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Presentation

Operator: Ladies and gentlemen, thank you for standing by. At this time, I would like to welcome everyone to Costco Wholesale Corporation’s Fiscal Second Quarter 2024 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] I would now like to turn the conference over to Richard Galanti, CFO. Please go ahead.

Richard Galanti: Thank you, Debbie, and good afternoon to everyone. I will start by stating that these discussions will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements involve risks and uncertainties that may cause actual events, results and/or performance to differ materially from those indicated by such statements. The risks and uncertainties include but are not limited to those outlined in today’s call, as well as other risks identified from time-to-time in the Company’s public statements and reports filed with the SEC. Forward-looking statements speak only as of the date they are made and the Company does not undertake to update these statements, except as required by law.

Comparable sales and comparable sales excluding impacts from changes in gasoline prices and foreign exchange are intended as supplemental information and are not a substitute for net sales presented in accordance with GAAP. In today’s press release, we reported operating results for the second quarter of fiscal 2024, the 12 weeks ended February 18th, as well as February retail sales for the four weeks ended this past Sunday, March 3rd. Reported net income for the 12-week second quarter came in at $1.743 billion or $3.92 per diluted share, up from $1.466 billion or $3.30 per diluted share in the 12-week second quarter last year. This year’s results included a tax benefit of $94 million or $0.21 per diluted share due to the deductibility of the $15 per share special dividend to the extent received by our employee 401(k) plan participants.

Net sales for the second quarter was $57.33 billion, an increase of 5.7% from the $54.24 billion in the second quarter last year. Net sales were negatively impacted by approximately 1.5% in the US and worldwide from the shift of the fiscal calendar as a result of the 53-week 2023 fiscal year. The following comparable sales reflect comparable locations year-over-year and comparable retail weeks. For the — in the US, we reported a 4.3% comparable. Excluding gas, deflation, and FX, the 4.3% would have been a 4.8%. Canada reported comp of — for the quarter 9.2%, 9.0% ex-gas and FX. Other International 8.6%, and 8.2% ex-gas and FX. Total company 5.6% reported for the quarter, and a 5.8% excluding gas, deflation, and FX. E-commerce was an 18.4% reported, and an 18.2% excluding FX.

In terms of second quarter comp sales metrics, our traffic or shopping frequency increased by 5.3% worldwide and 4.3% in the US. Foreign — our average transaction or ticket was up three tenth of a percent worldwide and up one tenth of a percent in the US. And foreign currencies relative to the US dollar positively impact sales by approximately two tenth of a percent. While gasoline price deflation negatively impacted sales by approximately four tenth of a percent minus. Moving down the income statement to membership fee income. We reported membership fee income of $1.111 billion, up $84 million or up 8.2% year-over-year in the quarter. In terms of renewal rates, at second quarter end, our US and Canada renewal rate came in at 92.9%, which is up one tenth of a percent from Q1 and 12 weeks earlier.

And the worldwide rate came in also at 90.5%, similar to the last quarter. Membership growth continues. We ended the second quarter with 73.4 million paid household members, up 7.8% versus last year, and 132.0 million cardholders, up 7.3%, with continuing growth throughout the quarters. At Q2 end, we had 33.9 million paid executive members, an increase of 646,000 during the 12-week second quarter. Executive members represent a little over 46% of paid members and a little over 73% of worldwide sales. Moving down the income statement line, next, to the gross margin. Our reported gross margin in the second quarter was higher year-over-year by 8 basis points, coming in at 10.80% compared to 10.72% last year in the quarter, and at 4 basis points excluding gas deflation.

Writing down the little matrix that we usually do with two columns, both reported and excluding gas deflation. First line item is core merchandise, plus 5% — plus 5 basis points year-over-year on a reported basis, and plus 2 basis points ex-deflation — gas deflation. Ancillary and other, plus 7 basis points and plus 6 basis points. 2% reward, minus 7 basis points and minus 7 basis points. LIFO, plus 3 basis points and plus 3 basis points. And all told, total reported, again, gross margin year-over-year up 8 basis points and up 4 basis points excluding gas deflation. In terms of the core margin on their own sales, again, while the number I just read you was a plus 5% — plus 5 basis points and plus 2 basis points ex-gas deflation. In terms of core margin on their own sales, our core-on-core margins were up 25 basis points year-over-year, with food and sundries and non-foods being positive year-over-year and fresh being negative.

Ancillary and other businesses, gross margins were higher by 7 basis points and higher by 6 basis points ex-gas. The increase year-over-year was driven largely by e-comm and partially offset by gas. 2% reward, again higher 7 basis points — lower by 7 basis points both with and without gas deflation, with higher sales penetration coming from our executive members. LIFO, plus 3 basis points. We had a $14 million LIFO credit in the second quarter of this year compared to no LIFO charge or credit in the second quarter of last year. Moving to SG&A. Our reported SG&A in the second quarter was higher year-over-year by 3 basis points or minus 3 basis points would be higher, coming in at — this year at 9.14% compared to last year’s 9.11%. And the higher 0.3% would have been lower by 1 basis point excluding gas deflation.

In terms of Q2 year-over-year, the operations component of SG&A, doing the matrix, was 11 basis points higher, or minus 11 basis points. Ex-gas deflation, minus 8 basis points, so 8 basis points higher. Central, plus 4 basis points and plus 5 basis points. Stock compensation, plus 4 basis points and plus 4 basis points. And total would be 3 basis points higher year-over-year and plus 1 basis point or 1 basis point lower year-over-year or better. And with regard to the operations component being higher by 11 basis points reported and 8 basis points excluding deflation. As compared to a year ago, since — during the past year, we included two last March’s extra top-of-scale increase in wages, which was about a 2 basis point hit to the SG&A line.

As well, in the first quarter of this year we raised the starting wage in the US and Canada. We estimate the impact of that new wage also was a roughly 2 basis point. So, about 4 basis points of that 8 basis points or 4 basis points of that 11 basis points were related to those two wage increases, more than normal. Below the operating income line, Central I mentioned was better by 4 basis points or 5 basis points, and the rest was pretty much straightforward. Below the operating income line, interest expense was $41 million this year versus $34 million last year and interest income and other for the quarter was higher by $102 million year-over-year. This was driven by an increase in interest income due to higher interest rates and higher average cash balances, as well as FX which was favorable versus last year.

