Costco Wholesale Corp (COST) — Q4 2022 Earnings Call Transcript

Thank you, Lateef, and good afternoon to everyone. I want to begin by noting that our discussions today will include forward-looking statements, which are subject to risks and uncertainties that could cause actual events, results, and performance to differ significantly from what we indicate. These risks and uncertainties are detailed in this call and may also be found in our public statements and reports filed with the SEC. Forward-looking statements are only accurate as of the date they are made, and we do not commit to updating them except as legally required. In our press release today, we announced our operating results for the fourth quarter of fiscal 2022, which covers the 16 weeks ending August 28th. This quarter, our net income reached $1.868 billion or $4.20 per diluted share, compared to $1.67 billion or $3.76 per diluted share from the previous year. Last year's fourth quarter was impacted by an $84 million pre-tax asset write-off, equivalent to $0.14 per diluted share. For the fiscal year, our net income totaled $5.84 billion or $13.14 per share, up from $5.01 billion or $11.27 per diluted share in the prior year. Our net sales for the fourth quarter climbed 15.2% to $70.76 billion compared to $61.44 billion reported in the same quarter last year. On a comparable sales basis for the fourth quarter, U.S. sales reported a 15.8% increase. When excluding gas inflation and foreign exchange effects, gas inflation accounted for 9.6%, Canada had a 13.4% reported increase and 13.7% excluding gas and foreign exchange, while Other International showed a 2.9% reported increase and 11.3% excluding gas and foreign exchange. Overall, the company reported a 13.7% increase, and excluding gas and foreign exchange, we saw a 10.4% increase. E-commerce sales were up 7.1% reported, and 8.4% when excluding foreign exchange. In terms of Q4 comparable sales metrics, global shopping traffic increased by 7.2% and in the U.S., it rose by 5.2%. Our average transaction size increased by 6.0% globally and by 10.0% in the U.S. for the fourth quarter. Foreign currency translation effects negatively impacted our sales by just over 2%, while gasoline price inflation positively influenced sales by about 5.5%. Our top-performing core categories this quarter included candy, frozen foods, kiosks, tires, lawn and garden, jewelry, toys, bakery, and deli. Among ancillary businesses, gas and food courts performed best, while travel and business centers also showed strong performance compared to last year’s fourth-quarter results. Regarding membership fee income, we saw a reported income of $1.327 billion or 1.88%, which rose by $93 million or 7.5% despite unfavorable foreign currency effects. Excluding foreign exchange, this income would have been $29.8 million higher, making the originally reported 7.5% increase equivalent to a 10% increase. Our renewal rates reached all-time highs, with a U.S. and Canada renewal rate at 92.6%, an increase of three-tenths of a percentage point from 92.3% at the end of Q3. Our worldwide renewal rate at the end of the fiscal year hit 90.4%, up four-tenths of a percentage point from 90.0% at Q3. By the end of Q4, we had 65.8 million paid household members and 118.9 million cardholders, both representing a 6.5% increase from the previous year, which correlates with a nearly 3% increase in the number of locations. We opened 23 new locations over the year, starting the year with 815 warehouses. At the end of Q4, our paid executive memberships totaled 29.1 million, reflecting an addition of 1.2 million or 74,000 per week during the last 16 weeks since Q3. Executive members now account for over 44% of our members and almost 72% of our worldwide sales. As for possible membership fee increases, there are no current plans for adjustments. We are pleased with our sales growth and the increase in member households over recent quarters, as shown by rising renewal rates. We will inform you when changes are imminent. Now, moving on to our fourth quarter gross margins, which were reported at 10.18%, a decrease of 74 basis points from last year's 10.92%. When excluding gas inflation, the reduction was 22 basis points. The sales mix negatively affected core margins, mainly due to lower sales penetration of total core sales compared to the growth in gasoline sales. Our core margins declined by 26 basis points compared to the last three quarters. As for ancillary and other businesses, gross margins improved by 20 basis points, and by 34 basis points excluding gas inflation. Gas and our business centers saw better year-over-year performance, though e-commerce, pharmacy, food court, and optical remained challenges. Overall, we noted a positive change in year-over-year performance. For the 2% reward, excluding gas inflation, there was a 5 basis point decrease, suggesting higher sales from executive members. Regarding LIFO, inflation has caused an increase, with charges 27 basis points higher year-over-year, leading to a $223 million charge this quarter. Earlier in the year, our LIFO charges were significantly lower. Now, onto SG&A. We reported SG&A at 8.53%, compared to 9.22% last year, reflecting a 69 basis point improvement. Excluding gas inflation, we still saw