Costco

Good profile of Costco from the NYT. Costco's philosophy of attracting and retaining good employees by paying decent wages and offering good benefits puts it at odds with Wall Street, despite good growth:

Costco's average pay, for example, is $17 an hour, 42 percent higher than its fiercest rival, Sam's Club. And Costco's health plan makes those at many other retailers look Scroogish. One analyst, Bill Dreher of Deutsche Bank, complained last year that at Costco "it's better to be an employee or a customer than a shareholder."

[CEO]  Sinegal begs to differ. He rejects Wall Street's assumption that to succeed in discount retailing, companies must pay poorly and skimp on benefits, or must ratchet up prices to meet Wall Street's profit demands.

Good wages and benefits are why Costco has extremely low rates of turnover and theft by employees, he said. And Costco's customers, who are more affluent than other warehouse store shoppers, stay loyal because they like that low prices do not come at the workers' expense. "This is not altruistic," he said. "This is good business." ...

"On Wall Street, they're in the business of making money between now and next Thursday," [Sinegal] said. "I don't say that with any bitterness, but we can't take that view. We want to build a company that will still be here 50 and 60 years from now."

I think this approach is right on the mark and benefits both employees and customers, although it's no doubt incredibly hard to pull off in a public company. One can only hope that Mr. Sinegal, who is now 69, is grooming a successor as fiercely protective of this philosophy as he is.

Comments

[chris]

My sister works in one of the Costco corporate offices. She's always telling me about how they focus on quality of products as well. They regularly perform surprise inspections and audits of all of their suppliers and will reject products if they don't meet Costco standards.

In this way they actually do place the customers high up on the priority list. They create value for the low cost, rather than just focusing on the price alone.

[Erich]

I really like Costco. I've been to most of the bulk discount stores over the last few years - Sam's, BJ's, etc - and I think Costco has the best combination of product offerings and price. As far as how it handles itself as a publicly owned company, that's for the market to decide. You certainly can't argue with it's 10 fold price increase from 1995-2000.

Warning: Rantings of a capitalist pig follow below.

In the end though, the company's actions are primarily for the benefit of the owners (yes, you knew I'd go there...the shareholders). Of course, you have to take care of your customers in order to keep them coming back, and to keep the business thriving. Obviously that's a key to success. If the above-market-rate wages and benefits that Costco chooses to offer is another key to it's success, then the money managers spouting off about them are just relying on poor analysis. If, on the other hand, the company is realizing no bottom line benefit from it's outsized compensation, then it could just be setting itself up for turmoil.

Consider this scenario: a private equity firm believes Costco can make an extra $100 million/year by bringing pay rates and benefits into line witht the rest of the industry. They take the company private in a hostile takeover, slash the pay & benefits, and then take the new leaner and more profitable company public again (and and make a killing in the process). It's not as ridiculous as it might sound. Seagate Technology recently went through this public to private to public process, though for different reasons, and emerged much more profitable and valuable.

Am I jaded or what?

Again, this assumes there is not substantial company benefit to the generous compensation. I'm certainly not bright enough to answer that one.

[Michael]

Warning: I'm writing this on a total of about 40 minutes' sleep. :)

I think it's safe to say that you believe in the rationality of the market. I also believe it's rational -- but (like Sinegal) only in the short term, and only in the very limited context of the market.

Let's take the example of Costco. Say high wages and good benefits are indeed the key to Costco's succcess, and that in the long run, Costco would keep returning nice profits. But (as you note) that's hard, if not impossible, to predict, which makes it risky. The rational market thus looks for less risky short-term ways to increase profits, such as cutting expenses.

So let's say Sinegal isn't around anymore, so wages and benefits are slashed. Profits shoot up, and the comapny is (presently) more valuable. Now the fun begins as analysts and shareholders attempt to determine how long the operation can be sustained. Since I made the assumption that wages & benefits were the keys to Costco's success, at some point, Costco's profits will start to decline with this strategy. That's okay with the rational market, especially if consumer demand remains constant and Costco's competitor's enjoy a boost from Costco's fall. When Costco's stock falls far enough, there's again money to be made as it becomes an acquisition target.

Now I have nothing but the most freshman level of understanding of the market, but I would strongly suspect that these boom-and-bust cycles of stocks are far more profitable to investors than even a steadily growing company, and certainly a lot less risky. So why would Wall Street ever care about long-term strategy? My guess is that investors would try to run every company into the ground if it was easy enough to predict what company would rise up in the fallen company's place.

Where things get really worrisome, I think, is when you start to think about the wider (non-market) implications of short-term profit-taking. Take the case of a company that finds it's more profitable to pollute (even after lawsuits and bad publicity, both of which are controllable to some degree) than run a clean operation -- because the market sees nothing but itself, rationality says polluting is the way to go. (And worse yet, since humans won't want to live with that pollution, more money will be pumped into the market as clean-up companies go to work. Everyone wins!) The rationality of the market is one dimensional and at odds with our multi-dimensional needs.

Well, that's my morning rant. I'm the first to admit that I'm a hypocrite, since I invest in public companies and enjoy the rewards. But I think it's a Faustian bargain that companies strike when they decide to go public, and while only the company makes the decision, it affects the world at large, for better or worse.

Okay Erich, tear me apart. :)

[Stephanie]

I don't even look at it from the shareholder perspective but from business management. One needs only to see the DMZ that WalMart or KMart have become with the horribly messed up aisles and unhappy cashiers to know that those employees are not nearly as happy receiving a paycheck from their respective corporate entities. And where has the abuse of the sales force gotten these companies? IMHO it has them in a downward spiral. Bitter employees lead to an unhealthy atmosphere. Affluent people do not shop at these stores because they are a mess, they are dirty and they are uncomfortable. CostCo, which we all know spares NO EXPENSE in customer marketing with their high end fixtures and comfortable flooring is attracting these valuable customers. The ones who don't mind dropping many extra dollars on an impulse item while waiting in one of their legendarily long lines. The lines are insane, and yet people willingly stand in them. They also willingly pay for their items without using Visa or M/C, which would normally take a cut of anywhere from 1.2% to 3.25% right off the top of the purchase. Why? Because at CostCo these things seem to be ok. I think this is because the employees are content, which in turn creates an atmosphere where the customers are at ease and therefore willing to put up with minor inconveniences.
I personally think CostCo is brilliant by true business standards. When the company takes care of their employees, their employees tend to take care of the company. It's simple logic.

[air yeezy]

People also tend to mix truth and error to teach people, and insist it is wrong.