We’ll see less benefit from interest income going forward following the January payment of the $6.7 billion special dividend. In terms of income taxes, our tax rate in the second quarter came in at 22.1% compared to 26.1% in Q2 last year. As discussed earlier, this year’s rate benefited from the tax deductibility of a special dividend paid to 401(k) participants. The fiscal 2024 effective tax rate including discrete items is currently projected to be in the 26% to 27% range. And excluding the special dividend tax benefit in Q2, our Q2 tax rate instead of being — coming in at 22.1% would have been 26.3%. Overall, reported net income was up 18.9% in the quarter on a reported basis. And again, excluding the special dividend-related income tax benefit, it would have been up 12.5% year-over-year.

A few other items of note. In terms of openings in the second quarter, we opened four net new warehouses, including three new locations in the US. Actually, two of them were Costco business centers, and one new Costco Wholesale warehouse, and one unit in — our sixth in China in mid-January in Shenzhen. That’s our six in China. There’s been a lot of press about it. We have an estimated 10,000 people who were at opening and there are just under 200,000 members currently, including more than 20,000 members who signed-up from Hong Kong. And we’ve seen all kinds of things over there from tour agencies doing bus trips over to shop. For the full year 2024, we estimate 30 total openings, including two relo’s, so for a net increase of 28 new units.

And that puts the remainder of fiscal 2024 for Q3 and Q4, we plan on opening a total of 15 net new locations, 11 in the US, two in Japan, and one each in Korea and in China. Regarding CapEx, fiscal second quarter spend was approximately $1.03 billion. And for the year, it remains in the north of $4.4 billion to $4.6 billion, in that range. One additional comment on China. This past Monday, we launched in our Pudong, China location, the ability for our members to order online about 400 items from our — of our items to be delivered that day. This — and the delivery will be within about an eight kilometer radius of the warehouse itself. That’s getting a lot of social media attention over there and we plan to launch it in the other four Shanghai area locations by month-end, as well as in Shenzhen sometime the following month.

In terms of e-commerce, e-commerce sales in Q2 ex-FX increased 18.2%. E-com showed strength in several areas, led by sales of gold and very recently silver. As well, appliances were very, very strong, as was gift cards and e-tickets. As well, Costco Logistics enjoyed record-breaking deliveries. Much of that — many of those items are sold via e-commerce. In Q2 of 2024, we completed over 1 million deliveries, up 28% versus Q2 a year ago. In terms of e-commerce sales over the past few months, we believe we’ve done a much better job explaining to our members the significant value propositions we offer compared to traditional competitors in several big-ticket categories. Under the Why Buy At Costco banner and The Price You See Is The Price You Pay banner, we share with our members what’s included in the price of appliances, tires, televisions, computers, and mattresses.

You can see these online on our website of Why Buy At Costco. Just to give you one example. If you take a four-set of high-end tires compared to a traditional retailer, we include, of course, installation, rotation, balancing, a five-year road hazard warranty. Typically that’s a lot less road hazard warranty than other places, or you’d have to pay for it extra, ongoing flat repairs, nitrogen, and disposal of the prior tires. So, just one of the examples where the price of the tires itself might be very close to us. When you put in all the differences of those additional items, it’s anywhere from a 15% to 25% savings on any of these items. Next on my list, talk about costconext.com, a couple of comments on the seller platform. This allows — costconext.com allows our members to exclusive asset — access to direct-to-consumer sites for top-quality brands at Costco value pricing.

Currently, there are about 70 — there are 70 Costco Next brand sites, with 15 additional sites in development. We will likely end this calendar year with about 90 sites and continue to grow from there. Costco Next offers everything from home improvement to apparel to pet to home to kitchen to electronics to accessories, as well as sports, bicycles, and toys. You should check it out, it’s a pretty good site. Progress continues to be made in our e-com, mobile, and digital efforts. A couple of recent enhancements. In February, we rolled out our new native mobile application homepage on iOS. The native homepage now loads in less than 2 seconds compared to 8 seconds previously. Needless to say, that’s important when about 60% of our e-com business, both visitors and orders, are now done via our mobile app and browser.

And last week, we rolled out Apple Pay to all members online, both web and mobile, on February 28th. App downloads during the quarter were up 2.8 million and currently total around 33 million. On the product side, a couple of other new items to comment on. In our food courts, we recently replaced the churro with an awesome freshly baked 5.5-ounce chocolate chip cookie for $2.49. It is awesome. It’s a great-tasting — and a great-tasting turkey sandwich for $6.99, with the rollout of the latter being completed this week. In addition, we recently opened our first fully operated sushi offering in Issaquah, Washington, across the street from our headquarters, with two more planned to open in the very near future. This operation is what we have successfully done for years — for many years, and throughout our Asia Costcos and several countries over there.

The sushi program has proven to be a category where we can be successful in both quality and price, and we’re looking forward to seeing more of that in the future. A couple of comments about inflation. In the last quarter, in the first quarter, we estimated that year-over-year inflation was approximately zero to 1%. We’ll now say that in Q2, it was essentially flat. And notwithstanding essentially flat, we’re taking price reductions where we can. Anecdotally, everything from simple items like reading glasses from $18.99 to $16.99, the 48 count of Kirkland Signature batteries from $17.99 to $15.99, a 24 count of Pellegrino from $16.99 to $14.99, and even a four pounds of frozen three berry fruit blend from $14.99 down to $10.99 with new crop pricing.

So, we continue to do that. We always want to be the first out there trying to lower prices. Many new items in sporting goods and lawn and garden are being set with lower prices year-over-year, and overall, mostly due to reduced freight costs and lower commodity costs versus a year ago. And overall, our inventories and SKUs are in good shape across all channels. Overall, we’ve had good seasonal sell-through during the quarter. In terms of shipping and supply chain issues, we’ve been asked about that often of late. There are some delays, generally just a couple to three weeks, but mostly now planned for. First, there was an issue a while back with the Panama Canal challenges. Then, of course, the Red Sea challenges. A lot of that has to do with changing the way ships are being routed.

