The Costco Alternative?

Wall Street prefers Wal-Mart.

By Esther Cervantes

In an April 2004 online commentary, Business Week praised Costco's business model but pointed out that Costco's wages cause Wall Street to worry that the company's "operating expenses could get out of hand." How does Costco compare to low-wage Wal-Mart on overhead expenses? At Costco, overhead is 9.8% of revenue; at Wal-Mart, it is 17%. Part of Costco's secret is that its better paid workers are also more efficient: Costco's operating profit per hourly employee is $13,647; each Wal-Mart employee only nets the company $11,039. Wal-Mart also spends more than Costco on hiring and training new employees: each one, according to Rutgers economist Eileen Appelbaum, costs the company $2,500 to $3,500. Appelbaum estimates that Wal-Mart's relatively high turnover costs the company $1.5 to $2 million per year.

Despite Costco's higher efficiency, Wall Street analysts like Deutsche Bank's Bill Dreher complain that "Costco's corporate philosophy is to put its customers first, then its employees, then its vendors, and finally its shareholders. Shareholders get the short end of the stick." Wall Street prefers Wal-Mart's philosopy: executives first, then shareholders, then customers, then vendors, and finally employees.

Average Hourly Wage		Percentage of U.S. Workforce in Unions		Employees Covered by Company Health Insurance		Employees Who Leave After One Year
Wal-Mart	Costco	Wal-Mart	Costco	Wal-Mart	Costco	Sam's Club*	Costco
$9.68	$16.00	0.0%	17.9%	48%	82%	21%	6%

* Sam's Club is the Wal-Mart unit that competes directly with Costco.

In 2004, Wal-Mart paid CEO Lee Scott $5.3 million, while a full-time employee making the average wage would have received $20,134. Costco's CEO Jim Sinegal received $350,000, while a full-time average employee got $33,280. And Business Week intimates that the top job at Costco may be tougher than at Wal-Mart. "Management has to hustle to make the high-wage strategy work. It's constantly looking for ways to repackage goods into bulk items, which reduces labor, speeds up Costco's just-in-time inventory, and boosts sales per square foot. Costco is also savvier ... about catering to small shop owners and more affluent customers, who are more likely to buy in bulk and purchase higher-margin goods."

Costco's allegedly more affluent clientele may be another reason that its profit per employee is higher than Wal-Mart's and its overhead costs a lower percentage of revenue. However, Costco pays its employees enough that they could afford to shop there. As the Business Week commentary noted, "the low-wage approach cuts into consumer spending and, potentially, economic growth."

Esther Cervantes is the business and circulation manager of Dollars & Sense.