible. The retailer doesn't need to advertise — news of its fantastic deals spreads simply through word of mouth.

"When I started, Sears, Roebuck was the Costco of the country, but they allowed someone else to come in under them," Costco's co-founder Jim Sinegal told The New York Times in 2005. "We don't want to be one of the casualties. We don't want to turn around and say, 'We got so fancy we've raised our prices,' and all of a sudden a new competitor comes in and beats our prices."

While offering the best deals possible is good business for Costco, keeping prices low is often easier said than done. Costco has a growing number of competitors in the bargain retail space, including Walmart, dollar stores, and discount grocery chains like Aldi and Trader Joe's.

However, Costco is still managing to beat out the competition. In 2017, the company reported $126.2 billion in revenue, a 9% increase from the prior year, when it reported $116.1 billion in revenue.

Here are seven strategies Costco uses to keep prices low and save customers money:

Not advertising

Not advertising play

Not advertising

(John Gress/Reuters)

Because Costco keeps costs so low, the company operates with thin profit margins. Costco saves an estimated 2% a year in costs by not advertising, allowing the company to reinvest that money in slashing prices.

"One of the keys to Costco's success, and its profitability, is that the company spends next to nothing on advertising," Tim Green wrote in finance blog The Motley Fool. "Other than sending out direct mail to prospective members, and sending coupons to existing members, Costco does no traditional marketing at all."



Limiting the number of items sold

Limiting the number of items sold play

Limiting the number of items sold

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According to Costco, an average warehouse carries about 4,000 products compared to the 30,000 found in most supermarkets. A supercenter can sell up to 100,000 products.

By only stocking a handful of toothpaste brands, as opposed to the plethora you can find at most stores, suppliers are forced to compete with each other to win a place on Costco's shelves. And, suppliers want to make the cut — because there are only a few options, customers end up buying a lot of the brands that Costco decides to stock.

Costco name-checks its "tremendous buying power" as key to its low prices on the company's website.

"By carefully choosing products based on quality, price, brand, and features, the company can offer the best value to members," the website states.



No-frills design

No-frills design play

No-frills design

(Ross Franklin/AP Images)

With concrete floors, tall stacks of merchandise, and a sprawling, often-windowless design, Costco warehouses aren't trying to provide customers with an aesthetically pleasing experience. And, by focusing on efficiency over value, they can save customers money.

Costco doesn't have to redesign stores to keep up with trends. The company doesn't even need to hire workers to unpack boxes — products are purchased in bulk and then placed directly on warehouse shelves, with little attention to aesthetics.



Growing the Kirkland brand

Growing the Kirkland brand play

Growing the Kirkland brand

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Costco's private-label brand Kirkland is a driving force behind the chain's success, with sales exceeding $35 billion in 2017.

The retailer has been building out its Kirkland selection in recent years, with offerings from golf balls to snack bars. Typically, Costco will release a new Kirkland product if it thinks that it would sell for at least 20% less than the branded version, without sacrificing on quality.

With customers' obsession with Kirkland products, Costco could afford to bump the prices up slightly and still keep customers coming back for more. However, Costco has a strict rule that Kirkland Signature items can never be marked up by more than 15% over cost. For comparison, the average markup at Walmart is 24%.



Treating employees well

Treating employees well play

Treating employees well

(Eugene Hoshiko/AP Images)

Costco is known for paying workers well, and it has some of the best benefits in the retail industry. While this seems like it would cost the company money, executives say it actually helps Costco save money and lower prices further.

In 2005, Costco co-founder Jim Sinegal told The New York Times that by treating employees well, Costco managed to reduce turnover rates as well as rates of theft by employees.

"This is not altruistic," Sinegal said. "This is good business."



Membership fees

Membership fees play

Membership fees

(AP Images)

Costco additionally offsets prices with its $60 membership fee. These fees make up more than 2% of Costco's profits.

The membership model is a popular one for companies aiming to cut prices. Amazon has followed in Costco's footsteps with Prime, the e-commerce company's own membership program that offers free two-day shipping as well as other discounts and services.



Maintaining uber-low markups

Maintaining uber-low markups play

Maintaining uber-low markups

(Elaine Thompson/AP Images)

At the end of the day, Costco's prices are low for one reason: because leadership demands that they stay that way.

The average markup on a Costco item is just 11%, Fortune reports. For comparison, the average markup at Walmart is 24%. Supermarkets mark up prices by 30% on average, and Home Depot and Lowe's boost prices by an average of 35%.

"The traditional retailer will say: 'I'm selling this for $10. I wonder whether I can get $10.50 or $11.' We say: 'We're selling it for $9. How do we get it down to $8?'" Sinegal told The Times. "We understand that our members don't come and shop with us because of the fancy window displays or the Santa Claus or the piano player. They come and shop with us because we offer great values."