In Retailing, Being Different Does Not Always Mean Being Better

Often, being different is revered--most people and companies set out to differentiate themselves from their peers and their competition. However in the warehouse club channel, different isn't necessarily best. Of the nation's leading three club store retailers, Issaquah, Wash.-based Costco Wholesale

Corp. has stuck to its core plan of serving customers with value and quality--making the club's $50 to $100 membership fee well worth it and putting it well out in front of its primary competitors, Wal-Mart Stores Inc's Sam's Club, Bentonville, Ark., and Natick, Mass.-based BJ's Wholesale Club Inc. Both Sam's Club and BJ's Wholesale Club approach the business from different angles, and have tried different strategies over the years. In this retail atmosphere, different has not delivered.

Looking to reap the true benefits of the membership fee (all three clubs have one ranging from $35 to $100, depending on the level), consumers rarely, if ever, belong to more than one club. This further challenges each chain to build its membership based on a strong merchandising program and value proposition. And though each of the channel's leading players has a strong proposition (or is working on getting one), industry observers agree hands-down that Costco Wholesale is the "top dog."

"Costco is top dog because their merchandising is unbelievable, and their senior management is involved," says Jim Degen, president of James Degen & Co., Templeton, Calif. "Every time Sam's Club changes CEOs, they change their strategy," he adds. "Costco sets the bar high in terms of merchandising and services--they're always the first to do something. Right behind them is Sam's and then maybe BJ's."

Similarly crediting Costco's management with much of the retailer's success, Michael Clayman, editor of Warehouse Club Focus, Boston, says, "The people who run Costco started with Price Club and even the predecessor Fed-Mart. They grew up with the business, and a lot of the things they do are based on the original concepts taken a step further--they understand the business and they have the experience. [Management shifts like at Sam's Club and BJ's Wholesale] affect the direction of the company, while all along Costco has been doing the same thing. Consistency in management clearly is important."

While Costco undoubtedly leads the pack in reputation and sales, each chain generates hearty sales given store counts and geographic reach. Costco generated $62.4 billion in worldwide sales for calendar year 2006, while Sam's Club reached $45.7 billion and BJ's Wholesale Club rang up $8.1 billion. On a per-store basis, in 2006 Costco sold $130.5 million per store vs. Sam's Club's $72 million and BJ's $47.6 million, domestically, according to Degen.

Big-picture Perspective

"In 2006, the entire industry was up 8.1 percent, but comp-store sales were up 4.7 percent," Degen says. "One of the things you have to read into that is that well over half the growth is from stores open more than one year. Supercenter growth relies on conversion, not from new construction--growth here is coming from better merchandising and more consumers adopting the club store as one of the many formats to shop at."

Compared with the grocery industry, club store growth is impressive. The grocery channel is not growing nearly as fast as the club store channel--over the past few years, grocery has grown about 1 to 2 percent, while clubs have grown 6 to 8 percent annually, Degen says. A number of factors contribute to this growth variance including the growing market of alternative formats pulling consumers away from traditional grocery, but another major influencer is that people are spending less on food.

Food accounts for 10 percent or less of disposable income, according to Degen. "Consumers are spending less on food and spending it in different channels other than grocery stores," he says. "That's a huge change."

"Compared to other retailers, the club stores are consistently exceeding other retailers, including Wal-Mart," Clayman says. "I'd say that the value proposition that the channel offers in gross-margin structure is always a competitive threat to grocery stores, though the limited assortment will always force people to still use grocery stores. Grocery stores compete because of assortment."

As the club store format has evolved since its inception in the late 70s, the model has changed, but the basics have been the same with the biggest impact being the accessibility by everyday consumers in addition to businesses. Initially, the clubs relied heavily on the major brands, developing the concept by offering well-known and in-demand products in special packaging, bigger sizes and great values. "That's changed now with more private label coming into effect," Degen says.

Degen also credits the baby boomer demographic for the surge in popularity for the club store channel. "The baby boomer demographic has characteristics of income and consumption--and for them, brands ruled everything in the late 80s. Club stores selling well-known brands at good prices to a market of 75 million consumers works."

