I. Board of Directors
a. Corporate Governance: Board Overview
1. Corporate Governance: Board Elections
According to the firm’s corporate governance guideline, Costco Wholesale Corporation (the “Company”) adopts the staggered board. Directors are divided into three classes; each class is elected to a three-year term. The staggered board prevents any board member from gaining majority control of the board.
Costco’s latest Shareholder Meeting took place on January 29, 2016. The purpose of this Annual Meeting was to elect the four Class II directors, Hamilton E. James, W. Craig Jelinek, John W. Stanton, and Maggie A. Wilderotter, who was nominated by the Board of Directors. All of these four nominees were current directors at the time. Jill S. Ruckelshaus, who was also a current director at the time, decided not to stand for re-election.
Comment: The majority of the Board has served more than ten years. Some of them have been on the Board since its inception. The long tenure of the majority of directors may hurt director independence. One of the reasons is Costco has a staggered board with plurality voting. Even though staggered boards are an effective way to antitakeover, it has negative effects on shareholders’ rights. It is hard for shareholders to vote to replace any board members. Besides, Costco requires supermajority voting (66.67%) when shareholders want to change certain charter provisions. Finally, shareholders cannot take any action in between meetings by written consent. For all of the reasons above, Costco’s shareholders do not have many rights in Costco’s corporate governance.
2. Board Attributes
Compared to eleven members on the Board of an average large U.S. corporation, the Board of Costco has thirteen directors in 2016, and fourteen directors in 2015. According to 2015 the proxy statement, four board members were inside directors; the other nine were outside directors. In the case of Mr. Sinegal, although he was not a Costco employee in the fiscal year 2015, he was former CEO of Costco until his retirement. He is also a co-founder of the Company. Thus, he is conventionally independent under NYSE standards, but not socially independent. Costco’s Board directors have experiences in the areas of finance, technology, marketing, operations, insurance, law, investments, and telecommunications.
Susan L. Decker, Daniel J. Evans, John W. Stanton, and Maggie A. Wilderotter serve on more than three boards. Among these four busy directors, Susan L. Decker and Maggie A. Wilderotter are female directors. Based on Corporate Governance Guidelines, Costco does not have a policy limiting the number of public corporation boards that a director may sit. However, the Nominating and Governance Committee should consider the busy director problem in the next Annual Meeting.
Comment: Having four busy directors on the Board is too many for the Board to function effectively and focus on important matters.
3. Board Composition
All thirteen Board members are White American born in the U.S. The Company’s Corporate Governance Guidelines do not have a specific stipulation about this. Compared with the average percentage of female directors, which is 18%, the Company’s rate of female directors is 15%. Susan L. Decker and Maggie A. Wilderotter are the only two female directors on Board. The age of directors and executive officers range from 53 to 91. The average age of the Board members is 70, which is older than the average age of the large U.S. corporations.
Comment: The Board has no minorities, and only 2 (15%) out of 14 directors are women. Because Costco operates in many different countries serving various customer groups, a diverse board can help improve performance internationally and domestically.
b. Corporate Governance: Board Committees
1. Audit Committee
Currently, the Audit Committee has 3 members. They are: Mr. Charles T. Munger (chair of the committee), Mr. Daniel J. Evans, and Ms. Susan L. Decker.
2. Compensation Committee
The Compensation Committee has two members. They are Mr. John W. Stanton (chair of the committee) and Mr. Charles T. Munger. The committee has authorized the CEO and Chairman of the Board the rights to grant stock awards to employees.
3. Nominating and Governance Committee
Until January 29, 2016, the Nominating and Governance Committee consisted of 3 members. They were Mr. Jeffrey S. Raikes, Mr. Daniel J. Evans, and Ms. Jill S. Ruckelshaus. After the 2015 annual meeting, the number of members was reduced to 2. The two current members are Mr. Daniel J. Evans and Ms. Maggie Wilderotter.
4. Additional Information
Mr. Benjamin S. Carson, who was the only African-American and served on Costco’s Board for more than 16 years, declared his voluntary resignation in May 2015. Maggie Wilderotter was appointed to replace him in October 2015.
Ms. Jill S. Ruckelshaus was a member of the Compensation and Nominating and Governance Committee until January 29, 2016. However, she was not re-elected as a director. She was replaced by Mr. John W. Stanton as a member of the Compensation Committee and by Ms. Maggie Wilderotter as a member of the Nominating and Governance Committee.
