Hotdog Heaven: The $1.50 Secret to Costco’s Success

The famous $1.50 hotdog and soda combo — what a steal! Perhaps more precisely, you just “earned” $3 because, thanks to Costco’s co-founder James Sinegal, inflation has no place when it comes to “the effing hot dog”. Despite rising costs everywhere, the $1.50 price tag has stayed consistent for over forty years, and acting as more than just a fan favourite, the hotdog is a cornerstone of Costco’s unique pricing strategy. It embodies Costco’s commitment to providing its members with value, cementing customer loyalty. While Costco may lose money to hotdog sales, they still win, as customers almost always leave with much more in their carts.

$1.50 Buys More Than Just a Meal

One hundred thirty million hotdog-soda combos were sold in 2023, resulting in 195 million dollars in revenue, yet Costco made no profit from these sales. The famous hotdog and rotisserie chicken are not random cheap deals or oversights on Costco’s part; they are loss leaders, products sold intentionally below cost to attract new customers but with the expectation that they will spend more on other items once inside the store. While Costco loses money with each combo it sells, it offsets these costs by raising prices on different goods, even the next menu item in the food court, such as swapping 12-ounce soda cans for cheaper 20-ounce fountain drinks. These items reinforce Costco’s reputation as a place where shoppers get unmatched value for their money, fostering loyalty and encouraging repeat visitors, even if sometimes it is just for a cheap meal.

Loss leaders drive more than foot traffic; they are part of Costco’s brand identity. Costco is nostalgic. When the retailer opened in 1983, it thrived among baby boomers, many of whom would bring their children on their shopping trips. New members, aka millennials, recall their fond memories at Costco and are comforted that some things have stayed the same, even after all these years. The hotdog and chicken have become symbols of Costco’s brand identity, and its stable price speaks volumes to consumers who are used to seeing all items rise by about 20% since the pandemic.

Pay to Save

For Costco, the money is in their membership sales. With a mere 12-13% gross margin per product compared to Walmart’s 23.1-24.9%, Costco sells items at purchase price or sometimes even less. What makes this possible, simplified, is that it costs nothing to sell a membership — which they sell plenty of. In 2023, Costco reported $4.6 billion earned through membership fees, better visualized as 73% of its total profit of $6.3 billion. Like Netflix, which uses subscription fees to supply content, Costco’s membership model provides a reliable revenue stream that supports their store operation and allows them to continue offering deeper discounts.

The membership model does not work out of nowhere; it is psychology. People like the exclusivity of having to pay to enter the door. According to economist Kusum Ailawadi, who conducted a study in 2017 on club shopping, it is a classic scenario of how humans react to sunk costs. Members mentally feel they need to justify their purchases and end up shopping more frequently, purchasing more each visit. More so, having purchased a membership at one place, customers are less likely to buy one at a competitor, such as Sam’s Club or BJ’s Wholesale Club. Even with the recent price jump this September from $60 to $65 and $120 to $130 for the “Gold Star” and “Executive” membership tiers, overall, members are happy. Making the splurge to “Executive” earns you 2% cash back on all your Costco purchases; if you spend enough, your membership might pay for itself. With Costco’s membership renewal rate sitting at 92.9% and UBS analyst Michael Lasser concluding that Costco has the best customer loyalty of any retailer, this pricing strategy works.

The Kirkland Effect

While other in-house brands may be associated with cost-cutting, Kirkland Signature is more than just Costco’s private label; it represents quality. Driving a quarter of Costco’s sales, from olive oil, mattresses, and dog food, Kirkland has been chosen over its counterparts repeatedly. If you prefer Kirkland, you are going to need a membership. The idea goes that offering less is more if the quality is up to par. With an average product catalogue of 3,700-3,800 items for sale per warehouse versus a Walmart Supercenter selling 142,000 different items, Costco’s strategy is only to offer the best in each category.

The Kirkland brand also plays a crucial role in how Costco offers quality at lower costs. Store products bring in higher profit margins than name brands without the pain of advertising costs. Ranked as “America’s biggest consumer packaged goods’ brand measured by sales”, larger than Hershey, Campbell Soup, or Kellogg, Costco took the risk of using a blanket brand name, but ultimately its goal of promoting consistency came through to consumers. As Sinegal once stated, Costco has had plentiful opportunities to markup items but has always passed on savings to the consumer. He compared the temptation akin to “taking heroin”, reflecting Costco’s commitment to putting its customers first.

Costco’s success story stems from more than its iconic red-and-white warehouses or food court deals. Whether it’s the beloved $1.50 hotdog or rotisserie chicken, these loss leaders embody Costco’s unwavering commitment to unbeatable value. The sunk-cost membership fees keep customers returning and leaving with full carts, while Kirkland Signature establishes Costco as a purveyor of premium products at affordable prices. The Costco model, built upon value, quality, and, ultimately, customer loyalty, keeps our hands full with free samples as we shop, and our homes stocked.