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What Makes Costco One of America’s Best Companies

Costco Wholesale (NASDAQ: COST  ) is the world's second-largest retailer by sales, operating a chain of more than 600 bulk warehouses worldwide, predominantly in North America. Costco has turned the traditional retail model on its head. Instead of selling items for as high a mark-up as possible, Costco basically sells its goods at cost, plus the cost of keeping the lights on and the employees paid.

Costco customers pay an annual membership fee to access Costco warehouses, making the company more of a gigantic buying club than a store. With margins on goods sold held as close to zero as possible, income from membership fees make up only 2% of total revenue, but essentially all of Costco's earnings.

The case for Costco
Costco has been lionized as "the Anti-Walmart" for its long policy of paying all employees a living wage and good benefits, including health coverage. In 2005, The New York Times claimed the average pay for Costco employees was 42% higher than Wal-mart's Sam's Club warehouse. In 2008, Slate reported that after five years, a cashier makes about $40,000, and that workers pay only about 12% of health care costs out of pocket.

Any kind of job at Costco can also turn into a career thanks to the company's policy of hiring from within. CEO Craig Jelinek noted in an interview with the Motley Fool that Costco has "a number of vice presidents in their forties that started as cart pushers and front end assistants, and have been with the company for twenty years."

Wall Street, predictably, hates this. According to them, employees should be paid the least possible so that returns can accrue to shareholders. In 2004, Deustche Bank analyst Bill Dreher famously complained that at Costco, it's better to be an employee than a shareholder.

Well, if Bill Dreher was a shareholder in 2004, I hope he didn't sell. Between January of 2004 and 2013, Costco shares more than quadrupled market returns, returning 180% to the S&P 500's 40%. Yes, Costco sports remarkably low margins thanks to its aim of selling goods as cheaply as possible, but that model has proved so popular that the company's revenue growth has grown steadily, jumping 50% to nearly $100 billion in 2012. Costco has used rising income to fuel rising dividends that have nearly doubled since 2007. As the company accelerates its schedule to open new stores worldwide, investors should continue to be richly rewarded, because as much as analysts may sneer, customers continue to appreciate the value Costco provides.

To me, Costco's customer satisfaction boils down to a single number: 86%. That's Costco's membership renewal rate in 2012, a year after pushing through a 10% price increase on all membership fees. In Costco's core North American market, the figure was closer to 90%. The average Costco member has a household income of $96,000 , so these aren't poor fools getting suckered. Costco's purchasers work tirelessly to deliver dependable values to members, and members show that they appreciate this service by renewing their membership at surprisingly high and growing rates, even in the face of fee increases. If you're looking for signs of customer satisfaction, it doesn't get any better than that.

The company has been working to reduce its energy bill and emissions footprint by installing solar panels and skylights to provide natural light instead of using electricity. What's more, over the years, Costco has raised more than $100 million for children's hospitals.

A complaint to consider
No company is perfect, and even Costco has faced criticism from various stakeholders. On the environmental side, Costco has gotten grief from animal rights activists in the past for buying animal products from inhumane suppliers, but the company has historically rectified these complaints in short order.

The Foolish bottom line
Over 30 years, Costco has proved that building a business is not a zero-sum game between stakeholders. Costco has defied Wall Street "wisdom" through generosity to employees and devotion to customers, making investors rich along the way.

Click here to read about the rest of The 25 Best Companies in America.


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Daniel Ferry

Daniel Ferry is a logistics nerd with a transportation planning background who focuses on transportation and advanced manufacturing companies. When he's not writing about trains, planes, and such, he enjoys learning and thinking about the business behind his favorite things: music, media, and good food and drink.

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Costco Wholesale CAPS Rating: *****