A Strong No. 2 and a Determined No. 3

Though observers agree Sam's Club is not Costco--and shouldn't necessarily be because of the different psychographics of the primary customer base and extremely different geographic locations in suburban vs. more urban locations--the Wal-Mart sibling still is a $45.7-billion business worldwide. For Wal-Mart Stores Inc., Sam's Club has declined as a percentage of sales in the past year, according to Degen, but "that';s partly because Wal-Mart has been growing like crazy."

And as for the speculation that Sam's Club could be a potential suitor for purchasing BJ's Wholesale Club, Degen says the purchase would be a challenge on a number of levels, but a primary one being that BJ's doesn't own most of its properties, thus presenting a huge up-front investment in buying real estate.

Despite acquisition rumors, BJ's management is pressing forward, making plans and talking about them, to some extent.

According to reports and industry observers, BJ's is in the midst of refocusing its strategy, and some say it should really help build the momentum for the once-profitable company.

"BJ's strategy is fair and will work, though they need to handle operations better and bring SKU counts down," Clayman says. "But before the company's management issues, they were a very profitable company. They can get back there, though they still won't be a competitive threat because they won't have as many locations."

And, Clayman adds, "They have to make the changes and make them stick--they must be communicated down to club levels."

Target Customer

Industry observers indicate that where these three club store chains diverge on strategy the most is in which customers they seek, though that seems to be changing recently. First designed for small businesses, in the late 80s, the club store channel became an option for non-business customers. And while each chain serves small-business owners and foodservice, BJ's and Sam's Club have stayed truer to that mission.

"For Sam's Club, the strategy has been to really focus on the business member. BJ's more aggressively focuses on the consumer member," Degen says. "Sam's saw that as a differentiator and even had 1,500 SKUs devoted to that member and available all the time. Now Sam's Club has said it will focus and look at women in high-income households--much of the Costco niche. They're going to hitch hike on the same demographic strategy."

Sam's Club clearly realizes the value in reaching a more diverse customer base given that small-businesses offer a finite amount of opportunity and a much smaller pool of consumers than the general public, and in particular higher-income baby boomers. The company's president and chief executive officer, Doug McMillon, was recently quoted as saying the company "tended to go too far one way or the other, and now we are striving for more balance."

According to Clayman, BJ's always has focused on consumer members while Sam's Club focuses on foodservice and vending items and Costco "falls in between." He adds, "Sam's Club is trying to differentiate from Costco to focus on the business member, but they're also working on getting the consumer to shop more often."

Private Label Approach

Like most of what they do, each chain's private label approach is quite different from the others. Sam's Club has a handful of brands including Member's Mark and Bakers & Chefs, "but for whatever reason, Sam's has not embraced private label the way Costco has," Degen says, candidly.

BJ's Wholesale Club has an even larger assortment of brands, including its main namesake Berkley & Jensen plus a host of others, and is "fragmenting investment dollars by trying to promote all of those brands," Degen says.

According to Clayman, "BJ's has used private label over the past three or four years to expand margins and remain competitive ... They got as high as 20 to 22 brands and about 1,500 private label items. They announced in January that they are going to scale it back, which is a fair thing to do because private label should leverage the brand across different categories and they were not doing that," he says, anticipating BJ's to scale back to as few as six or seven private label brands.

Recent reports quote now Chief Executive Officer Herb Zarkin--named to the job in March after holding the position on an interim basis--as saying BJ' strives to take market share from supermarkets with high-quality meats, imported cheese and organic produce. And the company plans to include "wow" items on a rotational basis. "We want our members who shop this department two times a month to shop it three times a month," he said, according to Reuters. "We want the members who shop it three times to go to four times."

Sam' Club and Costco Wholesale, Clayman estimates, each are stocking about 400 to 450 private label items and generating private label penetration in the mid-teens.

Costco Wholesale--again doing its own thing--has one signature brand called Kirkland Signature, which is featured across the store from fine wines to suitcases to snacks and other foods and personal care items. And, on a number of occasions, Costco has been able to leverage the strength of Kirkland Signature so far that it has teamed up with leading brands such as Newman's Own, Starbucks and Jelly Belly, as well as Mariani in dried fruits and others.