No meaningful pricing issues because a lot have been placed contracts. Finally, turning to our February sales results, the four weeks ended this past Sunday, March 3rd, compared to the same retail calendar weeks last year. As reported in our release, that sales for the month came in at $18.21 billion, an increase of 6.9%, versus $17.04 billion for the same four retail weeks last year. Again, just to announce what we did in the announcement earlier today, the US reported comp of 3.4% for February, ex-gas and FX, 4.1%. Canada, 8.4% and 8.3%. Other international, 10.8% and 11.3%. For our total Company, a 5.0% reported and a 5.6% ex-gas and FX, with e-com coming in at a 16.2% reported and a 16.0% ex-FX. Our comp traffic or frequency for February was up 6.2% worldwide and up 5.0% in the US.

Foreign currencies year-over-year relative to the dollar negatively impacted total and comparable sales as follows: Canada by about one tenth of a percent negative; other international by approximately 0.5%; and total Company by approximately one tenth of a percent. Gasoline price deflation negatively impacted total reported comp sales by approximately 0.5%, and the average worldwide selling price per gallon of gas was down approximately 3.5% versus last year. Worldwide, the average transaction for February was down about 1.1%, which includes the negative impacts from FX and gas deflation. In terms of regional and merchandising categories, the general highlights are as follows: US regions with the strongest comps were Midwest, Southeast, and Northeast.

In terms of other international in local currencies, we saw strength in Mexico, Australia, and Korea. Moving to merchandise highlights, food and sundries were positive in the mid-single-digits. Fresh foods were up high-single-digits, and non-foods were positive mid-single-digits. And ancillary businesses were up in the low-single-digits. Food court, pharmacy, and optical were top performers, with gas down low-single-digits on a lower price per gallon. In terms of upcoming releases, we will announce our March sales results for the five weeks ending Sunday, April 7th on the following Wednesday, April 10th after market close. And lastly, before I turn it back to Demi for Q&A, I’d like to take a moment to say thank you to many of you who have turned in to each quarter, some for many years, to allow me to share with you Costco’s results, both our ups and our downs, and thankfully many more ups than downs, and provide some fun and informative color on how we’re doing along the way.

Since going public in December of 1985, I have hosted all but one call and it’s been an absolute privilege and honor to do so. So, thank you all. As you know, in early February, it was announced that I will be ceding the role of CFO to Gary Millerchip effective March 15th after our second quarter 10-Q is filed, and retire, including from our Board, next January. It’s a bit surreal of late, but what a wonderful journey it has been with such a great Company and great people, including many of you on the call today. I have certainly been very fortunate. The good news, Gary joined Costco last week, and along with David and Josh, will continue to provide to you all with the transparency and straightforwardness that we are known for. It will be a positive and seamless transition.

With that, I will be happy to turn it back to Demi to open it up for Q&A.

Operator: The floor is now open for your questions. [Operator Instructions] We’ll pause for just a moment to compile the Q&A roster. Your first question comes from the line of Simeon Gutman with Morgan Stanley. Your line is open.

Simeon Gutman: Hi, everyone. Hey, Richard, best wishes to you. Thank you for all your guidance. That’s a metaphor since you don’t give guidance. My first question is on the — this is like a parting question on membership, and I want to make sure this framework sounds right. I know you said it’s if, not when. And as part of the thought process is, there are enough levers in the business, product savings, cost savings, to be able to drive an appropriate level of profit growth from the business. And when that no longer presents itself, that’s when the membership price increase can come through. And that can come through earlier than that, but that was one framework we were thinking in this, as we wait to hear when it happens.

Richard Galanti: Sure. And by the way, it’s when, not if, still. And but really, joking aside, we’re not that smart in terms of figuring out exactly why. I mean we know that all the factors that we believe, if we wanted to do it, would we feel comfortable in terms of renewal rates, new member signups, loyalty, all those things are continuing in the right direction. It really is a function. And I don’t think it would be done simply because, hey, things have slowed down a little bit, let’s do it now. We like the fact that we’re performing well. We like the fact that almost all metrics are going in the right direction in our business right now. We’ve got plenty of runway left. And given the economy and given everything else, it’s us, it’s Costco, so I think it is simply still not trying to be accede about it, it’s not some big analytical formula, it’s simply a measure of we will at some point, I’m sure, do it.

And I’ve been joking with Gary, it’ll be on his watch, not mine.

Simeon Gutman: And then maybe one more, Richard, is another question. You used to — the business has comped very consistently over time and you used to say, I regret when it won’t comp north of 4% to 5% because that’s where it may be tougher to leverage our expenses. If you think about that framework, does it still apply? And then as you hand the baton to Gary and even Ron, do you spend more or are there ways where you — the cost structure of the business can actually be altered to lower that leveraged threshold point?

Richard Galanti: Right. Well, I would say it’s probably more likely to go up a little bit down just because of whatever goes on in life with inflation that happened. But I got to look back at the last few years. We were — we and others were helped through the crisis of COVID. And we haven’t given a lot of that back. If I look at our SG&A, I remember when in fiscal 2019, it came in at a $10.04 billion. I’m looking at these numbers here. And even in 2020, it was at a $10.30 billion in the first quarter before COVID. And then in fiscal 2021, it was at $9.65 billion and then down to an $8.88 billion. And now it’s up to fiscal 2023, it was a $9.08 billion. So, notwithstanding that, I remember when it was slightly above $10 billion, we said, well, it’s never going to get below $10 billion again.

And a lot of factors continue to change. But just the sheer high productivity that we have is frankly higher than we thought. Some of that was gained through COVID because of everything else going on. But we haven’t given it back. The good news is, we haven’t given it back. And the good news continues to be that we seem to continue to be able to take market share. I think the fact that on big-ticket items, there’s less SG&A. We continue to change the pack sizes of things for less freight, whatever it is. Although freight would be, that would be SG&A. But it is still a lot about sales at the end. And if you ask the rhetorical question, if comps went to zero, what would that mean? That would be tough on SG&A, but we’d figure other things out.

Simeon Gutman: Yes. Okay. Best wishes. Thanks, Richard.

Operator: Next question comes from the line of Chuck Grom with Gordon Haskett. Your line is open.