a meaningful improvement of 26 basis points. It's important to remember that these results incorporate wage increases initiated in October 2021, as well as new wage and benefit adjustments introduced earlier this year. Despite these increases, we are pleased with our SG&A improvements, considering our strong sales. Overall, we reported operating income for the fourth quarter up by 10%, totaling $2.497 billion, assisted slightly by last year's asset write-off. Below operating income, interest expense decreased slightly to $48 million from $52 million last year, while interest income and other fell by $1 million year-over-year. Although interest income rose, it was offset by unfavorable foreign exchange impacts. Overall, our reported pretax income grew by 10%, amounting to $2.516 billion this year, compared to $2.291 billion last year. Our effective tax rate for the fourth quarter was 25.4%, down from 26.1% in Q4 of the previous year. For fiscal '23, we estimate the effective tax rate to be about 26%. It's also noteworthy that net income attributable to Costco increased by 12%, following our acquisition of the 45% minority interest in our Taiwan joint venture. Consequently, net income attributable to non-controlling interest rose by $14 million this quarter. Regarding warehouse expansion, in Q4 we opened 9 new warehouses, totaling 26 for the year, including 3 relocations, resulting in a net increase of 23. Of the 9 opened in Q4, 5 were in the U.S., 2 in Canada, and 1 each in Korea and Japan. For fiscal '23, we plan to open 29 new warehouses, four of which are relocations, bringing a net increase of 25, comprised of 15 in the U.S. and 10 in other international locations, including new sites in New Zealand and Sweden, and additional locations in China. Our fourth quarter capital expenditures were about $1.26 billion, leading to total CapEx for the year of $3.9 billion. For the upcoming fiscal '23, we anticipate CapEx to be in the range of $3.8 billion to $4 billion. Regarding our e-commerce business, Q4 sales, excluding foreign exchange, increased by 8.4%. Notable departments with significant percentage increases included tires, lawn, patio and garden, prescription pharmacy, and health and beauty aids. The largest e-commerce categories, referred to as majors, experienced high single-digit growth. Costco Grocery, which includes third-party delivery, as well as two-day dry goods, fresh, and frozen items, also continued its growth, up 20% this quarter. As for Costco Logistics, we are transitioning from vendor drop shipping to direct shipping from our own inventory, particularly for larger items. This switch benefits merchandise costs and delivery times for our members. In fiscal '22, we carried out 4.3 million big and bulky deliveries and installations, compared to 2 million per year before the acquisition, with 70% handled by us. In Q4, our in-house percentage for these was 81%. Regarding inflation, we've observed minor improvements in some areas, but ongoing pressures from rising commodity prices, labor costs, transportation expenses, and supply chain interruptions persist. However, we are starting to see some relief. For Q4, our merchants estimate overall price inflation at about 8%, with slight variations across food and sundries. Some commodity prices, such as gas, steel, and beef, are decreasing compared to a year ago, and container shipping costs are also easing. However, wage pressures remain a significant concern for suppliers. Regardless of current inflation, we believe we are well-positioned to maintain competitiveness and can still raise prices in line with costs, ideally less than our competitors. Many have inquired about the impact of the inflationary environment on private label products. Our response is that consumers are not downgrading; rather, they are either upgrading or maintaining their current choices. Kirkland Signature merchandise penetration, excluding gas and other Kirkland products, is up just under 1% compared to last year, totaling about 28% for the year. This trend aligns with historical patterns of steady growth without dramatic fluctuations. Regarding the supply chain, there have been slight improvements, including better on-time deliveries. Container prices are coming down, beginning first in the spot market. Domestically, port delays have improved. Although we narrowly avoided a rail strike that caused some delays, we anticipate that these issues will be mitigated soon. Our total inventory at the end of Q4 saw a year-over-year increase of just under 26%. This was similar to a 26% increase at the end of Q3, with approximately 10 to 11 percentage points attributed to inflation. New warehouse growth contributed approximately 3% year-over-year, with certain departments previously experiencing lower stocks due to last year's high demand. Food and sundries remain well-stocked, while non-food inventories have risen in specific categories due to last year’s low inventory levels. We are seeing positive initial results from this year’s seasonal sales. Overall, we expect the year-over-year inventory increase to begin declining based on recent trends. Lastly, we will release our September sales results for the five weeks ending Sunday, October 2nd, on Wednesday, October 5th, after market close.

