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What Will Happen to Costco's Digital Business?

By Daniel B. Kline - Dec 13, 2017 at 8:17AM

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The chain has made some changes that acknowledge that retailers now operate in an omnichannel world.

You can't look at Costco's (COST 1.35%) digital business without examining its delivery efforts. Even for the warehouse club, which has been more or less immune to the impact the internet has had on many retailers, a move to omnichannel retailing is under way.

Basically, omnichannel means that consumers can buy what they want where they want it. Whether it's a digital order picked up in a store, an in-store order delivered to a customer's home, or really any variation a customer can dream up, an omnichannel retailer can handle it. 

To deal with that, Costco is making some major changes. The company is doing that from a position of strength, as CFO Richard Galanti made clear during the warehouse club's Q4 earnings call.

"Our sales and our comps are strong and have even trended up," he said, also noting that shopping frequency remains strong and has trended up as well. He did, however, add that the company has some new delivery options, and acknowledged that digital orders delivered to the home will play a role in driving sales. 

The exterior of a Costco location.

Costco has expanded its digital operations by adding grocery delivery options. Image source: Costco.

What is Costco doing?

The company has largely built its business on offering value for its members. Because it has low prices, the chain has been able to keep people flocking to its stores in a market where many other retailers are losing customers. Going forward, however, Galanti acknowledged that the growth of grocery delivery could begin to impact Costco's business.

Because of that, the company has decided to change its e-commerce model to allow consumers to order groceries through its website and have them delivered. Costco has actually launched two ways for its members to get groceries delivered.

The first, Costco Grocery, is clearly meant to fend off competition from Amazon (AMZN 3.15%) and Wal-Mart (WMT 0.86%), which offer two-day delivery as a standard (though Amazon only offers it to Prime members). This service offers free two-day delivery on orders of non-perishable items over $75; the total box can weigh up to 40 pounds. About 500 products are included in the offer.

The second offer is a same-day delivery partnership with Instacart. That deal offers an alternative to Amazon's growing same-day delivery service, Amazon Fresh, as well as various same-day ideas Wal-Mart is testing.

"This is currently offered at 376 of our U.S. locations, and there will be a number of additional U.S. locations planned between now and the end of calendar '18 as our partnership expands," Galanti said of the Instacart deal. "There are approximately 1,700 SKUs, both dry and fresh that are offered and can be fulfilled."

It's about giving customers what they want

When a Costco customer orders online for at-home delivery, he or she loses some connection to the chain's warehouses. The risk for Costco is that its members become fully price-driven, rather than partly driven by price but also excited about exploring their local warehouse.

For many year, the chain had not focused on its website because its stores are the destinations that drive membership renewals. A customer may come in for groceries and leave with an 8-foot Teddy bear or snow tires.

That won't happen with online ordering and at-home delivery, but Costco correctly sees that Wal-Mart's omnichannel efforts and Amazon's purchase of Whole Foods require some adjustments to its business model. The chain isn't deemphasizing its warehouses, but it is acknowledging that if it forces customers to come in just to buy groceries than sales may be lost to more flexible retailers.

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