Chuck Grom: Hey, good afternoon. Richard, congrats on a great career, for someone who started on basically day one at the Company. My question is on culture. You’ve always said it was customers first, employees second, shareholders third, and that philosophy’s clearly played out. So, looking at it, I’m curious how the new team is going to keep this culture intact and resist pressure from some of the non-founders of the Company going forward.

Richard Galanti: Well, first of all, nothing has changed. It’s not unlike the same question I think that was asked of Jim Senegal after 28 years before he retired, and before we knew who his successor was going to exactly be. And I remember the Board asking, if you’re 100 in terms of extreme value and extreme taking care of the customer and the employee and everybody else, whoever takes your place, what will they be? And he paused for a minute and said, I have no doubt they’ll be at least in the mid-90s if not higher. And frankly, after Craig was made that, in my view, whatever that number was, it increased towards a 100 just because that’s what we do. That culture is so ingrained here. And we talk about changing management.

I always joke when people ask me as CFO how I’m important — am I important to the strategic whatever of the Company? The fact is, is we’re run by merchants and operators, and we’re there to serve and help them and certainly add our voice. But the fact of the matter is, and Craig for 12 years and now in Ron, you have people that have been here for 35, 40 years and were born and raised and have grown up in this culture. And it is so intact. Just last week when Gary joined us, he had to go through the required two-hour Costco orientation, which includes the obey the law, to take care of your customer, to take care of your employee, to respect your supplier. And then if you do that, you can reward the shareholder. It is — that’s the one thing I can sleep very well at night.

Chuck Grom: That’s great. Thanks, Richard. Enjoy your retirement.

Richard Galanti: Thanks.

Operator: Next question comes from the line of Michael Lasser with UBS. Your line is open.

Michael Lasser: Good evening. Thank you so much for taking my question and best of luck, Richard. You mentioned previously that most of the metrics are moving in the right direction. Could you highlight which metrics are not moving in the right direction, especially from a membership per club standpoint? Are there any signs that some of the more mature locations are either reaching a saturation or starting to see a peak in that metric?

Richard Galanti: No. First of all, when I said most, I was just trying to be human, that nobody is perfect. Everything is working in the right direction right now. And actually, I wasn’t talking just about membership metrics, but in general, knock on wood, things are working pretty well. When I — when we sit in at our monthly budget meeting, more times than not, we get pretty excited about what’s going on from a new merchandising standpoint, newness, buying with conviction, and being aggressive and assertive out there. I mean, what we saw with just even that simple example I gave you with changes to big ticket items and why buy them at Costco, we saw great changes in numbers. So, we know that we’ve got a lot of levers to be able to pull to make this thing work. And so no, I just said, honestly, I said most because nobody is perfect. I didn’t have any particular examples.

Michael Lasser: Understood. My follow-up question is on what seems like an inflection in the discretionary business. To what degree is Costco experiencing improvement in the GenMerch categories as a result of aggressive changes, either like you had cited with the way you’re communicating with the customer or the member, or aggressive actions to take down prices? And if you are pulling those levers hard, is there an opportunity to move even more aggressively to drive the discretionary business? Because it does seem like Costco is experiencing a rebound in some of these areas more so than the rest of retail. Thank you.

Richard Galanti: Yes. And no, and absolutely. When — what is it? It’s called — it used to be NPD, it’s Circana, which is that industry that shows you how you are on different product — non-food product categories versus the industry. When we look at something like appliances in the last several weeks or a couple of months, the industry is flat and we’re up north of 20%. Same thing with tires, more than that percent. And so, now that you can’t say, let’s do everything and everything will be up 20% or 30% because that’s not going to happen. But at the end of the day, the focus of the buyers, as an example, is coming up with new ways to do things, to have great pricing, and to constantly improve that pricing and figure out how to do that with our global buying power with — every time there’s a commodity price increase.

Given an item business, we have buyers that are in charge of 20 and 30 items, if not less, not 200 and 300 items in a category. They know a lot more, in our view, about every cost component of that. And I think — I feel very good that we do a very good job, and I’m not suggesting others don’t, but I know we do a very good job of getting on the phone immediately and working those issues. And as soon as we can get a savings, we’re out there first passing it on. And that’s just our religion. Now, we’re able to do that partly because our sales have been relatively strong, and we’ve lapped some things from last year that have helped.

Michael Lasser: Thank you very much.

Operator: Next question comes from the line of Peter Benedict with Baird. Your line is open.

Peter Benedict: Sure. Thanks for taking the question, and my congratulations as well. Well done. It’s been a pleasure. Wondering if you can maybe talk about Kirkland, the penetration, what’s going on there, any member shopping behavior around kind of private brand versus branded, and maybe what some of the branded packaged good companies are doing to maybe get some volumes up. Just curious about your view on that.

Richard Galanti: There’s not a lot of trade down, although when we — we sometimes have more control over certain private labeled CPG items that we’re able to drive more business, and so we’re seeing an increased penetration of that versus some of the brands sometimes. But then that gets the brands to the table to work to provide more value on the branded as well. We want to be both. But we haven’t really seen — that was a question that happened as “the economy was” — the question is, are we going into a recession, a couple of years ago, and inflation was peaking at 7%, 8%, and 9%, and are we seeing a difference? So, we did see a — if you look back over the last 20 years, and without looking at the exact numbers, it seems like every year we’d grow a 0.25% to a 0.5% of increased Kirkland Signature penetration.

And then there was one year when we were asked a couple of years ago, it seemed like there was 1% to — 1.5% to 2% — even 2% change in penetration. So, people were, in my view, switching a little bit out, but that’s changed. We don’t see that as much anymore.

Peter Benedict: Got it. And then just on Costco Logistics, you gave some delivery numbers there. Just maybe step back a little bit. The penetration of Costco Logistics within the business, how meaningful is that at this point? What’s left in terms of maybe growing that? Is that just going to go with the big ticket trends, or are there, I don’t know, internal initiatives to kind of drive further penetration of Costco Logistics?

Richard Galanti: What is done strategically, I hate to overuse that word, it’s allowed us to be much better in value and delivery times and quality, and brought the delivery costs down on big ticket items, particularly appliances and big screen televisions, mattresses, and furniture, indoor and outdoor patio and mattress and patio furniture and indoor furniture, some sporting goods. And before we bought Innovel, we’re now called Costco Logistics in the spring of 2020. And the year before that, in the US, we did about 2.2 million drops. And a drop is anything from dropping off a sofa to delivering and installing a new refrigerator, freezer, or washer, dryer, and taking the old one away for disposal. Both of those are a drop, recognizing their extreme difference there.