Richard, I have a couple of questions about membership fees. First, if you feel confident about sales, are you concerned about the sales rate if you decide to increase the fees? And if you choose not to raise them, does that mean you're comfortable with the current rate of EBIT growth in the business, considering it has been a valuable tool for the company over time? I understand you don’t provide guidance, but I'm hoping to get your thoughts on this.

Certainly. At the end of the day, we've always mentioned that we focus on driving sales as a top-line company. Historically, we have increased member fees approximately every 5 to 5.5 years to enhance value. Looking at the last three fee increases, they were roughly 5 years and 7 months apart. For instance, if you take June 2017 and add that time frame, it leads us to around January 2023. I'm not suggesting that it will definitely happen in January 2023, but it is not imminent either. We are confident in our ability to make these adjustments in the future, and while it's a matter of timing, not possibility, we feel secure in our current approach to driving sales and earnings. Additionally, we still retain this option as we move forward.

Considering your new fiscal year, have you made any changes to your spending or investments that would impact the profit and loss statement, whether you are planning to do so or not?

Not at all. I mean, it’s steady as she goes in terms of CapEx and what we want to do, and what we want to do with pricing and competitive pricing. We’re not the only company out there, but as we’ve seen some slight declines in reported gross margin not only this quarter, but in the last several quarters, part of that was just the upsized improvement in margin during the first year of COVID.

So, Richard, I guess just going back to your expense commentary. There was a sequential pickup in your expense growth versus Q3. Besides the wage increases, was there anything else that was unique to the quarter that you’d call out?

Well, other than it being 16 weeks compared to 12 weeks, are you asking about a year-over-year basis?

Yes. Year-over-year. Yes. I think it’s…

I think the significant factor is that while utility costs are indeed rising, the more considerable issue is the wage increases. Additionally, IT expenses are also rising slightly as everyone is increasing their technological initiatives.

Okay. Great. And then just on the health of the consumer, just given many concerns out there, anything to know, like any change in consumer behavior or even in your majors category, are you guys seeing any changes versus maybe your expectations there?

I believe we've discussed this in our conversations over the months. When beef prices surged, they are now decreasing compared to last year, but that surge led to some shifts in consumer behavior. Regardless of economic conditions, we noticed a transition from beef to poultry and similar products. A buyer mentioned a few months back that there was increased interest in canned chicken and tuna for that reason. However, we haven't observed any significant changes overall. This is partly difficult to assess because, during the past two years of COVID, we experienced strong sales in major items. In categories like consumer electronics, even a small increase compared to the larger gains of the past two years still shows that we are outperforming the industry in terms of sales growth. Is the sales growth slower than last year? Yes, but it remains positive and continues to outpace the industry average.

Richard, on a three-year basis, it looks like you have shown a nice improvement from the last quarter. Can you unpack that for us a little bit across the four major categories?

I don't have all the detailed information in front of me, but generally, the most significant area during the early stages of COVID was fresh products. As you may remember, fresh products had virtually no spoilage and demonstrated much higher labor productivity, leading to substantial improvements in margins. Thus, that's the basis for comparison. We've discussed this in previous quarters on a year-over-year basis compared to those two years; margins have decreased as a percentage, but they remain higher than pre-COVID levels. Beyond that, various factors influence other departments. For example, in small businesses, travel can be compared to a brokerage business largely reliant on margins, which saw a steep decline but is now recovering. This offers some improvement, but there are many variables at play. Fresh is the most significant outlier. Additionally, supply chain issues have also affected certain departments or allocations. For instance, there was reduced promotional activity in consumer electronics due to shortages of chips. In summary, many factors are at play, but fresh products were the most impactful.

