Costco's Wholesale Revolution | 6

0:0740 years ago, the founders of Costco hoped their membership-based warehouse store would catch on. But it's hard to say if anyone could have predicted just how popular the brand would become. Today, Costco is way more than a place for small businesses and growing families to stock up on bulk goods. It's a beloved cultural institution with customers across every demographic. And with virtually no paid advertising, Costco has commanded strong profits and growth year after year. But when Costco first opened its doors in Seattle, Washington in 1983, the now common pay-to-play shopping model was only just catching on.

0:45The company had to earn customers' trust by making some unconventional business choices, while also keeping quality high and prices low. The founders weren't afraid to take on losses in order to build and maintain shopper satisfaction. It's a strategy that has paid off. with more than 800 Costco locations throughout North America and the world. Today, we're uncovering how this wholesale giant went from a humble experiment to a brand worth$345 billion. Stick around for this special episode of Business Wars.

1:26Hey, basketball fans. Steve Nash here. Ready to elevate your basketball IQ? I'm teaming up with LeBron James to bring you the latest season of Mind the Game. And we're about to take you deeper into basketball than you've ever gone before. Watch Mind the Game now on YouTube, Prime Video, or listen wherever you get your podcasts. Mom and dad. Mom and mom. Dad and dad. Whatever. Parents. Are you about to spend five hours in the car with your beloved kids this holiday season? Driving old granny's house? I'm setting the scene. I'm picturing screaming, fighting. Back to back hours of the K-pop Demon Hunter soundtrack on repeat.

2:03Well, when your ears start to bleed, I have the perfect thing to keep you from rolling out of that moving vehicle. Something for the whole family. He's filled with laughs. He's filled with rage. The OG Green Grump. Give it up for me, James Austin Johnson, as The Grinch. And like any insufferable influencer these days, I'm bringing my crew of lesser talented friends along for the ride. with A-list guests like Gronk, Mark Hamill, and the Jonas Brothers, whoever they are. There's a little bit of something for everyone. Listen to Tis the Grinch Holiday Podcast wherever you get your podcasts. From Wondery, I'm David Brown, and this is Costco's Wholesale Revolution.

3:11With a membership count of nearly 128 million people, Costco has become a staple for so many households. It's a no-frills warehouse, but by the time a customer leaves, They filled a gigantic shopping cart with items they didn't know they needed. Many people describe Costco as their favorite place to shop. But where did it all begin? The story of Costco begins with a guy named Saul Price, who was a lawyer in San Diego. That's David Schwartz. He and his wife Susan are Costco's superfans and co-authors of The Joy of Costco, A Treasure Hunt from A to Z, which chronicles the company's history. The foundation for Costco was actually late in the 1950s, when soon to become titan of retail, Saul Price was working as an attorney.

4:00He'd acquired a warehouse and was wondering what to do with it. He had a number of clients, small business clients, and they came to him and said, listen, you know, we'd love to use your warehouse to sell our goods. They were small retailers. I think they were jewelers. And Saul Price said, okay, well, why don't you do that? And that was really the first of the big box stores. Price named his store FedMart, inspired by a Los Angeles-based shop called FedCo. FedCo was a discount store, and you had to be a government employee to shop there. San Diego was home to nearly 5 ,000 government employees at the time, many of whom would drive up to Los Angeles for the FedCo discounts.

4:48Price tried to join forces with FedCo, but was ultimately turned down. So he decided to go out on his own and launch FedMart. He decided he would also make it membership-based and only available to federal employees. You see, FedMart believes if you give folks quality at a low price, you've got a customer for life. Discover FedMart, America's greatest general store. In 1959, FedMart was thriving. and price took the company public. In 1963, FedMart raked in more than$1 million, an all-time high for the chain. This was the same year they dropped the federal employee requirement, opening the store up to all shoppers and ditching the membership fee.

