There was a festive atmosphere in the corporate offices of Costco Wholesale Inc. in Issaquah, Wash. on Oct. 10 after company stock shares hit a 52-week high of $69.95, a gain of about 9 percent. The spurt followed that day’s announcement that Costco’s net sales for fiscal 2007 were $63.09 billion, a 7 percent increase from the prior year.

Along with other company stakeholders, Costco’s fresh foods executives were exceedingly cheerful as the news also reveals that the company’s simple but solid merchandising strategy of carrying fewer SKUs in larger-size packages while offering the highest-quality products at the lowest prices still is resonating with its members. The company has more than 50 million cardholders, many of whom pay a $50 annual fee to shop at Costco.

Jeff Lyons, senior vice president and general merchandise manager, fresh foods, attributes much of Costco’s fortune to the talents of its employees and the culture of the company.

“The real trick is having good people and working for an organization that gives you the freedom and flexibility to be creative, and doesn’t crush you if you are not totally successful initially,” he notes. “It is important to have a company that sees the long-term benefits. Our success is always people, always being creative, always having more ideas and never being frustrated.”

Such ideas, for instance, result in the frequent merchandising of new prepared food recipes in the deli case and internal cost-cutting initiatives that help forestall price increases.

“We’re always looking at how we can be more productive, which drives the payroll down,” notes Alan Bubitz, vice president and general merchandise manager, fresh foods and food service. “To offset higher food expenses we try to focus on the things that we can control, such as improving food quality and increasing sales by replacing lower-selling items.”

In recognition of it success in meeting consumers’ demands for quality and affordable proteins by lever­aging a novel and narrow business model, Costco is Meat & Deli Retailer’s 2007 Retailer of the Year.

“Costco experiments quite a bit more than its competition and has a lot more unique offerings in the meat and deli areas,” says Ben Ball, senior vice president of Dechert-Hampe & Co., a Northbrook, Ill.-based sales and marketing consulting firm. “Their attention to quality is enhanced by having a limited number of SKUs. They have a niche and don’t try to meet all shoppers’ needs. It is a philosophy that they carry out incredibly well.”

Indeed, newer selections are particularly visible at Costco outlets because of SKU counts that are far lower than those of its supermarket competitors.

Warehouses typically have about 65 varieties of fresh meat and poultry and 32 deli items, with most of the choices consistent in all of Costco’s U.S. outlets. Costco has about 387 locations in 40 U.S. states and Puerto Rico.

“A limited number of SKUs enable our buyers to make sure the items they are purchasing are done right,” says Doug Holbrook, assistant general merchandise manager, fresh meat and corporate foods. “We take care of the top 20 items which are driving the majority of our business.”

Such items, which are priced by the pound, include 88-Percent Lean Ground Beef for $2.39, 85-Percent Lean Organic Ground Beef for $3.99, Filet Mignon for $11.89, Top Sirloin Steak for $3.89, Flank Steak for $5.49, Boneless Pork Loin Chops for $2.39, Boneless Ribeye Roast for $7.99, Boneless/Skinless Chicken Breast for $2.79, Organic Boneless/Skinless Chicken Breast for $5.99 and Split Chicken Breast for $1.79.

“We don’t make things complicated,” Holbrook notes. “We don’t cut a thin pork chop, or a thick pork chop, or a stuffed pork chop or a butterfly pork chop. We cut a boneless pork chop. What has made us successful is making sure we are right with the top items.”

Costco obtains its beef from four major suppliers—Wichita, Kan.-based Cargill Meat Solutions Inc., Greeley, Colo.-based JBS Swift & Co., Kansas City, Mo.-based National Beef Packing Co. LLC and Dakota Dunes, S.D.-based Tyson Fresh Meats Inc.

Pittsburg, Texas-based Pilgrim’s Pride Corp. supplies chicken to Costco warehouses in the eastern and middle sections of the country, while Livingston, Calif.-based Foster Farms supplies outlets in the western sector. Swift is the primary pork supplier.

Other meat brands include Costco’s private-label Kirkland Signature, Coleman, Maple Leaf Farms, Willowbrook, Johnsonville, Carolina Turkey, Jennie-O, Tyson, Curley’s and Aidell’s.