There is a committee overlap. Mr. Munger is the chair of the Audit Committee. He is also a member of the Compensation Committee. This may be because Mr. Munger is a financial expert. His financial expertise helps improve compensation contracting.
c. Corporate Governance: Board Compensation
1. Guideline Requirements
According to the compensation guideline of Costco in the company’s corporate governance guideline, employee directors are not allowed to receive additional compensation for serving as directors. For non-employee directors, they have to own and retain at least 6,000 shares of Company common stock within five years.
2. Actual Earnings
Earnings in 2015
The stock awards amounts were calculated based on the market value of the common stock on the grant date. In 2015, each non-employee director was granted 2,400 restricted stock units. Stock awards compensation accounted for the majority percentage of the total amount received by each non-employee director.
Charles T. Munger and Daniel J. Evans received the highest fees paid in cash. Each of them received $44,000 in 2015. Both Mr. Munger (he is also a member of the compensation committee) and Mr. Evans (he is also a member of the nominating and governance committee) are members of the audit committee. The third member of the audit member, who is Ms. Susan L. Decker, received the second-highest fees paid in cash, which was $41,000. Compared to other directors, Richard M. Libenson received an additional $333,449 due to his engagement as a consultant to Costco.
Comment: The average board compensation of Costco is around $375,400. Costco’s compensation package comprised of heavily of stock. On average, a large company in the S&P 500 pays an annual retainer of $220,000, which 38% is in cash, and 62% is in equity, to a director. The percentage of cash and equity Costco paid to its directors in 2015 was approximately 10% and 90%, respectively.
At the end of 2015, Mr. James Sinegal owned the largest amount of shares among non-employee directors. This is because he is the co-founder of the Company. He used to be CEO of Costco until the end of 2011. He was also President until February 2010. Mr. Munger has the second-largest amount of shares owned (171,777). It is worth noting that he serves in both the Audit Committee and Compensation Committee.
Table of Contents
- I. Board of Directors
- II. Executive Compensation and Incentives
- III. External Auditors
- IV. Institutional Shareholders
- Appendix A – Corporate Governance Rating in Corporate Governance
- Appendix B – Strategy, Performance Measurement, and Risk Management in Corporate Governance
- Appendix C – CEO Succession Planning in Corporate Governance
- Appendix D – CEO Biography
- Appendix E – Additional Information on Executive Compensation and Incentives in Corporate Governance
- 1. Compensation Philosophy and Objectives
- 2. Stock Ownership Guidelines
- 3. Clawback Policies
- 4. Severance Agreements
- 5. Golden Parachutes
- 6. Post-retirement Compensation
- 7. Pledging and Hedging
- 8. Discretionary Component of Compensation Plan
- 9. Criteria for Awarding Variable Pay
- 10. Compensation Consultants
- 11. Peer Group, Compensation Design
- 12. Peer Group, Performance
- Appendix F – Accounting Quality and Transparency
- Appendix G – Financial Restatements (Form 8-K) in Corporate Governance
- Appendix H – SEC Rule 10b5-1
- Appendix I – Anti-Takeover Provision
- Appendix J – State of Incorporation
- Appendix K – Activist Investors
- Appendix L – ISS Rating
II. Executive Compensation and Incentives
a. Elements of Compensation
The CEO of Costco, Mr. Jelinek, made $6,306,805 as a CEO and President in 2015. It was a 12.2% change from the previous year. Compared to other executives at Costco and the average public executive, Mr. Jelinek’s compensation was much higher. His compensation in 2015 comprised as follow:
- Salary: Mr. Jelinek’s salary was $699,810. It was much higher than the salary paid to other executives at Costco and the average public executive.
- Bonus: Mr. Jelinek’s bonus was $188,800. It was slightly higher than the bonus given to the average public executive and significantly higher than that of other executives at Costco.
- Restricted Stock Awards: Mr. Jelinek was awarded $5,322,962 in restricted stock. It was materially higher than restricted stock awards of other executives at Costco and average public executives.
- Other compensation: Mr. Jelinek was paid $95,233 in other compensation. This was the same as other executives’ at Costco and higher than the average public executive.