5:34They opened stores in California, Arizona, and Texas, totaling around 45 locations by 1974, making nearly$320 million in annual sales. Business was booming, but Price was getting frustrated with some of the headaches of running a public company. And he toyed with the idea of going private again. So when some foreign investors came knocking, Price took the meeting. A German supermarket chain called The Mann Group decided that they wanted to buy FedMart and get involved in the U.S. market. And they negotiated with Saul and his son Robert, and they bought them out. and the plan was for Saul and Robert to stay and work with the Mann Group.

6:20But unfortunately, they didn't get along at all with Hugo Mann or with any of the other senior executives from Germany. Mann was a former Soviet prisoner of war who made a fortune when he brought the concept of large American supermarkets to Europe. FedMart would eventually go out of business in 1982, with most storefronts turning into Targets. But by this time, Price had developed a new store, One that would revolutionize the way people shopped for years to come. The Price Club is not an athletic club. It's a club for retailers. It's a wholesale operation that tries to prove once again that everything is cheaper by the dozen.

7:03In this 1976 news clip from San Diego's CBS 8, a reporter takes viewers inside the first ever Price Club. After leaving FedMart, Saul Price and his son Robert brought back the membership model of FedMart's early days. Only this time, anyone could join. Opening up membership to everybody in 1976 was a radical, radical idea. And I think it was Robert who came up with the idea of a members-only club. Saul always gave Robert the credit. In those early days, Price Club's target demographic was small business owners. Prior to that, restaurant and shop owners had to purchase products from a few regional wholesalers who sold with high markups.

7:51At Price Club, they could pick up snacks for their vending machines or grab office supplies in bulk at a discount. Here's Robert Price from a CBS 8 News clip. We think that it's time that the independent businessmen be given an opportunity to compete with the chain stores because we think it's good for the community to have independent businesses, and it's good for the nation, and it's also good for the business people. The first price club was set up in a converted airplane hangar in San Diego. Its industrial shelving, pallets of merchandise, and bare concrete floors would become standard issue for all future wholesale clubs.

8:29They were cash-only, with a product selection that was limited, yet high in quality. And they also had another groundbreaking feature that's still around in stores today. The initial idea for a food court was Saul Price. In Price Club, what happened was he noticed that people were walking around, and then they were leaving for lunch. And what he wanted to do was keep them there for lunch. And so he said, well, let's serve pizza. So Price Club started their food court with pizza. Price Club was also renowned for treating its employees extremely well, offering competitive pay and exceptional benefits, something you rarely saw at the big grocery store chains.

9:09Author Susan Schwartz explains. Saul used to say you don't train employees, you train a SEAL, you teach employees. And there's a real priority placed on promoting from within and making sure that you're furthering people's careers. In 1980, Price Club went public. And with that move, investors really started to notice just how lucrative a members-only wholesale club could be. People who were analysts of the retail industry at places like Salomon Brothers or Goldman Sachs began to look at what was going on at Price Club and thought, wow, this is an interesting business model and this may be the future of retail.

9:45Soon, other entrepreneurs were sniffing around to see if they could start their own kind of price club operation. There was the Massachusetts-based BJ's Wholesale Club that launched in the Northeast. And in the Midwest, Sam Walton was inspired to start his own warehouse called Sam's Club. Saul was gracious enough to give Sam Walton a tour of the operation and show him everything. Until the day he died, he kept saying he should have gotten royalties from Sam Walton because Walmart resulted. So that was a direct result of Saul's generosity. And up in the Pacific Northwest, David Schwartz explains that a businessman named Jeff Brotman was flirting with the idea of a wholesale club in his own neighborhood.

10:26Jeff came from a retailing background. His father was a retailer. He was a retailer. And they had taken a look at what was going on in San Diego and Southern California and thought, gee, you know, the price club model would work really well in Seattle. and Jeff was looking around for someone who could help him set up a competitor to Price Club in the Seattle area. And he called Jim Senegal. This was the call that would change everything. Jim Senegal had been working in retail for decades. He got his start at FedMart, working under Mr. Price Club himself, Saul Price. In the FedMart days, Jim Senegal actually became Saul Price's right-hand guy.