Holbrook, who started at Costco in 1987 as a part-time sausage-maker, says the company’s achievements were expected.

“I knew Costco would be successful because it empowers people to make decisions and think outside the box,” he states. “We can do what we believe is good for the company and not have the creativity squashed.”

Recent initiatives, for instance, include the elimination of Styrofoam trays from meat packages and the use of Saddle Pack-style packaging in which proteins are delivered in six individually sealed packets. The design is more environmentally sound and enables consumers to freeze unused portions without repackaging or rewrapping products.

Holbrook says Costco, which currently markets different chicken parts in Saddle Pack packages—including boneless/skinless breasts, split breasts, drumsticks, thighs, boneless/skinless thighs and wings—also is considering using Saddle Packs for non-poultry products.

Costco, to minimize costs, does not operate full-service meat or deli counters. Yet, many fresh meat selections are cut by in-store butchers and deli associates create prepared foods in back rooms. Holbrook says each location typically has between five and 25 butchers, depending on volume, and cutters are constantly honing their techniques.

“The tenderloin is virtually fat free and 100-percent edible while 20 years ago it had a quarter-inch of fat,” he states. “Meat is a signature department and we want to be a leader from a quality standpoint.”

The Costco Picture

Warehouses (as of 11/02/07):             523
Areas of operation:
             387 locations in 40 U.S. states and Puerto Rico
            71 locations in nine Canadian provinces
            30 locations in 18 Mexican states
            19 locations in the United Kingdom
            6 locations in Japan
            5 locations in Korea
            4 locations in Taiwan
Membership (as of 9/2/07): 50.4 million cardholders
                                                27.5 million households
Warehouse sizes: 70,000 to 205,000 square feet
Annual revenues: $64.4 billion (fiscal year ending 9/02/07)
U.S. employees: 100,000 full and part-time
Worldwide employees: 136,000 full and part-time

Source: Costco Wholesale Inc.

Ground beef, however, is produced at the company’s grinding facility in Tracy, Calif., to insure freshness and quality, says Charlie Winters, vice president of fresh meat and deli operations.

He notes that the 160,000-square-foot plant processes about 70,000 pounds of ground beef and meatballs per hour and staffers test for E.coli in a certified lab.

“It gives us comfort that we have control of the raw ingredients and finished product,” Winters says. “Ground beef is a $100 million item for us so we have to take care of it.”

Indeed, he notes that ground beef also is tested at warehouses and the company’s sophisticated databases enable store personnel—in the event of a recall—to pinpoint and contact shoppers who bought specific packages of meat.

“That is a big advantage in being part of a membership club,” he states.

Winters, who has been with Costco for about 20 years, says the meat department has become an increasingly significant part of the business.

“A good week for a store used to be $30,000 or $40,000 and today the average meat department does about $130,000 in sales,” he notes.

Hot rotisserie chickens also are major revenue producers with about 35 million birds sold annually, Lyons says.

To insure freshness, the products are merchandised in the hot case for a maximum of two hours. Rotisserie chickens then are pulled from displays and frequently used as ingredients in chicken salads and other deli recipes.

“The hot lights get up to 140 to 160 degrees and the chickens dry out if they are left in the case too long,” Lyons states.

Fresh foods also are pulled from cases at least a day before the printed expiration date on packages to insure members have enough time to consume the products, he notes.

Lyons says stores are able to minimize shrink by leveraging a processing system that tracks sales of items in real time and alerts associates when additional fresh foods need to be prepared and added to cases.

“It keeps us from overproducing,” he notes.

While Costco’s meat and deli items typically are sold in larger quantities and at a lower unit cost than proteins offered at most conventional outlets, Lyons says having the lowest price is not his sole objective. “Because we are good at buying we can drive the cost down, but quality is always the prime attribute.”

That focus on quality includes making items as “clean” as possible, notes Shawn McEnerney, director of operations, service deli. He says, for instance, that the prepared deli products are free of monosodium glutamate (MSG).

All recipes, McEnerney says, are developed internally. Ideas often come during visits to delis, supermarkets, restaurants and trade shows in different regions of the country and world.