And then on the LIFO charge, 28 basis points, I think you said; last quarter, it was 25. I guess, I was surprised that it wasn’t higher given how much prices have moved up over the past 3 to 4 months. Can you just maybe just give us a refresh on the accounting for that? And what happens in the coming quarters as we start to lap the big charges from this year?

Sure. Looking at the quarterly results sequentially, Q1 was below $20 million, Q2 was below $30 million, and then it increased to over $100 million and then over $200 million. This variation is partly due to our accounting method; at the end of Q1, we anticipated trends and estimated annual figures, prorating one quarter's worth over 12 weeks. This leads to adjustments on a year-to-date basis and may skew the results a bit. We've followed this approach during previous inflationary periods. Regarding Q4, we initially expected higher figures. If I break down Q4 into the first and second halves, the first half showed a level of increase warranting a larger LIFO charge, but that trend flattened out towards the end of the quarter, leading to lower than anticipated results. This aligns with my earlier comments about seeing some improvement. There were also some technical challenges with buyers regarding a few items that saw price decreases. Our partners are actively communicating with suppliers about pricing issues, particularly concerning changes in steel prices. We're making progress, albeit slowly, and we noticed some improvement in the latter half of Q4. We'll have to see how things evolve from here.

Cheatham on for Paul. Thanks for taking our question. I want to dig in on the inventory piece a little bit, up about 26%. How much of that do you categorize as general merchandise? You had some pretty big competitors that have been trying to clear some of their general merch, as I’m sure everyone knows. So, as you kind of reach holiday, can you give us a sense of where you are for general merch inventory? Any plans to kind of further discount there to try and get leaner?

Sure. First of all, a significant portion of our inventory can be classified as deep freeze from last year. For example, we have Christmas trees that retail for $150 to $400, which came in after the holiday season. The positive aspect is that their style remains consistent, so you'll find them at places like Costco. When factoring in the holding costs and some interest, they are still slightly cheaper than the new inventory we added this year. While we prefer not to have excess inventory, this particular situation didn’t negatively impact us too much. A larger part of our inventory increase is due to building stock, especially in large items and both e-commerce and bulky fulfillment. We also intentionally brought in some products earlier for the holiday season due to uncertainties surrounding supply chain delays. Supply chain conditions have improved somewhat, contributing positively. The increase in inventory has various factors at play; for instance, we experienced a strong demand for air conditioning and fans, although there were delays in receiving those products, which will have a minor seasonal effect going forward. Overall, while our inventory number remains relatively the same year-over-year, conversations with our team indicate that things are moving in a positive direction. Unlike some larger retailers, our inventory tends to be more specific; if we have a surplus of air conditioners or furniture, it’s not a wide variety of products. Although we have seen some additional markdowns, they aren't significant compared to our usual expectations, so the increase is minor and not material.

Got you. And so, you’re bringing holiday up a little earlier than you otherwise would. And some of that more seasonal air conditioners and fans you mentioned, you might hold those over to spring time? Is that right?

We will. Yes. That’s easy. The good news is that 2.5 years ago when we acquired Innovel, which we refer to as Costco Logistics, we added 10 to 20 million square feet between the MDOs and DCs. Specifically, we added 10 million of large space, including 1 million square feet to the roughly 10 to 12 million square feet of depot space we have. That was fortunate in that regard.

Hi. Thanks. Kelly Bania from BMO. Richard, just wanted to touch on executive penetration. The line item continues to impress. I think it’s the biggest quarterly jump in the model that I can see. But I guess my question is as you look at that kind of cohort of Gold Star customers today, is there anything different about that customer profile, demographics or otherwise that makes you think you can’t have the same success in converting those customers up to executive over time?

Well, I think we will. The questions that were previously asked about millennials, Gen X, and now Gen Z show similar trends that are influenced by age and, arguably, income. Over the past few years, we’ve improved our ability to communicate the value of becoming an executive member right from the start, leading to increased penetration in that area. Additionally, expanding into new countries has helped; in the last two years, we’ve entered Japan and Korea, alongside our existing presence in the U.S., Mexico, Canada, and the UK. We have become more effective in our approach. In the past, we would simply ask what you wanted, and if you requested Gold Star, that was it. Now, we focus on explaining the value of the membership, and we've seen positive results from that.