11:12and was his real golden boy. And Jim Senegal is a retailing genius. There's no question about it. And, you know, really on top of operations and marketing, all aspects of retail. And he learned everything he knew from Saul. And he'll say that to this day. Senegal remained at FedMart for a couple of years after it was sold to the German man crew. After that, he went back to work for Price at Price Club for a few years before branching out on his own as a broker, selling goods to shops like Price Club. And this is when Senegal got the call from Brotman. Jim had gotten a lot of calls like this over the several years that he was on his own and had rebuffed most of them.

11:54I mean, he spoke with those guys because he thought that those connections would be interesting over time. But there was something about the conversation with Brotman that made him decide he wanted a meet. So Senegal and Brotman met up and hammered out a business plan that was very similar to that of Price Club. effectively laying the groundwork for their own wholesale chain that they would keep regional. Here's Jim Senegal speaking about the plan in a talk he gave at San Diego State University back in 2017. The idea was to clone the Price Club. We didn't want to do anything fancy in the first instance.

12:27Let's just do what they're doing and do it well. And if we can do that, we'll have time to innovate later. In 1983, Costco opened its first warehouse in Seattle, Washington. At the time, the membership was$25, and anyone could join. Like Price Club, the space itself was pretty bare bones, which helped to keep costs low and wages high for employees. They also implemented a food court. Only instead of peddling pizza, they hawked the now-famous$1.50 hot dogs. What became an iconic Costco staple was actually started by an employee who wanted to set up a stand at the warehouse in Portland, Oregon. It started out because somebody had an idea to just bring up a hot dog cart and set up out in front of the warehouse and sell hot dogs.

13:15And they thought, oh, sure, we'll sell a hot dog and a beverage for$1.50. Just pulled that number out of the sky. He was called Warm Wonderful Gene. He had this hot dog cart. I'm not sure why he had a hot dog cart, but he did. And when management came through and saw they were doing this, they said, what are you doing? And they said, we're selling a lot of hot dogs. And they said, carry on. And management loved the hot dogs. They were wonderful. And as they say, the rest is history, with a hot dog stand quickly evolving into a full-fledged food court. By the time Costco went public in 1985, they had 17 warehouses and nearly 2 ,000 employees across the Northwest, California, and even Canada.

13:54Although they had planned to keep Costco regional, Jim Senegal explained in that 2017 lecture that the market had other plans. You might say, well, I thought you were going to be a Northwest company. We concluded at that point, it became obvious to us, that there was a significantly bigger market that was available to us and significantly more investors who were interested in coming along with us at that point. So this was our entry not only into a new state, but also an entry into Canada and a new country. There was no denying it. Costco was a hit. The 1980s saw a boom for wholesale clubs in general.

14:35Sam's Club, BJ's, and Costco all launched around the same time. They found massive success in their respective regions, with Costco leading the pack. That got Sam Walton to come knocking on Costco's door, this time with an offer that he hoped they wouldn't refuse. But David Schwartz says Senegal wasn't biting. He was, you know, sitting in his office one day, and he gets a call out of the blue from Sam Walton. I'm going to be in town tomorrow. I want to talk to you and Jeff about Costco. And they had breakfast the next morning, and Sam laid it out that he wanted to buy Costco and, you know, merge it with Sam's Club.

15:15And Jeff and Jim considered it and got back to Sam very politely and said, listen, you know, we just love running our company. We're not going to sell it to anybody. Jim says that Sam took that, you know, like a gentleman and never approached the subject again with them. While Costco wasn't looking to sell, Saul Price of Price Club was starting to consider a step back from the family business. He saw Costco as a real serious competitor, and he was getting old, and Robert was really in charge, and the two of them were thinking that this is going to be a long-term struggle, and they weren't all that eager to do that.

15:53And they were looking for a way to productively end that competition. So they saw an opportunity to partner up with people who thought about retail the same way they did and to try to share the load of running a major, major company. So in 1993, Price Club merged with Costco, and Price Costco was born. This particular era was short-lived, with the name changing back to just Costco not long after. Susan Schwartz says there was a little friendly rivalry among shoppers in the beginning, despite the similarities between the two brands. They had a saying when they merged, are you red or are you blue?

