Canada: How Costco Canada breaks retail rules to win

Fachada de una tienda de la cadena Costco


Not far from a table stacked high with men’s blue jeans at one of Canada’s busiest Costco Wholesale Corp. stores is a standalone display for the InstaShiatsu, a cordless neck and back massager that bears all the hallmarks of a juicy impulse buy.

Priced at $134.99, the InstaShiatsu gives off a quirky, as-seen-on-TV vibe that would not help its cause if it were inside Hudson’s Bay or Best Buy.


But this is Costco, so the InstaShiatsu is flying out the store even though it’s likely nobody who bought one came looking for a neck massaging apparatus.

“We put it on the floor to test it and … explosion,” said Andrée Brien, senior vice-president of national merchandising at Costco Wholesale Canada Ltd., on a recent tour of a warehouse in eastern Toronto.

The product’s apparent success is just another example of how Costco paradoxically breaks all of the Retail 101 rules and wins.

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With a perpetually crowded parking lot, an aesthetically uninspiring and often difficult-to-navigate shopping area, and a highly limited choice of products within each category, Costco sells items in quantities that would be more suitable for an army squadron than a household of four. It also doesn’t bag customers’ items. And, just for the privilege of shopping there, Costco charges an annual fee starting at $55.

But its contrarian ways are the key to its staggering success in Canada, where Costco has 94 warehouses, more than 10 million members and steadily increasing sales that hit about $22 billion last year. It turns out that its flouting of basic retail commandments actually taps into consumers’ deepest psychological impulses about security, scarcity, clarity and fear.

Take the membership fee. You might think paying one to shop would deter consumers, but studies show memberships can make people bond with institutions.

“Once you have paid to belong to something, once there is a cost to enter, you feel more strongly attached to it,” said Allison Johnson, a professor of business with a focus on consumer psychology at Ivey Business School in London, Ont. “There is a psychological sunk cost, and an exclusivity. They check your card at the cash. It makes it seem as though there is something going on that is special in there.”

Clearly, it’s working. Costco Canada’s members renew at a rate of 90 per cent and Costco’s membership worldwide grew seven per cent last year.

Another way Costco taps into consumer psychology is by offering a limited selection.

Retail orthodoxy suggests it’s critical to carry a vast assortment of goods. Costco more than two decades ago used to sell 5,500 SKUs — unique merchandise items or “stock-keeping units.” That number has slowly been whittled down to 3,500. To put it in perspective, Walmart and Canadian Tire stores carry about 150,000 SKUs each.

“We thought that by having more, it would produce (higher sales),” Brien said. “But no. By having fewer items in a category, people are not mixed up, and we produce more. The idea behind our approach is we buy it for you. We test the item, and we are confident that we are going to give you the best deal for your money.”

Studies show that offering consumers too much choice can be a deterrent to buying. A seminal study related to this “paradox of choice” in 2000 found that customers presented with six varieties of jam were 10 times more likely to buy a jar than those offered a choice of 24 different jams.

“There is evidence that people like the idea of having more selection, but they are more satisfied when there is less selection after they make the choice,” Johnson said.

Another Costco tactic that should frustrate customers is its ever-shifting and roving product assortment. About 55 to 60 per cent of Costco’s assortment changes every few weeks, and many regularly stocked items can shift in location.

But moving merchandise around or offering it for a limited time taps into the scarcity principle: people are more motivated to buy something if the assortment of goods appears to be limited or temporary for fear they might miss out entirely.

“Strategically created scarcity conditions make consumers realize that if they do not get the desired product right away, they will not be able to get it in the future,” said Shipra Gupta, a marketing professor at the University of Illinois, Springfield, in her 2013 University of Nebraska study. Perceived scarcity encourages people to buy items more readily and they do so in order to avoid feelings of regret, a “pervasive and powerful emotion that people try to avoid.”

Brien, a Francophone bundle of energy who visits Costcos on the weekend with her husband “for fun,” said the InstaShiatsu is one of 50 “road show” items that moves every 10 days from one Costco warehouse to another.

“It has been one of our best road shows, and it will not be here for long — treasure hunt,” she said.

“Treasure hunt” is the mantra that echoes though every corner of Costco Canada, from its head office in Ottawa to its highly polished warehouse floors, stacked high with merchandise palettes. During the course of the tour, Brien frequently returns to how critical the treasure hunt is for members.

Its principles are, in essence, all the rules Costco breaks, and its success in Canada has been considerable.

Canada is Costco’s largest international division, representing 43 per cent of the retailer’s warehouse count outside the U.S.

Standard retail theory dictates that an optimal subsidiary has about one-tenth the number of retail outlets of a U.S. operation, given that Canada has 10 per cent of its neighbour’s population.

But Costco Canada has almost 20 per cent of the company’s U.S. store count, and does not appear to be cannibalizing its business despite the higher-than-average penetration.

For the 22 weeks ended Jan. 29, Costco Canada’s same-store sales climbed six per cent over the prior year versus two per cent in the U.S. Within the four-week period in January, same-store sales were up 11 per cent, versus six per cent in the U.S.

One obvious explanation for Costco’s success in Canada is that it does not have a direct competitor. In the U.S., it competes with Sam’s Club, the rival warehouse club run by Wal-Mart Stores Inc., the world’s biggest retailer.

But Sam’s Club failed to catch on with Canadians after it opened here in 2003, when Costco had 61 stores. Walmart gave up in 2009, closing the six warehouses it had opened.

Kevin Grier, a food industry analyst based in Guelph, Ont., said Sam’s Club principally focused on small business customers whereas Costco focused on businesses and a growing customer base of families.

“Costco ended up growing faster than Walmart, and it is widely accepted now by the general consumer as a place to go for food,” Grier said. “They have done so well in terms of gaining share.”

In 2010, CIBC estimated Costco Canada had a seven-per-cent share of food sales in Canada, ahead of Walmart at six per cent. In 2016, CIBC estimated Costco’s share of food at 10 per cent, and Walmart at seven per cent.

Canadians are notoriously price-sensitive, particularly when it comes to food, which has led grocers to become highly price-competitive. Costco’s everyday low price, with a handful of regular and rotating markdowns, might be easier for savings-minded customers to figure out than juggling rival grocers’ discounts.

Food sales have been key in enticing millions of consumer shoppers to Costco, so much so that it is now turning its attention back to corporate customers. It will open its first business centre in Canada next month to target owners of corner convenience stores, restaurants and small businesses.

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“At one time, we served them better than we serve them now,” said Brien, noting the warehouse retailer has added more and more merchandise products catering to families over the years. “If I change my endcap (the end of the aisle display), this business owner doesn’t want to keep guessing where we put the salt that day, he doesn’t want to go through that drama. He wants to know it is always in the same place.”

Costco’s success in Canada also would not have been possible were it not for another advantage it appears to enjoy over its rivals: higher consumer trust scores.

Costco ranks No. 1 in trust among food and drug retailers in Canada, ahead of Shoppers Drug Mart and Loblaw, according to 2016’s annual Gustavson Brand Trust Index, a detailed annual consumer survey.

Similarly, consumers polled in a 2016 Forum Poll named Costco the top retailer in terms of customer satisfaction, with an overall score of 91 out of 100, ahead of Walmart, Winners, Hudson’s Bay and Sears.

Industry experts cite a number of reasons as to why that is: Costco has one of the most liberal return policies in the retail industry, a more consistent employee base and, among mass merchants, a reputation for carrying high-quality products.

“We live by our members, and that membership has a value,” Brien said. “That is why it is so important that the membership renewal rate is so high. People love us, but we have to love them more.”

Source: Financial Post


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