Comment: Costco does not require executives to meet the median of its peer group when paying long-term incentives to executives. 87.1% of S&P 500 companies have this requirement.
b. Total Compensation Rewarded
The total stock award value rewarded to Costco’s CEO in 2015 was $5,322,962. The rewarded compensation value was calculated based on the grant-date fair value of performance-based RSUs granted to the CEO during the fiscal year of 2015, 2014, and 2013, which are earned upon achievement of performance requirements and affected by additional time-based vesting.
Comment: There was a decline in the CEO’s equity holdings in 2015. This decline in executive exposure to the Company’s stock may weaken the alignment between the CEO’s interests and those of shareholders. Furthermore, the CEO is allowed to partially or fully accelerate unvested equity awards upon his termination. This gives the CEO realized pay opportunities in the absence of strong performance.
c. Total Compensation Realized
Regarding option awards, the number of shares acquired on vesting to Costco’s CEO in 2015 was $9,243,238 for 84,184 shares acquired on exercise. Because Costco has not awarded stock options since Mr. Jelinek became CEO, option awards that Mr. Jelinek exercised in 2015 probably came from the year 2007 when he was given stock options for serving as divisional COO. In 2007, Mr. Jalinek was given option awards worth $ 866,561 (based on the stock price at that time).
For stock awards, the total amount realized on vesting was $9,570,436. The number of shares acquired on vesting was 73,825. The total market value of shares or units of stock unvested at the end of the fiscal year 2015 was $10,430,333 (based on the closing market price of $139.95 on August 28, 2015). RSUs have vested 20% annually, subject to accelerated vesting depending upon years of service.
d. Performance Metrics
Under Management’s Discussion and Analysis item in its 10-K form for the 2015 fiscal year, Costco stated that the most critical driver of its success is sales growth, specifically warehouse sales growth. The focus of Costco has been mostly on warehouse sales growth. The company treats warehouse sales growth as a substantial component of growth.
Comment: Even though Costco says that sales growth is the most crucial drive of its success, it has not disclosed any specific, quantifiable performance metrics for the CEO. Such disclosure is vital for investors to evaluate the rigor of the Company’s incentive programs.
e. Equity Ownership and Risk
Because Costco’s compensation plan does not give out any stock options, the plan has no convexity. However, restricted stock has been the most significant component of executive compensation. It leads to a large amount of stock held by the CEO and other executives. To a moderate extent, this massive amount of stock has encouraged the CEO to take some risks.
|Costco’s CEO||Industry median|
|Stock Owned (% of Costco)||0.04%||0.12%|
|Total Stock Owned||$14.7 million||$0.02 million|
During 2015, the dominance of Walmart affected almost all of the companies in the retail industry, except for Costco. Its stock price increased by more than 15% and was near its all-time high. This success was in large part due to some risks that the CEO of Costco took. First and foremost, Costco has made a bold decision to adopt Visa and Citi as its credit card providers, replacing American Express. This decision has helped the company attract more members since American Express is not as popular as Visa. Second, Costco has decided to increase its offers in organic products, allowing the company to take more market share from its competitors such as Wal-Mart or Whole Foods. Finally, Costco has made the $55 annual membership fee more valuable by continuing to give its members the best deals for bulk items. As a result, more than 90% of Costco’s members renewed their memberships.
f. Pay Equity, CEO vs. Other Executives
Generally, the ratio of the pay of CEO comparing with other key executives increased during the 2011-2013 period. After 2013, the ratio has been fluctuating modestly. Interestingly, the ratio of compensation of Costco’s chair in 2014 was lower than the average rate, which was 1.75. I included a full table about “Ratio of Pay: CEO Compare with Other Key Executive” in the Excel file.
g. Pay Equity, CEO vs. Average Employee
Costco pays its full-time employees an average of $20.89 per hour. I assume that an average employee works 40 hours per week, making it 2,080 hours per year (52 workweeks). Based on these figures, I calculated that an average employee makes $43,451 per year, not including overtime. In 2015, the CEO of Costco made $6,306,805. The result was that the CEO of Costco was paid 145 times more than the average employee. Compared to other companies’ ratio, which is between 200 times to 500 times, the proportion of Costco was lower.
III. External Auditors
KPMG LLP (KPMG) has served as Costco’s independent auditors since May 13, 2002. According to the 2015 Proxy Statement, upon the recommendation of the Audit Committee, Costco has selected KPMG as the Company’s independent auditors for the fiscal year 2016. KPMG’s major responsibilities are to audit the Company’s annual consolidated financial statements, internal control over financial reporting, and financial statements of certain employee benefit plans, and to review or prepare tax returns. Costco paid $7,135,000 to KPMG as service fees in 2015, and $6,722,000 in 2014. These service fees include audit fees, audit-related fees, tax fees, and all other fees.