But we did about 2.2 million drops in the US, none of which we did ourselves. With the acquisition of Innovel, I think for the – probably over the last — with this million this quarter, a rough number of 4 million drops, which I believe about 70% of them — over 4 million drops, and about 70% of them is us. We’ve reduced the delivery times. We’ve just introduced in some categories like two-hour windows where you can — or three-hour windows where you can choose, two-hour windows where you can choose. So, we’re constantly getting better, and we’ve greatly improved the value. And when you look at something, a category like appliances, we’re still a very low percentage of the industry. And, the fact that it was up, 20%-plus last month or last quarter, is a function of some of the things we’re doing in terms of shouting out how good of a deal it is and doing a better job of that.

But we think we have an opportunity to continue to grow those categories, recognizing they’re all meaningful categories, but they’re all small percentages of our total. That’s one of the nice things about us that we have lots of different categories.

Peter Benedict: Got it. Great. Well, thanks again, and best of luck, Richard.

Richard Galanti: Thank you.

Operator: Next question comes from the line of Rupesh Parikh with Oppenheimer. Your line is open.

Rupesh Parikh: Good evening, and thanks for taking my question. And Richard, I also want to offer my congratulations on your retirement. So just going back to the core on core margins, they’re up, I think, 25 basis points this quarter. Just curious what drove that strong performance, if there is anything in particular driving that?

Richard Galanti: Well, on the non-food side, the biggest thing is — well, not the big — a piece of it is comparing to last year when we had extra markdowns. I think we probably talked about it last time that non-food was — a year ago had been down year-over-year because of some of the supply chain challenges we had when such things were coming in late after the season in case some of the big ticket items from overseas containers. So, that was probably a chunk of it. On the Fresh food side, I said it was down year-over-year a little. Fresh is competitive, and we’re being ever competitive on it as well. And — but again, I don’t view any of that as being terribly meaningful in terms of, is that a big change that is coming. There’s always something that’s up a little bit, and there’s another thing that’s down a little bit.

Rupesh Parikh: Great. And then maybe just one follow-up question. On the expense side, you guys did have better expense controls this quarter. So, just curious to what changed sequentially, because the growth rate did decelerate by a few percentage points.

Richard Galanti: I can’t think off the top of my head other than I — actually, someone across the table has just said the word focus. At our budget meetings, which happen every four weeks with 150-plus people in town from all over the world, those are the kind of things we look at. And I think the operators are doing a better job of budgeting. And one of the things I think that came out at the last budget meeting in terms of budgeting, if you budget sales a little higher and they came in a percentage — a percent lower, you’ve got to your labor costs. And so a lot of it has to do with focus and being meaningful about it. We certainly don’t try to control expenses by not doing a wage increase when we think we need to, and we certainly have done that.

Rupesh Parikh: Thank you. Best of luck.

Richard Galanti: Thanks.

Operator: Our next question comes from the line of Scott Mushkin with R5 Capital. Your line is open.

Scott Mushkin: Hey, thanks. Hey, Richard, I feel like we should be, like, raising your jersey to the Rafters like a superstar is retiring here. I never came without you, to tell you the truth. So, congratulations.

Richard Galanti: Thank you.

Scott Mushkin: So, here you are. So, yes. So, we’ll have to see that The CFO Hall of Fame. So, a couple of things, some of your comments that you made. You’re doing this delivery in one hour in China. I think you started going from one club to three. Is that something you envision that can expand outside of China? And how should we think about that, maybe even vis-a-vis the US?

Richard Galanti: Well, in a way, we’re doing the same thing here with a few people, most notably Instacart. And a little bit was shipped down in the Southeast. And I think we’ve got a test in Texas with Uber. But at the end of the day, we had that same-day delivery already as function. Over there, it is a third-party that’s doing it, like Instacart or these other ventures here. So, it’s just — it’s new. It’s not something that’s new to the warehouse club industry in China. You could look elsewhere and find it too. But it’s certainly something that makes sense. And again, in part because of social media, there’s been a lot of publicity and just, I mean, from the day it launched three days ago, it’s gone nuts in terms of how many page hits it’s getting and all that stuff. But it’s just part of the business.

Scott Mushkin: Got it. And then we’ve talked about this over the years, and I think you said you’re going to do 28 net new clubs this year. What’s the capacity of the organization? Where do you go? Do you envision that going to 35 and 40? Like, how should we think of it as we move out three to five years? Is it something that’s going to trend up?

Richard Galanti: I think, who knows, but I think generally it probably trends up a little. There was a few years there, excluding the year when COVID hit, that we only did like 13 because there were shutdowns in certain countries of construction and as well as the US. But if you look back, excluding that year over a three or five-year period, plus or minus a couple of years there, it was about 23 a unit. Without looking at numbers, about 23 units a year. At the time, you said, what do you see over the next 10 years? What we saw collectively was is somewhere in the, hopefully, targeting, let’s say, 25 for the next five years per year, and then going up to 25 to somewhere in the high-20s, if not 30. I think that’s generally the sense that we feel.

Could we do more? Yes. Are we comfortable doing it this way? Yes. I think part of that is it’s such a hands-on business. I get to say that from sitting here in headquarters most of the time, not traveling like my colleagues do in operations. But, Ron is a great example. I mean, he and several regional executives in operations, if there’s an opening somewhere, or not an opening, they’re out visiting, usually at least two, if not three weeks a month, or out for three or four days, jumping around, visiting locations, not only existing locations, but new sites. And so, I think from a standpoint — and the other thing is, particularly in newer countries, you want to get the first one open so you can train 50 or 80 people that want to move to the next location in that city that’ll help that one go.