And just to maybe follow up on the container pricing. I think you mentioned maybe some relief starting there. I guess the question is just, have you learned anything about your business over the past few years, really kind of focusing on discretionary imports and the strategy, the charter ships that you might keep longer term, or do you expect to kind of go back to everything you were doing pre-pandemic from that perspective?

I think the most important lesson we've learned relates to the origin of these items. If we look back to when tariffs were imposed around 2016 or 2017 on China, some manufacturers relocated their operations to neighboring countries to avoid those tariffs. Over the last couple of years, we've also faced challenges with containers, and while we may not be able to change everything, we have made efforts to diversify our operations and reduce reliance on a single port. We've absorbed a lot from these experiences, including that we can continue to make mistakes along the way.

The industry is seeing so much inventory and the wrong kind of inventory. What are your thoughts on the promotions that you’re seeing? And how you’re thinking about pricing? And any thoughts on the nature of your portfolio? You always offer such sharp prices. On inflation at the end of the tunnel, second, Richard, maybe you could elaborate on that. That sounds very nice. And lastly, on...

Let's take one question at a time so I can keep track. Yes, supply is becoming more abundant and promotions are increasing. In the past couple of years, due to electronics shortages, both we and the industry observed a significant decrease in promotional activities from manufacturers towards retailers for TVs, as there was little necessity for such initiatives. We're beginning to see some of these promotional activities return. We appreciate our multi-vendor mailer, including the current version and other promotional efforts we engage in online and directly. These had to be adjusted in some respects due to shortages or inventory allocations. Typically, in these multi-vendor mailers, you have a range of high-profile promo items like TVs, along with high-volume sales items like paper goods, which we’re also monitoring.

Yes. On inflation, just light at the end of the tunnel and some green shoots there that you’re seeing?

Yes. When we've spoken with the buyers, they are beginning to notice some examples where prices for items such as outdoor furniture or barbecue grills are decreasing. We were reminded during the budget meeting by Craig and Ron that when prices were rising, it was important to understand the reasons behind the increases, whether due to raw material or freight costs. Once prices start to drop, it's crucial to reach out to them to inquire about potential reductions. Given our limited selection and large volume, our buyers are quite familiar with the various cost components involved. While changes could happen unexpectedly, we are seeing trends moving in a more favorable direction, which is promising not only for us but for the market as a whole.

Okay. And lastly, now it’s time to talk about Generation A, analysts. What about the data science team, Richard? I know you hired that team. And what kind of progress or things we should look for there as well as any highlights you want to give us for your digital strategies on the horizon?

In my old age, I forgot to get any detail on that, but I’ll address it next quarter. Generally speaking, it’s been a couple of years since we brought in a VP of Data Analytics, and he has built a sizable team. They are working on improving visibility. Despite our simplicity, we still need insight into our historical performance, not only on the sales side but also in our operations, with the goal of significantly reducing the time buyers spend on their own spreadsheets. This is still forthcoming. We believe we’re currently doing well, but our initial focus in this area is on enhancing the data that our operators, buyers, and traffic team receive.

I have two questions. First, regarding gas, I'm interested in the negative mix shift that is positively impacting ancillary. Gas profit per penny seems to have increased. Can you explain how high penny profit can go as gasoline prices decrease? Additionally, can you clarify the relationship between gasoline prices and driving traffic?

Well, the situation is that we turn our inventory about every day, while the average gas station in the U.S. turns theirs every 8 to 9 days. On average, we purchase gasoline four days later than others. Consequently, when spot prices increase daily, we end up paying more because we buy at the highest price today compared to when others bought it four days ago. Conversely, when prices decrease, we benefit and make more money. However, this trend seems to have shifted, as supermarket retailers and discount chains with many gas stations have managed to maintain price stability, not reducing prices as quickly as they might, which allows us to earn a bit more while still remaining competitive. In fact, it appears our competitiveness may have widened. The retail gasoline business has become more profitable over the past few years, a trend that inflation and soaring price headlines have further amplified.

And is it still 50% roughly that you think go to the club when they get gas?

Historically, a little over 50 out of every 100 people who filled up with gas came in to shop. When gas prices peaked after the Ukraine-Russia conflict, that number dropped to about 20% or 25% as people were filling up their tanks due to fears of a gasoline shortage. If you remember the mid-70s, you might recall that. Recently, we’re seeing the numbers back to slightly over 50 or slightly under 50.