"When members have a good experience with one item, they're more likely to try the brand in others," Clayman says. "And Costco has taken that one step further into co-branding. I think that creates a deeper perception in consumers' minds that the products are high quality. Sometimes Costco even deletes the competitive brand item if they can, so the sales are forced into their own product."

Managing SKU count, Degen says, has been much of the challenge for all three of the club chains, emphasizing that BJ's plans to rationalize product assortment are designed to help the retailer make room for bigger, better brands and more unique offerings.

"Costco has been rigid on SKU count," Degen says. "BJ's got too high at about 7,500 with a lot of duplication of brands and items that don't move. They're going to cut back on a lot of things, not just private label."

Industry observers agree that Costco has built credibility with its Kirkland Signature brand, in particular by putting it on the company's high-quality meat and perishables.

Where BJ's is challenged in private label, some say, is that because much of their customer base is small-business owners and other retail outlets, they're speaking mostly to a demographic interested in the value-proposition of the leading brands, not private label, which does not allow for resale in small business establishments.

"Private label needs to be established in these big barns," says Dan Raftery, president of Raftery Resource Network, Antioch, Ill. "Private label works for the end consumer, and it also works for foodservice and restaurateurs who want good quality and better prices. It doesn't work for resale, they need national brands, but I think private label has an opportunity to be more well-established in the BJ's and Sam';s Club environments."

Sam's Club director of house brands, Michael Ellgass, addresses the company's need to better establish its private label program by identifying what his team calls "value voids." And, he says, "We expect to grow [private label penetration.] We want to win on both price leadership and innovation ... I expect the pace of growth to accelerate as we build on our success."

In the past year, Sam's Club has refreshed is Member's Mark line, improving packaging in graphics and communication by grouping items into "families" to allow customers to shop for "solutions." The company's Bakers & Chefs line also saw some changes--growing from "just foodservice food items to foodservice solutions."

And as part of its effort to reach a broader range of customers outside the small-business arena, reports indicate that Sam's Club is testing a new prepared-meals program featuring healthy fare as grab-and-go offerings in a refrigerated case.

From Coast to Coast and Into the Future

In the big-picture approach to doing business on a continent as diverse as North America, and across the globe, geography--paired with good strategy--has been credited with much of Costco's dominance. Internationally, Costco's per store sales of $124 million worldwide, vs. Sam's Club's $72 million and BJ's $48 million clearly indicate each player's role in the segment.

But, Degen says, the disparity internationally in this channel didn't happen because of anything more complex than one company seeing a void and snatching it. "If you go back far enough ... nobody was in Canada," he says. "Canada was left wide open for anyone who wanted to develop it--it's the biggest international market for Costco. Now they're in the United Kingdom, and the U.K. could easily stand 50 club stores. Mexico is the exception because Wal-Mart and Sam's Club have done very well there. Costco has gone where a lot of the other guys weren't, and they were the only show in town. With their great quality and formula for success, no one else can come in and win."

Domestically, Sam's Club is challenged, Clayman says, because "it grew in the middle of the country--they just don't have the high-volume clubs that Costco has in the East. Costco has a huge advantage of high demographic, wealthy areas of the country. [Geography] is always going to be a barrier for Sam's Club."

According to Degen's reports--the company has been tracking the club store channel since 1980--the industry overall has been opening about 50 net units annually for the past few years. Leader Costco Wholesale had about 500 units at the end of 2006 and management has said the company's store count could conceivably grow to double that size by 2011, according to Supermerchants: Membership Warehouse Clubs Industry Overview published by J.M. Degen & Co. Inc.

For the industry, Degen projects 1,665 units by 2011, with 20 percent in international markets.

Reports indicate that store growth for BJ's actually will slow in the coming years. Zarkin has said the retailer plans to open five new clubs in the current fiscal year, ending early February, rather than the once-planned eight to 10, and for its next fiscal year, the forecast is six to eight new clubs.