While the typical Costco deli has about 32 SKUs with a number of core items, such as salads and wraps, recipes often rotate in conjunction with the season.

Stores that last summer merchandised Asian Wraps containing rotisserie chicken, for instance, now are offering Caesar Wraps, while Italian and Southwest Wraps are a possibility, he notes.

McEnerney says there usually are two to three rotations a year in the fresh deli involving about three to four SKUs.

“We try new things and if they don’t work they go away,” he notes. “We didn’t have pasta items until the last 18 months but we hit home runs after identifying suppliers to produce them for us.”

Among the recent deli initiatives are upgrades to the take-and-bake pizza program. Delis typically carry three out of the four new varieties that were developed with artisan-style crust: Meat Lovers, which contains about a pound of meat; Hawaiian, featuring fresh Del Monte pineapple; Ranch Chicken; and Margherita.

The 16-inch pizzas weigh between 49 and 54 ounces and sell for $9.99.

Other pizza selections, including Cheese, Pepperoni and a Combo are available in the food court.

While most of the deli items are standard across the country, there are subtle changes among regions. Warehouses in Northern California, for instance, recently began offering a four-pound rotisserie chicken for $5.99 while other outlets sell three-pound birds for $4.99.

“Tilapia does a little better on the East Coast so we may look at offering catfish or another selection for the West Coast,” McEnerney adds.

Deli brands include Kirkland Signature, Johnsonville, Wilson, Citterio, Carnegie Deli, Daniele, Bobak’s and Sinai Kosher.

Among the prepared foods is a Turkey & Provolone Sandwich with Caesar Salad; Chicken Parmigana; Beef Flank Steak with Roasted Portabella Stuffing; Chicken Alfredo with Penne Pasta; Penne Bolognese; Meatloaf with Mashed Potatoes; Stuffed Tilapia with Seafood Stuffing; Spinach Milano with Basil Butter; Rotisserie Chicken Salad; Grilled Chicken Caesar Salad; Greek Pasta Salad; Spinach Salad with Poppyseed Dressing; Rotisserie Chicken Noodle Soup and Spinach Salad with Bacon and Eggs.

Party platters feature Mesquite Wings, Shrimp, Croissant Sandwiches, Meat & Cheese, and Turkey & Swiss Rollers.

All items undergo internal testing before they are rolled out nationally, and measures are taken to insure the recipes are easy to prepare in stores.

However, the company does not do extensive market research before launching a product, Lyons says. “The best method for us is to put it in a store and see if it has legs,” he notes. “We sometimes spend a lot of time creating items that just last weeks. If something is not growing it needs to be changed. And we’ll also take an item that is really good and try to make it better—such as adding an allergen-free marinade to the rotisserie chicken.”

Bubitz says the most successful selections usually have familiar ingredients that appeal to both adults and children and are easy prepare at home.

“Meatballs with penne pasta, chicken pot pie, pizza and salads tend to do better because members understand what they are,” he notes.

Chicken Marsala was among the selections that didn’t catch on.

“Not everyone understands what Chicken Marsala is and raw chicken breast in a tray with wine sauce over it is not the most attractive thing to look at,” Bubitz states. “It tasted wonderful, but we couldn’t get enough members to take it home and cook it.”

Shoppers also rejected such selections as teriyaki bowls, kabobs and shrimp cocktail with jumbo shrimp.

“Some items sell great for six months and then drop off as members tire of them, while others last two to five years,” Bubitz says. “But new items are the spice that keeps people coming back. By offering different selections you get more of their attention.”

Costco research and development staffers, he adds, are constantly developing new recipes in order to have a bank of replacement products.

A big issue, Bubitz states, is insuring that the foods are prepared consistently in each warehouse. Meeting that challenge necessitates the use of training tools that easily communicate proper preparation methods, he notes.

“Deli and food court employees typically are not foodservice professionals so directions must be fairly simple to follow,” he says. “We need to insure that they are not doing their own interpretations on how items should look. We can have the greatest recipe in the world, but it’s not going to work if it can’t be executed at the building level.”