Hot topic: Not in my backyard!

Just exactly how big is the threat to the OP channel from warehouse clubs such as Costco and Sam's Club?

"In each of our annual surveys we ask our customers who their preferred suppliers are and last year Costco came third behind Staples and Office Depot.” 

These are the words of Steve Danziger, Founder and CEO of California-based dealer AAA Business Supplies & Interiors. Chip Jones, President/CEO of Atlanta, Georgia-based Minton Jones, adds: “We are at the beginning of a deeper club penetration into the OP arena here in Atlanta. But other dealers are not really aware this is happening. Word needs to get out because it’s something that’s going to sneak up on more and more dealers over time.”

Words of wisdom or scaremongering? It’s widely acknowledged that the warehouse clubs – also often referred to as wholesale clubs – have a great and, enviably, still very much growing model that essentially goes against the grain of the general retail malaise that OP superstores are battling. 

And what’s not to like, asks investment banking firm Jefferies & Company’s Managing Director Dan Binder? “You concentrate your buying power on relatively few SKUs, say 4,000, you ask the member for a fee to join. They pay that fee and then kind of forget about it but every day they walk in the club and buy at ridiculously low prices, so why shop anywhere else? There’s this marriage through the membership and customers want to make the best of it. That creates loyalty and the low prices create traffic. All round it’s a great model for certain items.”

American shopping culture

But this is nothing new. Warehouse clubs have long been an integral part of American shopping culture. In fact, all three big US clubs – Costco, Sam’s Club and the much smaller BJ’s – have been around longer than the OP superstores, Costco by a whole decade (see ‘Fast facts’ below). Costco and Walmart’s Sam’s Club have indeed expanded the concept across the globe. 

And with the exception of San Diego, California-based PriceSmart that has 30 clubs in 12 Central American and Caribbean countries and one US territory, and a handful of small chains around the world (the Foodstuffs group in New Zealand, for example), those two very much dominate the membership club arena. 

To varying degrees, the clubs have always made the business customer one of their target groups, Costco more aggressively so than Sam’s Club and BJ’s only on the fringes. At store level, however, the focus has been mostly on the very small business customer, and as such has been largely outside the realms of independent OP dealers that would typically target businesses with 20+ employees. In that sense, the OP superstores, at retail level, have arguably been the closer competitors over the years, albeit with a much more comprehensive OP range. 

Business delivery threat

It’s the business delivery side that’s putting the fear into some independents. San Francisco is one of just a few urban areas on the West Coast of the US where Costco has been offering a delivery service for many years. California, incidentally, is also the state that accounted for 24% of Costco’s consolidated US net sales in 2012. 

And AAA is right in the thick of it, says Danziger, singling out Costco Business Delivery (as opposed to its stores) as the biggest threat. “The competitive aspect for us is Costco’s delivery business; that’s what we are facing and where we are having to fight hard to keep customers. Costco has a very good breakroom range, for example, a category we’re increasingly also selling now – and often customers combine their needs in that segment with the OP range they need.”

Where the pendulum really swings both ways for dealers like AAA is the fact that Costco has a $250 minimum order value for its delivery business. This compares to a typical dealer equivalent of $50 to get free delivery. It’s a significant amount and definitely dissuades some people from going down that path, especially since business delivery prices are already noticeably different from store walk-in prices (but then again, what’s available on the business website is not necessarily available in store). On the other hand, it reels customers in because of Costco’s wide spectrum of categories and the perception – and it often is just that, particularly if you factor in the membership fee – that they’re getting a bargain. 

“What happens”, says Danziger, “is that a person wants breakroom supplies which may come to about $100, so they throw in some copy paper and then they get some toner as well to make up the minimum order value. So it builds average order size and sometimes also encourages customers to buy additional products they didn’t go to Costco for in the first place.”

Where dealers win hands-down at the moment is on service, ie from a quality customer service, cost centre billing and outside sales support point of view, but particularly so on the delivery side. 