Got it. So that’s a normal...

But more members are using it.

Got it. And then my last is on the credit card. Just update us on anything you can on the credit card penetration, the behaving of the portfolio, the sort of lift percentage of tender on the card, sort of the lift you get outside of the club with it, just given it seems to be a key part of the renewal rate, I would imagine, continuing to enhance...

Sure. Auto renewal is not limited to the Citi Visa co-brand card; it applies to any Visa card and to a Mastercard we've partnered with a bank and Mastercard in Canada. With co-brand cards, our exclusive arrangements give us the purchasing power to reduce merchant fees and increase rewards for our members. Typically, these cards involve revenue sharing, meaning that each time the card is used, we receive a portion of the revenue. Although we cover some rewards, this is more than compensated for by the revenue sharing. Fiscal '22 has been an excellent year for the card, with increased penetration and rewards for our members, along with a very favorable effective merchant fee, which we do not disclose.

And the auto renewal is up to what percentage?

Auto renewal, I don’t...

Mid to high-50s in the U.S.

In the U.S., mid to high-50s signed up for auto renewal.

You kind of ended your prepared remarks, you said kind of seasonal going well. Maybe you can elaborate on that. Are you talking about fall seasonally, or you’re talking about Halloween? Just what were you trying to express with that?

While inventories increased by 26% year-over-year, we’re feeling positive about the direction they’re heading due to our efforts. We've noted that we brought in some seasonal items early because of delivery dates, and we wanted to ensure we had those in stock. So far, Halloween and Christmas are performing well, and we're encouraged by what we've observed in the past few weeks.

Okay. Perfect. And then just kind of maybe a bigger picture, maybe historical question. Just talk to us about how your business has kind of performed in past recessions. Maybe what do you see from your members as you think back? What are the early indications when we’re going into a tougher environment? Is it the business member that starts to slow? Is it traffic? Is it certain categories? I don’t know. Just curious kind of your perspective as we’re in this unique time in the economy.

I don't recall all the specifics, but I remember the situation during 2008 and 2009 when we transitioned from a recession into the Great Recession, which lasted four or five years. It happened rapidly, and we observed a slowdown in seasonal sales for items like barbecue grills and patio furniture. Those big-ticket items saw a decline. If I review my notes, I can confirm that we faced some additional markdowns to clear inventory and avoid carryover into the new calendar year. Generally, one advantage of our business model is that we perform well in both prosperous and challenging times. In prosperous times, consumers have disposable income to spend, while in tougher times, they tend to prioritize saving. Interestingly, although none of us wished for COVID, it negatively affected some sectors but positively impacted many of our businesses, allowing us to maintain market share. As restaurants reopen, we’ve noticed that people are still eating at home more than they did before COVID, and we have gained additional market share through that period. Even during tough times, we don't see the need to be overly conservative compared to others. We don't significantly reduce our purchasing or open to buys. I recall from 2008 and 2009 when it became evident that the recession would persist, our buyers were reminded not to lower price points. We have managed to maintain value at higher price points, and while being slightly conservative is acceptable, we shouldn't assume that future performance will falter based on that. We are determined to provide the best value available.

That's helpful. I think your renewal rates actually increased during the Great Recession as well. So definitely…

Yes, they certainly have now, and auto renewal is part of that.

Yes. Exactly. Last question just on traffic, Richard. I think, 5% or so on the quarter. I think August maybe was maybe a shade below 3% in the U.S. Just how do you guys think about that? I mean, is there a traffic level that you guys don’t like to see it go below; obviously, more traffic is better than less? But just kind of curious how you think about that.

Yes. Recently, we've faced challenges as events have unfolded rapidly, similar to the Omicron and Delta surges, causing significant shifts in a short time. Whenever we identify any signs of weakness, we focus on boosting sales. Typically, we achieve this through offering great values and popular items. This connects back to my previous point about our multi-vendor mailers. We're skilled at attracting customers with trending products, which has been beneficial for us. David just mentioned an interesting observation: we see more shopping from Monday to Thursday rather than on weekends. The trend seems to shift during the weekend due to people returning to work. However, during the weekdays, we wonder what's happening, and by the week's end, we tend to feel relieved.