16:35The Price Club people were blue and Costco were red. And initially, there was some tension, but it was really, they're all from the same base culture. A few years later, Robert and Saul Price stepped down from Costco, and by 1997, all remaining price clubs were turned into Costco warehouses. Under the merger, Saul and Robert Price spun off Price Enterprises, which owned and operated stores called PriceSmart overseas. When Robert and Saul Price left Costco, those international PriceSmart shops stuck around. In fact, the chain still exists to this very day as the last remaining piece of the price retail empire.

17:15Overall, the merger was quite seamless, David Schwartz says, with Price Club and Costco truly becoming one. It's a perfect merger now. I mean, it really is one company. And there's no legacy logistic systems or legacy operational differences or anything like that. It is one company, and it operates seamlessly. Even with the Price family out of the picture, Jim Senegal kept the spirit of Saul Price's business philosophy alive within his stores, which, according to Susan Schwartz, has largely contributed to the company's success over the years. Costco didn't just rise up out of the ocean like Venus on a half shell.

17:55Costco is the product of a lot of years of retailing genius. Somebody once said to Jim Senegal, you must have learned a lot from Saul Price, and Jim very carefully said, no, that's not correct. I learned everything from Saul Price. Throughout the 80s and 90s, Costco continued to grow, implementing the gas station, pharmacy, optical department, and other amenities. They expanded worldwide, opening locations in Mexico, the UK, South Korea, China, and more. And not once have they threatened to raise their markups. So, how have they managed to sell all of this good stuff so darn cheap? They sell you stuff.

18:33They're not selling it at a loss. They're making their money back on what they buy, but they're not relying on those sales to really make or break their business. Next, more on how Costco's economic model works and why it's been so successful. Stay with us.

18:58In the fall of 1620, a battered merchant ship called the Mayflower set sail across the Atlantic. It carried 102 men, women, and children, risking it all to start again in the new world. Hi, I'm Lindsey Graham, the host of American History Tellers. Every week we take you through the moments that shaped America, and in our latest season, we explore the untold story of the Pilgrims, one that goes far beyond the familiar tale of the first Thanksgiving. After landing at Cape Cod, the Pilgrims forged an unlikely alliance with the Wappanog people who helped the Pilgrims survive the most brutal winter they'd ever known, laying the foundation for a powerful national myth.

19:34But behind that story lies another, one of conflict, betrayal, and brutal violence against the very people who helped the Pilgrim survive. Follow American History Tellers on the Wondery app or wherever you get your podcasts. You can binge all episodes of American History Tellers' The Mayflower early and ad-free right now on Wondery Plus. Okay, Carrie, you ready? Quick, quick, quick. List three gifts you'd never give a cowboy. Uh, uh, Lacey Bobby Socks. a diamond bracelet and a gift certificate to Sephora. Oh my God, that's outrageous, Carrie. Oh, wait, we're recording a commercial right now. We gotta tell them why we're doing this.

20:11Oh yeah, sorry, pod listeners. Okay, so we're five besties who've been friends for five million years and we love games, so of course we made our own. It's called Quick, Quick, Quick. You just pick a card and have your partner give three answers to an outrageous question. It's fast, fun, fantastic, and a bunch of other funny adjectives. Anyone can play. Your mom, your dad, your kitten, your kids, your Auntie Edna, and even your butcher. And you know what's incredible? There are no wrong answers. Just open your brain and say what's in it. Just quickly. And you're not going to believe this. Well, you might once you start playing, it's as much fun to watch as it is to play.

20:46Seriously. So get up and go grab your copy now at Target and Amazon. Quick, quick, quick. It's the fastest way to have fun.

21:07Hi, welcome back to Business Wars. When you're inside Costco, moving through the aisles can feel like moving from a Best Buy to a regular grocery store to a TJ Maxx. Business Insider reporter Dominic Reuter covers big box stores, and he puts it like this. It's just not like a normal store. The idea going into it is that everything is bigger. The carts are bigger. The aisles are bigger. The products are bigger. It's the event for the week for some folks. And they will, you know, get in there and browse and get samples and fill their carts with a bunch of stuff that they weren't thinking about getting.