For a start, Costco’s delivery business is only available in areas where there’s a high density potential customer base and where it makes financial sense to send out one of Costco’s trucks. It’s defined by zip codes that can be searched on the Costco.com homepage. At the moment these areas include the greater Puget Sound (in Washington state), San Francisco Bay, Las Vegas, Los Angeles, San Diego, Phoenix and Atlanta metropolitan areas.

Secondly, there are a number of requirements and restrictions that apply in order to qualify for deliveries from Costco. These are just a few of them:

  • A valid business membership ($55) is required
  • Minimum order value of $250 for free delivery; otherwise a $20 delivery surcharge will apply. Additional delivery fees may apply, including re-delivery charges if applicable
  • All delivery areas should be at least five feet in width to allow accessibility of delivery equipment
  • Within multi-floor buildings, an elevator must be accessible
  • Orders can only be delivered to one central location
  • Costco cannot hand-carry delivery orders up or down any stairs
  • Costco cannot stock shelves or rotate merchandise.

Moving east

It’s interesting that Costco has decided to expand its delivery business eastwards and the Atlanta area is its first target. As a major business hub in the south-east of the country, it’s perhaps not surprising that the city has been added to the fray but it doesn’t bode well for what’s to come. 

Minton Jones’ Chip Jones is just beginning to feel the potential power of the warehouse club’s business delivery and he’s clearly concerned. He says: “We knew Costco was selling business supplies, but the next-day delivery is something that we hadn’t seen here so far. We first started noticing the impact in March. So what’s happening is that the company has been hiring a lot of people on the street, going door-to-door selling membership. They are not selling office supplies, they are selling memberships but specifically to companies – companies that are going to want business supplies.”

And a good proportion of what Costco wants to sell to businesses is exactly what Minton Jones sells – office supplies, food items, coffee and cleaning products. 

Jones adds: “I think all of our product ranges will be affected. If people go online they will see that that they can get everything from Costco they can get from us. There’s no doubt that they’re going to reach our customers. I don’t know how many but we’ve already had several customers mentioning it to us.” 

Price competition

Comparing prices from a delivery point of view, both Minton Jones and AAA are faring fairly well on some items, perhaps most noticeably traditional office supplies, partly because Costco’s delivery prices are higher than their store prices. But as Danziger points out, in categories like breakroom, it’s tough. 

“Number one is that Costco obviously buys direct from the manufacturers at low prices. We as dealers don’t have direct access to a lot of these products. We can compete with them if they’re selling file folders and pens, but when it comes to breakroom products where we have to buy through redistribution channels, we’re paying a premium and we’re finding it more difficult to compete on those products,” he says.

Jones adds: “As with any competitor, we are studying their margins and how they go to market. We will work hard to compete on every turn but one thing that I do foresee as a concern for all dealers within Costco’s delivery areas is that Costco have the ability now to gain access to a very valuable segment of profitable sales within each of our customers. I don’t see that they are prepared to capture all of the office products business from the SMB customer, but the segment that they will be focused on could damage our revenues significantly.”

Store focus

All that being said, the warehouse clubs will no doubt maintain their primary focus – the stores. That’s where the bulk of their revenue comes from. Sam’s Club too has a delivery service of sorts – its Truckload Sales programme whereby business members can receive lower prices on a single item when purchasing that item by the truckload. Such an order will then be delivered to them, either by a Sam’s Club vehicle or by a third-party carrier. It’s a service that has been available to the clubs’ US business members since 2000. That said, it’s a service that OP dealers don’t seem particularly aware of, by all accounts, or at all concerned about.

But it’s clear that from a store and general service point of view, the clubs – BJ’s to a lesser extent – are upping their efforts to the business customer, with certain business-only opening hours, price comparison services, ‘click and pull’ options and the like increasingly on offer. 

Business centre expos

Costco recently converted its supposedly underperforming Morrow store on the outskirts of Atlanta into a Costco Business Center, one of seven such stores in the country (the other six are again on the West Coast of the US).  