And we were very fortunate a few years back in the first Shanghai, in Minhang in China, where we had a number of employees from Taiwan that wanted to move and be promoted into new locations, new jobs over there. So, that helps us when we have one, then two, then four, then whatever. So we take it slow. All I know is, we’re all very busy, and, particularly the operators and merchants as well. And so that’s kind of the paradigm that I think that we’re going to continue to work at. Something in the 25 range, and then heading up. Just a month — just a quarter ago, I think our budget for this year was 32, and now — or 31, now it’s 28. And that’s simply timing. There is two or three that are pushed, that for whatever, construction delays, or you found something in the soil delays, or whatever it might be, they might have moved from mid to late summer to early fall, which is the new fiscal year.

So, I’m feeling pretty good that we’re going to open 25-plus for the next couple of years, and then probably 28-plus, and go on from there.

Scott Mushkin: Perfect. Thanks, Richard.

Operator: Next question comes from the line of Greg Melich with Evercore ISI. Your line is open.

Gregory Melich: Hi. Thanks, Richard. You mentioned the word surreal, the feeling of retiring. I’d say it’s almost as surreal as a $4.99 chicken. So, thank you for all the help over the years. I would say, I guess two things I want to touch on. One is ticket pressure. It looks like just in the most recent sales, with traffic growing more and more, that you’re seeing some AUR pressure. Is that 0% inflation turning to deflation, as the merchants are seeing into March and April?

Richard Galanti: Well, I think that, again, the inflation number is a calculation based on costs and mix. I think it’s probably — I wouldn’t look too closely if the average ticket was up a couple of — a few tenths in the quarter, and then it was down a percent, down in February by a tenth. That’s still relatively close. Some of it’s a mix change, I’m sure, and some of it is — some of the examples I gave you about lower pricing. Even if the underlying cost hasn’t changed, some of it may be in terms of how we package, and we take advantage of that. So — and that’s on the sales side and not on — not the exact cost from yesterday.

Gregory Melich: So, looking ahead, that number of flat looks pretty good from what the merchants are seeing today.

Richard Galanti: Yes. I think when I go to the last budget meeting two weeks ago, I think there’s — in the presentations, there’s a lot of — I used the phrase a few minutes ago, upscaling. I didn’t use that phrase, but then buying with conviction. I mean, I think the buyers are looking ahead right now in an offensive way and a positive way. Hopefully, we’ll be right, but we feel so far we’re being right.

Gregory Melich: I wanted to follow up with my second question on the Instacart side of e-commerce penetration. What would e-commerce penetration be now in the US if you included the Instacart delivery and the other deliveries?

Richard Galanti: Yes. Instacart is 1.5% to 2% percent, something below 2%, but more to 1.5%, which is still on a $200 billion retailer, it’s a lot. And we don’t include that because that — the Instacart person comes in, buys it, and checks out at the front end, so we don’t include that. So, you’d add — depending on rounding, you’d add 1% to 2% to the top-line number.

Gregory Melich: Got it. Well, thanks. Thanks for everything, and enjoy retirement.

Richard Galanti: I hope to see you all.

Operator: Next question comes from the line of Kelly Bania with BMO Capital. Your line is open.

Kelly Bania: Good evening. Thanks, Richard, and I have to add my congratulations to you. It’s been a pleasure. Just wanted to ask where Costco stands with retail media and advertising dollars. I think the last update I had was in the range of a few hundred million. Just curious if you’re willing to share with us where that stands today, what kind of growth that is experiencing, and just the Company’s thought process on investing in that down the line.

Richard Galanti: Well, without giving numbers out, we know there’s an opportunity there more than we’ve done in the past. In the last six or eight months, we’ve brought on people that are seasoned in this business to help us, and it’s a point of focus. We know that there’s money out there. We’ve always been very successful in other forms of vendor buckets, whether it’s end caps or advertising in our own Costco connection. And, of course, over the last several years, some advertising online or banners or placement, but there’s a lot more that can be done there. Rest assured, whatever it is, we’re going to use it to — just like when we always said if we can save a dollar on buying something, we’re going to give $0.80 or $0.90 to the customer.

I think that mantra will continue on this side as well. So — but there’s certainly ability for more dollars out there. Some of our big retail competitors have talked about doubling in five or six years what they have. I think, again, it’s a lower market share for us, so there’s a little more opportunity for us to continue to grow that.

Kelly Bania: Thank you. And maybe just can I just follow up with the decision to roll out Apple Pay? Costco is pretty notorious for being strict on the payment method you can use. So just maybe the thought process on that, what you expect that to do for your e-commerce business, and any economics you can share.

Richard Galanti: Yes, on e-commerce, there’s not as many stored cards for our members. And as we’re doing more with a digital wallet, that’ll help as well. So, it’s something that should help.

Kelly Bania: Fair enough. Thank you.

Operator: Next question comes from the line of Oliver Chen with TD Cowen. Your line is open.

Katy Hallberg: Hi there, this is Katy on for Oliver. And, of course, best wishes to you in your retirement. Just wanted to talk a little bit about the Kirkland price gap versus national brands. I know you touched on the Kirkland brand a little bit earlier on the call. But how has that price gap changed, especially year-over-year? And how has there — has there been any impact to unit elasticity given that price discrepancy? Thank you.

Richard Galanti: Well, we definitely have seen an impact from it. I think historically, the view was it has to be at least as good, if not better quality than the leading national brand, and at least a 20% savings as compared to what we sell the national brand for. And those metrics continue in that regard. I think what we’ve seen when we look at some of the items that have risen greatly in price, like paper products, on a percentage basis over the last several years because of freight costs, because of pulp prices, because of energy, all those things have dramatically increased. And what used to be — I don’t know the exact numbers, but for an 18-pack of — a 24-pack of toilet tissue or a 15-pack or 18-pack of paper towels, you’ve got price points in the high $20s, if not low-to-mid $30s.

And where we can show a dramatic savings on that, we’ve seen dramatic changes in unit market share towards Costco — towards Kirkland Signature. But that’s something that’s been an iterative process over many years, probably goes up and down a little bit. I’d say it’s gone up a little bit in terms of a little more of a penetration in the last couple of years.

Katy Hallberg: Great. Thank you. And then just to follow up on the store discussion and unit growth, can you just provide a little bit of color on how the international store openings are performing just from a productivity angle? How is that versus the more tenured stores as well as the domestic stores?