Do you guys have any sense of demographics by Gold Star versus executive? And the thought being, when you think about the structure going forward, could you leave Gold Star where it is, take executive up and maybe at an executive plus, right, that either has more than 2% or some other features, right, so you’re catering to people through the income spectrum?

Yes. I believe we try to keep things simple. We discuss a variety of topics, but ultimately, we always return to the idea of simplicity. One concern regarding offering a membership tier above the executive level is the sales tax implications in certain states. While some memberships are currently not subject to sales tax, reaching a particular threshold can trigger tax on the entire membership fee rather than just the additional amount. This is a consideration for us as well. At this point, our focus remains on keeping things straightforward.

Okay. And then secondly, regarding inflation moving forward, it seems that it will remain persistent for an extended period. As it decreases, how do you anticipate vendors will react? We aren’t likely to see reductions in list prices; instead, we might observe an increase in trade funding. Considering your involvement in this situation and your capacity to leverage it, how do you view this?

Well, again, I think, again, in terms of the stickiness, wages are still the culprit. I think, again, we’re in as good a position, if not better than anybody, given that our buying power per item is off the charts high compared to anybody else and our buyers focus on the detailed components of it. There will be stickiness. Read articles every day or on television or in the periodicals, the journal about some CBG companies that just raised their prices, and they’re sticky. We’ll try to unstick them, but I’m sure some of it will stick and some of it won’t. But I think, again, we’re in the best position when you think about we’ve got lots of $50 million and $100 million and $200 million and even higher items and even a handful of billion-dollar SKUs. We think we are pretty good at figuring that out with our suppliers, not only just to say, hey, the price went down on this commodity or this supply cost component, but also on figuring out how to make things more efficient.

Maybe a follow-up on John’s question. So the kind of signs of relief and inflation you’re seeing, can you give an example in the kind of food and sundry side of the business? Are you seeing some relief on the food inflation side?

Yes, I'm receiving some assistance here. Certain commodities, such as corn, are decreasing in price. I noted that resin is also slightly lower. All these factors are having some effect. However, in certain instances, suppliers have committed to prices that are still higher. We collaborate with our suppliers, and the more open they are with us—which we believe they are—we can work together on these issues. Even when commodity prices decrease quickly, if they have locked in higher prices for the next three months due to concerns that prices might rise even more, we work with them on that.

Got you. And then just a quick follow-up. I think you mentioned optical was down. I apologize. Has optical been weaker for a while, or did something change there?

I think the big thing there was a promotion we did a year ago in the quarter. We did a big promotion a year ago. This year, we did a big promotion on lots of things all the time. But we did a big promotion this year at a slightly later date. And so, we’re now seeing it. Yes.

So, Costco tends to put a line in the sand on pricing with some items. Obviously, the hot dog and soda versus chicken offerings, for example, despite today’s inflationary pressures. But your margins are actually holding in pretty well. So I guess, the question is, are there other areas where you’re being even more aggressive than normal on the pricing side? And then, the flip side of that is, what categories are you guys using to maybe harvest some extra margin to offset the presumed margin squeeze from holding the line on pricing?

We don't really see it that way. There are some businesses, like the gas business, that are performing well with margins and the travel business, which allow us to be more aggressive in other areas or maintain the price of hot dogs and sodas for a longer period. However, we don't specifically look for opportunities to harvest margins. There are various areas contributing to our success. For instance, our fresh foods business has seen significant sales growth over the past two years, with 30% to 40% increases and over 20% year-on-year growth. Even though we are witnessing some normalization now, we are still in a better position than we were two years ago. All of these factors contribute positively to our overall process.

But, on a go-forward basis, if you’re really not looking to take any extra margins from some other categories, should we presume that margins may actually start to drop on a year-over-year basis?

We do not provide guidance, but we assess the top line first to understand its impact on the bottom line. In the past, we aimed to increase margins by reducing prices while retaining some of it. However, in an inflationary environment, our approach has evolved. Ultimately, our focus is on driving volume. If we can achieve even a slight increase in comparable sales, it provides more benefit than any kind of margin harvesting, which we do not pursue. Okay. I think that’s it on our end. Thank you very much, everyone. We’re all here to answer some additional questions, and talk to you soon.