Membership fee ballgame

Warehouse store organizations like Costco and Sam’s club run their stores on a business model where they restrict entry to the stores to members only. Members (for those you don’t know) are the people who pay an upfront membership fee ($50 a year at Costco) to get a permit to buy products in bulk from their stores. How does this work?

Before we talk about how this ballgame is played by the warehouse stores, let’s take a look at some quick facts. First, Costco and the likes have more than 70% of operating income from the membership fees. Second, due to the upfront membership fees, these stored have very less long term debts. Third, the warehouse stores, which sell in bulk packs have significantly less choices for their customers as compared to other stores like Krogers and Walmart.

So how do customers fall in this trap of paying upfront for shopping and living with less than normal number of options? While shopping at these stores, the customers find things cheaper than at other places. There are few main reasons for cheaper products, or this perception of customers. First – bulk packs. By selling everything in bulk, the product manufactures save on packaging costs to some extent and that makes these goods cheaper as compared to individual selling cost at other stores. Second – in-house branding. Costco, to be specific, carry lot of products under their in-house brand named Kirkland. These Kirkland branded products are normally cheaper than the same products of other brands. Costco saves on the advertising expense on its brand and pass on some of the savings to the customers. Third and the most important one that creates a perception that products are even cheaper than they really are is the membership fees. No customer takes into account the membership fee they paid upfront when they compare the price tag of products at these stores to the price tag at any other place.

Another reason a customer goes for warehouse store membership is to get a feeling of being an insider. By getting that membership card and getting access to these large stores, they feel like they are part of something like a cult, which in this case is a really big group. This also creates a repeat customer footfall like nothing else. It is observed that normally a person ends up buying more at warehouse stores as compared to what they would at a regular store. Cheaper products is definitely a reason for this, but I think that’s not the only reason. Another reason, which is not that obvious, is the urge to utilize the upfront membership fee as much as they can. People think that since they already became a member, it’s better to utilize it by buying more.

Initially this model of paying money upfront to buy an entry card to shop at a store sounded very wierd to me, but after trying it for one year at Costco and buying those Kirkland branded product for “less”, I was too much used to it and like most customers, renewed the membership.