Comment: Before KPMG, Arthur Andersen LLP had served as Costco’s external auditors since 1983. However, on May 13, 2002, Costco filed the form 8-K to replace Arthur Andersen LLP with KPMG. I believe the main reason was Arthur Andersen was involved in the Enron scandal, which proved Arthur Andersen did not fulfill its professional responsibilities in financial reporting. Costco made the right decision to improve its auditing quality.
IV. Institutional Shareholders
According to the latest 13F filings, institutional and mutual fund shareholders own 74% of total shares. The percentage of shares held by 5% of owners and all insiders are 1%. The total number of institutional shareholders is 1,299, owning 324,526,465 shares in total. The largest among them are Vanguard Group (28,355,570 shares), Capital World Investors (19,879,084), and State Street Corporation (17,306,135). With respect to mutual fund shareholders, 1,877 mutual funds own a total of 169,704,380 shares. The largest among them are Growth Fund Of America (11,133,183), Vanguard Total Stock Market Index Fund (8,020,055), and Vanguard 500 Index Fund (5,340,398). Finally, 25 insider shareholders own 1,989,622 shares. CEO of Costco is the largest among insider shareholders. He holds a total of 804,419 shares as of December 2015.
Comment: Vanguard Group owned approximately 6.45% of Costco shares as an institutional shareholder at the end of the first quarter of 2016. If Vanguard Group decides to act, it can have a significant impact on Costco’s governance choices.
Appendix A – Corporate Governance Rating in Corporate Governance
I rated Costco’s corporate governance based on the ISS model. My score ranges from 1 to 10, with 1 indicating low governance risk and 10 indicating high governance risk. The rating was given across four pillars: Board Structure, Compensation, Shareholder Rights, and Audit & Risk Oversight. Overall, I gave Costco 3 in Audit; 10 in Board Structure; 8 in Compensation; and 9 in Shareholder Rights.
Board Structure: In my opinion, Costco’s Board exhibits high risks to its shareholders. First of all, Costco’s Board adopted a staggered board with plurality voting. Although this system may be good for anti-takeover purposes, it limits shareholder rights in replacing board members. Second, the tenure of directors is too long. Most of the directors have served on the Board for more than ten years. Some of them have been there since inception. This long-term tenure puts the independence of directors at risk. Third, according to its corporate governance policy, Costco’s Board has four busy directors. One of them sits on five boards. Besides, The Company does not have a policy restricting the number of public corporation boards that a director may sit. Studies have shown that companies with busy directors tend to have worse long-term performance. Fourth, Costco’s Board has only two women and no minorities. The lack of minorities makes Costco’s Board have a higher risk of independence and oversight. Finally, there is a committee overlap on the Board. The chair of the audit committee is also a member of the compensation committee. This can make the Company more susceptible to manipulation. For all of these reasons, I gave Costco’s Board a score of 10, which indicates high risks to investors.
Compensation: In my opinion, the executive compensation system at Costco also exhibits high risk to shareholders. There are several reasons for this. First, there is no disclosure of specific, quantifiable performance metrics for the CEO. Thus, it is unclear whether the CEO has earned his incentives for achieving predetermined performance objectives. Second, there is no requirement for the CEO to perform above the median of the company’s peer group to earn his incentives. 87.1% of companies in the S&P 500 index has this kind of requirement. Furthermore, equity held by the CEO has declined over the last year. This decline in equity holdings may lead to decreases in the alignment between the CEO’s interests and those of shareholders. Last but not least, the CEO can accelerate unvested equity awards upon his termination. The CEO may take advantage of this policy to realize pay opportunities without having to earn them through good performance. For all of these reasons, I gave Costco’s incentive compensation system a score of 8.
Shareholder Rights: Costco’s shareholders do not have many rights in the Company’s corporate governance matters. First, the Company has no antitakeover defenses other than a staggered board. This reduces the premium that shareholders may receive in case of a hostile takeover. Second, Costco’s shareholders have no preemptive rights to purchase additional shares. Thus, shareholders’ ownership may be diluted in the event; there is a seasoned offering. Finally, the shareholders have no right to call a special meeting or take any action in between meetings by written consent. This restriction, along with supermajority voting, severely limits shareholder rights to participate in the Company’s corporate governance matters. As a result, I gave shareholder rights at Costco a score of 9.