For Costco, Sam's Club and BJ's the coming years offer opportunity. All three are set to grow store counts, build membership and further develop (or restructure) the private label and overall merchandising approach. Outpacing other channels, the overall warehouse club channel has the potential to provide some interesting industry activity in the coming decade, observers agree.

"In ten years, in terms of expansion, there may be a top-end limit in the U.S. for warehouse club stores, and further growth in the 10- to 15-year range may be a challenge," Clayman says. "Costco and Sam's Club have international operations that will become even more important, but that could be a problem for BJ's--how will they continue to grow? We do project at some point that saturation in the U.S. will become an issue, but not for 10 to 15 years."

From Raftery's perspective, the future holds a similar fate to the current state of the club store channel. "I predict growth for Costco, stagnation for Sam's Club and BJ's could go in either one of those directions."

Yet another example of different not doing it.

RELATED ARTICLE: At A Glance

COSTCO WHOLESALE CORP.

HEADQUARTERS: Issaquah, Wash.

SALES: $60.2 billion

STORE COUNT: Nearly 490

PRIVATE LABEL: Kirkland Signature

WEB SITE: costco.com

SAM'S CLUB INC.

HEADQUARTERS: Bentonville, Ark.

SALES: $39.8 billion

STORE COUNT: More than 575

PRIVATE LABEL: Member's Mark, Bakers & Chefs

WEB SITE: samsclub.com

BJ'S WHOLESALE CLUB INC.

HEADQUARTERS: Natick, Mass.

SALES: $8.5 billion

STORE COUNT: About 170

PRIVATE LABEL: Berkley & Jensen, plus a number of exclusive brands

WEB SITE: bjswholesale.com

RELATED ARTICLE: Economic Impact

It's hard to determine the impact the economy is having on the warehouse club channel when despite the fact that consumers often have to travel farther from their homes to get to a club vs. a local grocery store--burning high-price-point gas all the way there--Costco Wholesale Corp. still sold 1.5 million flat-screen televisions, $300 million in digital cameras and $600 million in wine, plus 96,000 karats of diamonds last year. The Issaquah, Wash.-based leader in the segment often caters to a higher-income consumer, who, like the members at the industry's other two leading clubs, still want great value but spend money on leading brands and high-quality private label.

Along with Bentonville, Ark.-based Sam's Club Inc., a division of Wal-Mart Stores Inc., and Natick-Mass.-based BJ's Wholesale Club Inc., Costco Wholesale motivates people to buy with upscale merchandise in a treasure hunt environment. And the fluctuating economy apparently can't take the fun out of that.

"When the economy is bad, it doesn't hurt the channel because they have the low prices," says Michael Clayman, editor of Boston-based Warehouse Club Focus. "And when the economy is doing well, the club store shopper demographic is higher than a supercenter and discount store, so they still benefit. The main demographic of the club store is a higher income than the national average."

Despite the economy's fluctuation, "Clubs have been able to grow because of the price-point perception," says Dan Raftery, president of Raftery Resource Network, Antioch, Ill., pointing to the good value offered in warehouse club larger packaging, but adding that price increases are essentially inevitable. "I think we're going to see price increases everywhere--that's going to have to happen, and it will be noticeable in big packs. I would look for size reductions where possible--maybe not as many units bundled or each slightly smaller. There will have to be something, and it will be noticeable--the retailers will have to mitigate that."

"The economy right now is a double-edged sword for clubs, in my opinion," says Brian Todd, president of the Food Institute. "With food inflation more than double that of a year ago, consumers are looking for cost savings and buying in bulk and/or selectively--at club stores, this is seen as a benefit. On the other hand, shoppers typically have to travel farther to a club store than a neighborhood supermarket, likely shifting the consumer's gasoline bill in the process. A conundrum, no doubt, but with some clubs, such as Costco, offering gasoline at some locations, also at lower prices, perhaps makes it worthwhile."

"There's no question the business has risen and fallen with the economy," says Jim Degen, president of James Degen & Co., Templeton, Calif. "but not nearly as most other retail concepts because of the value statement. If you've got to save some dough, you'd be a fool not to be checking out the club stores."