While open to all Costco members, these centres have a bigger product focus on the business user rather than the individual or family. They also have regular, so-called expo! events in an effort to attract businesses. 

All Costco Business Centers are located in areas where the company also offers a delivery service so the link between the two is more than just tenuous. And, says Jones, the walk-in store prices during the expo! events are “down and dirty” and simply so low that OP cannot compete with them. 

To reiterate the point made by Jefferies’ Binder, it’s a model that takes some beating in its specific niche. Because such a high percentage of the clubs’ income comes from the membership fees – about 75% of Costco’s EBIT last year came from membership alone – and the fact that they have such low mark-ups, they can afford to offer rock bottom prices for many products. 

The warehouse clubs may not have the widest ranges or even the most discernible products – Costco for example sells very little in terms of Apple products, as opposed to Sam’s Club – but that is changing too in some categories, according to Binder. 

He says: “The general trend has been to increase the SKU count in those categories where they can use the wholesalers and don’t have to warehouse the product themselves. They can get a really good return on assets and basically use the wholesalers as an extension of their own distribution. Their mark-up is so small already – they work on a maximum 14% mark-up and on commodity items like office products it’s even thinner – so that even with United Stationers in the picture (both Costco and Sam’s Club work with United), there’s still room for very competitive prices.” 

It’s not going to be make or break for OP dealers or indeed any other resellers in the office products community. But the warehouse clubs are not going to go away and will up their game all the time in terms of the business customer, so it will definitely pay off to be aloof and prepared should specifically a Costco truck pop up in your own backyard!  

BJ’s

  • Founded: 1984
  • HQ: Westborough, Massachusetts
  • Coverage: 190 clubs in 15 US states, predominantly on the East Coast. Online presence in the US
  • Basic annual membership: $50
  • Total revenues: Approx. $11 billion (company became private in 2011 so it’s an estimate)

Sam’s Club

  • Founded: 1983
  • HQ: Bentonville, Arkansas
  • Coverage: 620 locations in the US and Puerto Rico; international presence in Brazil, China and Mexico. Online businesses in the US, China and Mexico
  • Basic annual membership: $40
  • Total revenues: $56.42 billion

Costco 

  • Founded: 1976
  • HQ: Issaquah, Washington
  • Coverage: 447 warehouses in the US and Puerto Rico; 84 in Canada, 32 in Mexico, 22 in the UK, 13 in Japan, 9 in Taiwan, 8 in South Korea and 3 in Australia. Online businesses in the US, Canada and the UK
  • Basic annual membership: $55
  • Total revenues: $99.1 billion

Metro cash and carry: "Sales concept transformation"

Operators like Metro Cash & Carry are also often referred to as wholesale clubs, but their economics work very differently, partly because they don’t get any revenue from membership fees. They are also generally open only to business customers. Still, they too have cottoned on to the fact that a store-based presence alone is not sufficient anymore, no matter how good the prices. 

First opened in 1964, Germany’s Metro Cash & Carry has long been a marginal competitor in the OP space, and only fairly recently started going down the business delivery route as well. As the company says, “delivering goods to customers contradicted the original cash & carry concept for many years”. But, it adds: “The delivery service is now considered one of the most important successes in the sales concept’s transformation.” 

Indeed, business delivery is now an integral part of the services offered in all the countries where Metro Cash & Carry has a presence. Customers typically receive their orders within 24 hours.

From a product point of view, the catering category is currently the biggest target. That said, the chain admits that this “new” sales channel has also improved the service it provides to its current top customers, whatever industry they are from. The figures speak for themselves. During the last financial year, Metro Cash & Carry’s business delivery service generated sales of about €2.2 billion ($2.9 billion) – a 33% increase over 2011.

In addition to ordering by email, fax or phone, customers also have the option of ordering goods from an online catalogue on an experimental basis – in selected countries only for now. Lastly, in a number of countries such as China, customers have the choice of ordering specifically office supplies directly over the internet and have those articles delivered to them.