Audit Practices: I think Costco has a transparent and robust audit and risk oversight practices. In terms of the external auditor, Costco replaced its long-time audit partner Arthur Andersen LLP right after its involvement in the Enron scandal by KPMG. In addition, Costco has no major audit or accounting controversies over the past few years. For these two reasons, I gave the audit practices at Costco a score of 3, which indicates a low risk to shareholders.
Appendix B – Strategy, Performance Measurement, and Risk Management in Corporate Governance
Costco’s primary strategy is to provide its customers with low priced and nationally branded products. Moreover, Costco imposes a limitation on particular items in each product line to fast-selling models, sizes, and colors. Each Costco warehouse carries an average of around 3,700 active stock-keeping units (SKUs), which is less than its competitors. There are a lot of products that are only available for sale in case, carton, or multiple-pack quantities.
- To give its customer the best value at the best price.
- To become a company that’s on a first-name basis with everyone.
- To treat people right and with respect.
Costco divides its strategy into six different categories: employment objectives, management objectives, business objectives, growth objectives, marketing objectives, and ethics objectives.
Key Performance Indicators
Costco highlights the importance of “member satisfaction” as the company imposes its business strategy. To measure member satisfaction, Costco uses four key performance indicators:
- Sales: fluctuations in same-store sales, website results
- Membership: new members, renewal members, and defections percentages
- Product category results: results in gasoline and groceries
- Profit margin: membership fee (80% of gross profit)
Up to now, Costco has been successful with its business model. The company collected $2.5 billion in membership fees from its members, which accounted for roughly 17% of Costco’s gross profit in 2015. Furthermore, the membership renewal rate was 90% in 2015. These positive results have proved the efficiency and effectiveness of Costco’s business model. However, there are still some risks associated with this business model:
As stated by Costco’s corporate governance policy, the largest problem with Costco’s business model is that the company is becoming too dependent on memberships. The business model will continue to work well if members renew their memberships and continue to shop at Costco. At the moment, the biggest competitor of Costco’s business model is Walmart’s Sam’s Club, which offers similar discounts and other membership benefits. However, Walmart’s Sam’s Club offers different product selections from those at Costco. Costco would face a serious problem if its members changed their preferences and moved to other competitors, such as Walmart’s Sam’s Club. If that happened, Costco would be left with a huge amount of redundant and unwanted goods.
- Omnichannel Experiences
With the fast development of technology, omnichannel is becoming more and more important to companies and customers. Companies can increase revenue by providing their customers with a continuous shopping experience from traditional “street-side” stores to online shopping. On the other hand, customers can take advantage of omnichannel to shop online in the comfort zone of their own house or to compare prices and quality among different vendors. Although Costco generally keeps its prices low, and it is developing its own omnichannel, there is no guarantee that it will successfully integrate the omnichannel strategy into its current business model.
When it comes to buying in large quantities, delivering the products suddenly becomes important. Customers want their goods to be transported home at a low cost or even free of charge. Costco faces some risks in this area as it is not doing a good job compared to other companies. For example, while Costco only offers some online services, Amazon offers free two-day shipping and Prime shipping benefits.
Appendix C – CEO Succession Planning in Corporate Governance
The current CEO of Costco is Mr. Walter Craig Jelinek. He has been the CEO of Costco since January 1, 2012, based on the company’s corporate governance record. Before becoming CEO, he was appointed as president and chief operating officer (COO) in February 2010. The CEO of Costco at that time was Mr. James D. Sinegal. The succession planning at Costco was that the successor to the CEO had to come from within the company. As a result, Costco had appointed Mr. Walter Craig Jelinek as president and COO. Costco also established an Office of the President that included CEO, Chairman, Senior Executive Vice President, and President. The purpose was to make a management transition when the current CEO at that time, Mr. James D. Sinegal, stepped down. As for now, Costco has not been making any proper executive-officer succession planning yet. Mr. Walter Craig Jelinek currently holds both CEO and president positions. There is no COO at the corporate level, only at divisional and regional levels.