21:45And I think that's all part of the whole experience. But unlike rival big box stores, the wholesaler maintains very slim margins compared to its competitors. Because they charge a membership fee, they're able to sell products wholesale for an extremely low cost. In a lot of ways, Costco is selling you access to consume these other sort of products and merchandise and services, more or less, at a very low, low markup for them. So they're basically giving it to you for what it costs them for not much more, about 10 % more than what they're getting. And that is almost nothing compared to a normal retail shop where you're looking at 30 or 40 percent markups versus 10.

22:29The annual membership fee pioneered by Saul and Robert Price back in the Price Club days has become Costco's primary revenue stream. And investors can't get enough. Costco does really well in terms of profit thanks to this warehouse club model. in large part because it's something that they have a lot of control over. And these membership fees are effectively pure profit. It's just money coming in. They don't have to buy anything. They don't have to maintain anything. They just get you to pay. And that solves the story. If they can get more people to pay, then that's good. And that's a model that investors really, really, really have loved over the years.

23:09So they sell you stuff. They're not selling it at a loss. They're making their money back on what they buy, but they're not relying on those sales to really make or break their business. When it comes to keeping low overhead costs, Costco is king. There's evidence of this strategy in the overall feel of the store. The retail environment inside Costco is no frills. Goods are piled high on tables or stacked up, and finding what you want requires significant legwork. This, combined with the membership fee, helps them maintain some unbelievable practices that other retailers wouldn't dare attempt.

23:49For example, Dominic says they maintain a very limited selection of products compared to the average big-box store. They only carry roughly 4 ,000 SKU stock-keeping units. That's 4 ,000 different items, whereas you go into a typical superstore and you're going to see 30 ,000 or 40 ,000. And that's just a wild amount of variety and choice. But I don't need a thousand flavors of potato chips. I just want a really good potato chip. And they sell you one. And then there's the one-year, no-questions-asked return policy, where people can take back a used mattress, an open container of hummus, or even a gifted item they don't really want.

24:28Costco's generous return policy is certainly something where, on that transaction, it probably will lose money. Because there's a lot of stuff that they'll take in, and that's just going to get salvaged out. The important thing to Costco is that you're happy, that you'll renew, that you'll tell people, go ahead and buy that thing because you can just return it. And they're betting that you might not because a lot of times you're just not going to do that. Of course, they've also got the food court featuring those$5 rotisserie chickens and the$1.50 hot dog combo, a price that Costco has somewhat infamously vowed to never change, despite rising inflation.

25:08Jim Senegal very famously told his sort of successor, Craig Jelanik, that I will effing kill you if you raise the price of the hot dog because that one is just a thing that people have come to expect. They come to expect it so much that if you go to Canada, it's$1.50 in Canada, even though with the exchange rate, it should be$2. So they're getting even more of a loss lead on the Canadian thing just in order to keep that sort of visual cue of it being$1.50 for a hot dog and a soda combo. Eyeglasses, pharmaceuticals, travel deals, you name it, and Costco is selling it way cheaper than everybody else.

25:45Even the gasoline comes at a significant discount, a huge perk in a market where gas prices have reached all-time highs. Although the way they price the gas is different from pricing items in the warehouse. Their goal in that case is to simply give you a discount relative to the market around you. even if that's giving them a little bit of extra money or a little bit extra margin on that particular gallon of gas at that time. But gas is a highly, highly volatile, pardon the pun, market, and they have a very, very, very careful and strategic operation there that makes a point to save the customers money that they would have otherwise paid without that membership in their local area.

26:27An even more important draw and piece of the Costco puzzle is the Kirkland brand. That's Costco's private label brand named after Kirkland, Washington, the city in which they're headquartered. There are Kirkland dress shirts, Kirkland tuna, the super popular Kirkland French style vodka, which, despite the rumors, is not the same as Grey Goose. Although Costco has been known to source from some high-end distilleries. You know, they'll put a batch label or they'll put a distillery label on some of their other products. You could create a nice bar where they just sell Kirkland beverages, wines and beers and spirits, and I think it would do pretty well.