Richard Galanti: I don’t think there’s a big difference. In new markets, it’s always a little slower. So, like when we opened originally in Iceland or Sweden or Auckland or some of those or France several years ago, you’re always going to start — or frankly, Japan 20 years ago, you tend to start out lower. In some cases, it’s also a question is, some local vendors may not want to — local country vendors may not want to sell you because they want to upset all the big traditional that have all the market share before we enter. And once we get two or three open, they talk to you a little more. And so I think all those things help us as we grow. Certainly, it’s changed a little bit in the last few years. China being the most recent example, when we opened the first one in Minhang in Shanghai, what, about four years ago?

It made international news based on just the sheer number of members we signed up and everything. So we have a lot faster start, I think. Each year, we have a lot faster start than the year before. And so I don’t see a big difference there. We certainly — if you look in the US, I mean, I think one thing that’s interesting is this fiscal year, we’re going to open, whatever, 28 units. Let me get my page here. And, I think of the 28, 20-plus are in the US, which is — some people have asked, has it slowed down internationally? No, international takes a little longer to do. But what’s interesting is, is we have a lot more runway than we ever thought possible. If you had asked us five years ago, by now, how many would we be putting in this year in the US?

We would not have said 20-plus. It’s got to slow down at some point. But the volumes that we’re now doing in these locations, we’ve got to bleed some of that off. And so that’s one good point. And then we’ve still got plenty going on overseas. And you’ll see that continue to ramp up as well.

Katy Hallberg: Excellent. Thank you so much, and best wishes again.

Richard Galanti: Thanks.

Operator: Next question comes from the line of Scot Ciccarelli with Truist. Your line is open.

Scot Ciccarelli: Thanks for the time, guys. It seems like you guys are doing some things to cut down on membership sharing, food court usage from nonmembers, etc. Richard, are you seeing something in the business that gives you concern that there’s a growing issue from things like membership sharing?

Richard Galanti: No, I think part of it is — first of all, I think the storyline sometimes is a little greater than the reality. During COVID, we did a little bit more. There was a little bit more membership sharing. You had individuals where one family member, maybe not the one that had one of the two memberships, was coming into shop with mom or dad’s credit card. And we allowed it. And then with the advent of self-checkout over the last several years, when you walk in the front door and you just flash your card and do they look at it or not, who knows, you would — people would get in. And if you’re going through self-checkout, you’re not having to show your membership card to the cashier. And so there’s probably an increasing but still small level of abuse of that privilege.

And — but we also had complaints from members saying, I pay, why shouldn’t they? So, the view was — is we needed to just shore that up a little bit. And we did. We did it over a period of six months, I think about six months, where we — first there was warnings, and then ultimately changed. Are we getting some new signups from it? Absolutely. But it’s relative to the 60 million or 70 million members, it’s not terribly meaningful. But it’s more fair and the right thing to do.

Scot Ciccarelli: Yes, I mean, that was actually — you started to answer it. So, like you’ve seen some acceleration in membership. Should we kind of expect to see that in the future, like what we’ve seen with Netflix, for example, as they cut down on their sharing?

Richard Galanti: Right. Well, it seems like Netflix had a much bigger issue or the ability to share was much easier because, first of all, it’s electronic. In this sense, you still have to show a card when you walked in. And we’re actually doing testing on that too, in terms of having your card be scanned and reviewed when you walk in. And we’ve done that in the UK, I believe, for a few years. And so it’s all about — just I would say it’s as much hygiene as anything else. And it’ll be slightly profitable to the extent that we make sure everybody — I think we signed up more members than there were non-members then lost the small sales that that non-member did.

Scot Ciccarelli: Makes sense. Thanks again. And enjoy the next stage.

Richard Galanti: Thank you.

Operator: Next question comes from the line of John Heinbockel with Guggenheim Securities. Your line is open.

John Heinbockel: Congratulations, Richard. Enjoy your retirement. You’ll be missed. So, when you think about — you don’t have many pain points in your in your clubs. But when you think about kind of throughput and things like, I know you tested BOPUS and cost really didn’t make sense there. Things like that and/or scan and go, what — do you think there are some unlocks here to do more volume and/or reduce any pain points?

Richard Galanti: I think the biggest challenge with pain points, first of all, is full of merchandise and pallets through the system, which we continue to work on and improve. Never — if you’d asked us 10 years ago, will you ever have 150 of your 600 US locations doing over $300 million and 40 of them doing over $400 million? The answer would be no, no way, even with inflation. The fact is, is we’re doing a lot more volume than we’ve ever thought we would do. And so the biggest answer of not only making it a little more efficient, but driving more sales is cannibalizing. We find existing members that sometimes will say, I don’t want to go there. It’s too busy today. And by opening up that third or fourth unit in that city, we’re seeing not an increase of by a third or fourth of the membership base, but a significant increase in sales.

And I can’t think of anything specifically. We’re always doing things with — Oh, David mentioned something here. One of the things we’re in — we should be doing shortly is having warehouse inventory online. So when you go online to — now, I say that a couple of people in the room are smiling and says it may be a few months or a few more than a few months, but it’ll be soon. But at the end of the day, if you look at something to buy online and we have it in the location or two in the zip code where you typically shop — in the location you would shop physically, we’ll let you know you can buy it there. And in many cases, it’ll be cheaper if you go pick it up yourself because the online cost might be higher. It’s typically higher, particularly on the non-food items.

So, I think that’s something that’ll help that as well.

John Heinbockel: And secondly, is there any way to tell you think about email outreach. I mean, it seems to be getting better and more call to action. I try to think about the seven days of spring, which are in the middle of now. Is there a way to tell the productivity of that outreach? And is that driving some of the e-com pickup?

Richard Galanti: Absolutely. And yes, there is a way to tell. We’re looking at it. Again, without going into a lot of detail, a couple of years ago, we brought in a new person in charge from IT in terms of all digital. He’s built a team. They’re working closely with merchants and operators, but mostly with merchants in terms of doing these types of things. And we’ve seen, again, lots of improvements with our app, with our desktop. It’s getting less clunky by the day and more ability to do some items to drive sales and some promotions like that.

John Heinbockel: Okay. Thank you.

Operator: Our next question comes from the line of Chris Horvers with JP Morgan. Your line is open.