Appendix D – CEO Biography
|W. Craig Jelinek Position over Time|
|Executive VP, Divisional COO||2004-2009|
W. Craig Jelinek has been with Costco for over 30 years. He was appointed as CEO at the beginning of 2012, and a director and President since February 2010. From February 2010 to January 2012, Mr. Jelinek served as President and COO. From 2004 to 2009, he was in charge of merchandising. He served in multiple management positions in warehouse operations in the previous 20 years.
Appendix E – Additional Information on Executive Compensation and Incentives in Corporate Governance
1. Compensation Philosophy and Objectives
Costco’s compensation philosophy is to give its executives and employees incentives to make contributions and put efforts into the growth of the company. Costco claims that it has been successfully attracting and retaining quality employees. The company also claims that it has achieved a low turnover in executive, staff, and warehouse management ranks. Moreover, Costco proved its success in its compensation programs by showing 97.3% of advisory shareholders were in favor of the current compensation programs at the 2015 Annual Meeting.
2. Stock Ownership Guidelines
The minimum number of shares an executive must hold is 12,000 shares of common stock.
3. Clawback Policies
If financial statements of a given period are restated or adjusted, incentive compensation awarded previously will be reclaimed. If the compensation is not awarded on a formulaic basis, a discretionary basis will apply. Furthermore, remedial or recovery action would be taken if an officer intended to inflate the incentive compensation to that officer.
4. Severance Agreements
According to Costco’s 10-K form, the employment of the company’s employees will not be deemed severance of employment from Costco for purposes of the payment of severance, salary continuation, or other identical benefits. In addition, Costco will be responsible for all liabilities and obligations concerning claims made by its employees in terms of severance pay, salary continuation, and similar responsibilities in connection to the termination.
5. Golden Parachutes
Costco does not have any change-in-control agreements (golden parachutes) with any of its executive officers, director, or employee. In case of a change in control, the Board may accelerate RSU vesting for plans under which RSUs have been granted.
If an executive’s employment is terminated, the executive can only collect the remaining balance of his or her deferred compensation account after the six-month waiting period succeeding the termination of employment.
If the employment of the current CEO of Costco, Mr. Jelinek, is terminated, the CEO will receive an estimated amount of $1.35 million, including a total of cash payment equivalent to one and a half times his yearly salary and target bonus; continued medical coverage of $67,450 under the Company’s medical plans until age 65; and full acceleration of any unvested RSUs.
6. Post-retirement Compensation
Post-retirement compensation of executives is included in perquisites and “other compensation.” Most of the post-retirement compensation is in connection to the 401(k) plan and the deferred compensation plan, which permits the executives to postpone the entire salary and bonus. The deferral period is at least five years and the matching credit vests over five years. If an executive has reached a sum of age and years of service of 65, the vesting period is shortened to 1 year. Bank of America prime rate will be used as an interest rate for the deferred amounts. Based on its corporate governance guideline, Costco does not maintain a pension plan or post-retirement medical plan for any of its executives.
7. Pledging and Hedging
Costco’s corporate governance guidelines forbid directors and executive officers from hedging and pledging of Costco shares without the approval of the Board and designated Trading Compliance Committee.
8. Discretionary Component of Compensation Plan
Costco’s employees are offered a discretionary 401(k) plan contribution, which allows pre-tax deferral, for which Costco matches 50% of the first $1,000 of employee contributions. Furthermore, Costco gives each eligible employee an annual discretionary contribution established on salary and number of years of service.
9. Criteria for Awarding Variable Pay
There is two criteria for the fiscal year of 2015 performance-based RSU grants (measures based on local currencies):
- 5% increase in total sales compared to 2014
- 3% increase in pre-tax income compared to 2014
After the end of 2015, both goals were exceeded, and NEOs earned their RSUs granted.
10. Compensation Consultants
Although Costco’s charter allows the Compensation Committee to engage compensation consultants, the Committee has not used any since 2006. Compensation Committee has used a peer group to design Costco’s compensation packages.
11. Peer Group, Compensation Design
The peer group of Costco consists of five companies: Walmart, The Home Depot, Target, The Kroger, and Lowe’s. Among these companies, Walmart also has the same membership warehouse model, which is Walmart’s Sam’s Club. Compared to the gross profits of all five companies in 2015 in the peer group, Costco’s gross profit was the lowest, especially lower than Walmart. We think the reason why Costco included Walmart into its peer group even though Walmart is substantially larger is that Walmart has the same membership warehouse business model as Costco’s. Because all the companies in the peer group are larger than Costco, Costco does not use data from these companies to set mid-points or other specific quantitative comparisons, but only for general reference.
12. Peer Group, Performance
|Company||Gross Profit in 2015||CEO’s compensation in 2015||Compensation to Gross Profit ratio||Dual role|
|Costco Wholesale Corporation||$15,134,000,000||$6,306,805||0.04%||CEO is not Chair|
|Wal-Mart Stores Inc.||$120,565,000,000||$19,070,249||0.016%||CEO is not Chair|
|Target Corp.||$21,340,000,000||$28,164,024||0.13%||CEO is also Chair|
|The Home Depot||$28,954,000,000||$10,171,865||0.035%||CEO is also Chair|
|The Kroger Co.||$22,953,000,000||$9,489,186||0.04%||CEO is also Chair|
|Lowe’s Companies, Inc.||$19,558,000,000||$11,625,582||0.06%||CEO is also Chair|
One interesting point I noticed is that the compensation of Brian C. Cornell, who is the current Chairman and CEO of Target. Although the gross profit of Target in 2015 was much lower than that of Walmart, the compensation of Mr. Cornell was higher than that of Walmart’s CEO.
Appendix F – Accounting Quality and Transparency
Costco focuses on providing accurate, relevant, and transparent financial reporting to investors. To make the financial statement understandable to the shareholders is the management team’s primary duty. The role of Costco’s auditors is to assess and express an opinion on whether the company’s financial statement adequately comply with regulatory accounting standards. Accompanied by the support of the Audit Committee, the management team, and the auditors, Costco insists on ensuring that the investors have the proper insight into the business, the key metrics that represent the health of the operations, and the information necessary to make investing decisions.
Appendix G – Financial Restatements (Form 8-K) in Corporate Governance
Since the beginning of 2016, Costco has filed the Form 8-K four times. The first statement was released on January 29, 2016, and the Form 8-K was submitted on February 01, 2016. Costco announced to declare a quarterly dividend of $0. 40 per share on common stock. On February 04, 2016, Costco filed another Form 8-K regarding the results of the 2016 Annual Meeting of shareholders. On March 03, 2016, Costco filed the Form 8-K to report the second quarter and year-to-date operating results for the fiscal year 2016 and February sales results. The last Form 8-K was filed on April 15, 2016, to declare its quarterly cash dividend on common stock increased from $0.40 per share to $0.45 per share. Since a material error caused none of these four reports in previously published financials, there are no significant fluctuations reflects from the stock price.
Appendix H – SEC Rule 10b5-1
Even though Costco does not disclose to the public that they have entered into SEC Rule 10b5-1, they treat 10b5-1 plan as general references and disclose each trade on Form 4. Costco ensures that all purchases are made from time-to-time, as conditions warrant, in the open market or block purchases, and according to plans under SEC Rule 10b5-1.
Appendix I – Anti-Takeover Provision
Costco does not have any anti-takeover measures (poison pill provisions, golden parachute contracts for executives) in place, apart from the staggered board, which ensures that hostile acquirers must win at least two elections to gain majority representation.
Appendix J – State of Incorporation
In December 1998, Costco filed the form DEF 14A to SEC to declare the reincorporation from Delaware to Washington had been approved by the Board of Directors. There are two main reasons for the reincorporation: to simplify the business structure and to reduce corporate franchise taxes. In 1998, The Price Company decided to merge with The Costco Wholesale Corporation. Due to this reincorporation, the Company’s corporate franchise taxes in Delaware increased to $150,000. However, the reincorporation from Delaware to Washington helped the Company to reduce the costs to $59.
Appendix K – Activist Investors
In early 2015, two activist shareholders, James McRitchie and Myra Young submitted a shareholder proposal requesting that Costco board adopt a law to limit the tenure of at least two-thirds of the board to less than 15 years. However, the proposal failed by a substantial margin at Costco’s 2015 Annual Meeting.
Appendix L – ISS Rating
According to Institutional Shareholder Services (ISS), Costco’s governance quick score as of May 7, 2016, is 10, which means that Costco’s governance exhibits high risk (1 indicates lower governance risk, while a 10 indicates higher governance risk). The table below shows the main components of Costco’s score.
|ISS Governance QuickScore Pillars|
|Board Structure: 10||Compensation: 9|
|Shareholder Rights: 10||Audit & Risk Oversight: 2|