Chris Horvers: Good evening and we’ll miss you, Richard, and welcome aboard, Gary. So, on the MFI, can — did you mention how much the FX impacted total MFI growth year-over-year? And more broadly, it seems like it’s becoming more competitive to acquire customers in the club channel. Couponing amongst your peers has really accelerated over the past year. Is that what you’ve observed? And do you think it’s still escalating? And how are you responding?

Richard Galanti: I got to tell you, we in the last 12 months, we opened like 3% new locations. We had a 7%-plus increase in new members. So we’re not finding — we do a few promotional things, but I would say we have not increased the types of things we do at all. And you’re right. At other places, there’s not a day that goes by you can’t get a deep discount, much deeper than we’ve even ever done on an ongoing basis. And so, no, we’re not doing anything different. We’re — I mean, are we pleasantly surprised by the rate of new signups? Yes. It’s nice to hear and have. And I think the fact that things like social media has helped us with the value proposition. And so, no, we’re not doing a lot of things in that regard.

Chris Horvers: And just from a technical question, what are your peers talks about tenure renewal rate? The 93% that you quote, does that include like the year-one renewal or anyone that comes to the door on one of those digital coupons?

Richard Galanti: Yes. It does. And we’ve been doing the same way forever.

Chris Horvers: Got it. Thank you very much and best of luck.

Richard Galanti: Thank you.

Operator: Next question comes from the line Robby Holmes with Bank of America. Your line is open.

Robert Holmes: Oh, hey, Richard. My congrats as well. You will be missed very much. Listen, just a quick question. I love the credit card rewards program. It’s amazing. It’s like the best thing that’s ever happened to me. The Citi Card you guys do. Is there any issue or change with the late fees or anything going on that could change the rewards program or anything there?

Richard Galanti: Well, that’s the new recent headline of that’s happening and we’ll have to wait and see. Look, at the end of the day, it may change the economics. There are other levers that we’ve talked to them in the past, our issuing bank about what we could do, but nothing is done at this point.

Robert Holmes: Got it. Thanks again and congrats on your retirement.

Richard Galanti: Thank you.

Operator: Next question comes from the line of Laura Champine with Loop Capital. Your line is open.

Laura Champine: Thanks for taking my question and wish you a long and happy retirement, Richard. It is — I’m going to go out on a nitpick on the renewal rate. If renewal rate is flat overall, but 10 bps better US and Canada, that seems to imply it’s not as good in international markets. Is that just some of the sampling that went on in China or what do you think might be driving that?

Richard Galanti: Well, that’s exactly what it is. When — first of all, if you think — if you just take the total number of members divided by total number warehouses, I think we’re about close to 70,000 households per location. When we open a unit in, not only China, but other countries in Asia, we’ll have anywhere from 80,000 to 150,000 members that sign up, many of whom we are looking to lose and a year later don’t renew. We will start in some new countries with — once the first batch renew for the first time, you might have a renewal rate in the 50%s or at best low-60%s. And then it just — over the next four or five years, it continues to grow to something that’s higher than that that’s higher than that. That’s more extreme than we saw 30 years ago in the US and Canada.

But nonetheless, that’s exactly what you see. So, when you’re just opening the one unit in Shenzhen or whenever we open [Technical Difficulty] a year and a half ago in China, that’s going to affect the international renewal rate. When we look at all other countries, when we look at the 13, the 11 other operations outside of US and Canada, their renewal rate generally ticks up a little bit every year, like the US and Canada. And US and Canada, by the way, has been helped also with increased penetration of executive members. We have that in several countries, but not all countries. The smallest countries, we don’t have it in a number of units. And also with auto renewal, which has helped us in the last several years. And that’s I don’t believe everywhere.

Laura Champine: Got it. That’s helpful. Once those clubs mature, the clubs in China, other clubs, new clubs in Asian markets, etc., do they tend to — can you serve a higher number of households there? Meaning, would you expect them to be sustainably above that 70,000 or so households that you have in an average club?

Richard Galanti: Well, the answer is it is and it does. So, the answer is yes. Yes, I was at an open — I was at — two months after it opened in Osaka, Japan, back in October, and on a Sunday, a random Sunday was not there on business, but a random Sunday went over there. You couldn’t move in the place. And it was — and it was great. It was a wonderful picture to see. So, yes, I think that despite the fact that not everybody has cars and despite the fact that people have smaller housing arrangements, value plays well.

Laura Champine: Got it. Thank you.

Operator: Our last question comes from the line of Corey Tarlowe with Jeffries. Your line is open.

Corey Tarlowe: Hi. Good afternoon. Thanks for taking my question. And congrats Richard on your retirement. As it relates to big ticket discretionary items, it seems like that category has improved a little bit. Just wanted to get a little bit of understanding as to what you’ve seen that’s underlying that improvement in trend. And then secondarily on AI, just curious with the recent technology enhancements that the business has made, how you see that impacting the business on a go-forward basis?

Richard Galanti: Sure. Well, in terms of big ticket discretionary, I think we completely believe that it’s some of the things we’re doing on our side to better explain the value. I mean, we — it was almost like you did that and sales skyrocketed, 20% and 30% increases in some of those big ticket categories just over the last couple of months. Even if a piece of it is a year-over-year comparison, which I don’t even know if it is or it isn’t, at the end of the day, it was very evident to us. And the other comment I mentioned, particularly like on appliances, we’re still a very, very small percentage of the total industry. And so it’s easier to take market share when you’re such a small percent of something. So, I think that’ll continue.

As regards to AI, we’re just in the early innings of that. We’ve had third-party AI companies, large companies, including ones that are headquartered in Seattle, come out and talk to us. We — where there’s a whole list of things that we’re doing with working with IT and our CEO and our heads of operations and merchandising to see where and how it might fit. So, that’ll be a question for Gary in the future.

Corey Tarlowe: Great. Thank you very much, and best of luck.

Richard Galanti: Well, thank you, everyone. Again, it’s been fun. The thing I miss most about the job is talking to everybody because I like talking. It’s been a great story to tell, but it’s been an absolute privilege and I appreciate it. So, have a good day and I’m sure we’ll be speaking to some of you shortly over the next few days with additional questions. Have a good day.

Operator: Ladies and gentlemen, this concludes this conference call. You may now disconnect.