Costco is more like Netflix than Walmart — and it's key to how the company stays profitable

• Costco is in the headlines for its Netflix-style crackdown on unauthorized sharing of membership cards.
• Although it's the third-largest retailer in the world, most of its profit comes from membership fees.

It's the warehouse club equivalent of a now-familiar warning for password-sharing movie-watchers: "This TV isn't part of your Netflix Household."

Costco's demand that people show their photo proof of membership before using self-checkout is widely being compared to the streaming giant's recent crackdown.

The retailer's move came after it says it noticed an increase in shoppers using membership cards that don't belong to them. But rather than use IP addresses and device tracking to reduce the number of unauthorized users, Costco has begun assigning staff to manually check IDs of shoppers queuing for self-service.

Although Costco is the third-largest retailer in the world, its reliance on membership fees means it's in some ways more like Netflix than Walmart. Here's how.

It's no secret that people buy a staggering amount of stuff at Costco, which saw sales of nearly $223 billion last year.

What's less obvious is that Costco really doesn't keep that much money in terms of profit from the stuff it sells, when compared with typical retailers.

Last year's average merchandise markup, or gross margin percentage, was just around 10.5% — far less than the 25%-50% commonly estimated for businesses that sell similar products.

Other operating costs, like payroll and utilities, mean the company retained less than $3.5 billion from its top-line sales last year.

Meanwhile, membership fees are about as close to pure profit as a company can get, and Costco raked in over $4.2 billion in fees from 54 million households and 11.8 million businesses. (Costco allows just two authorized cardholders per membership.)

That means roughly half of Costco's 2022 profits can be attributed to the fees, unlike other big box stores like Walmart or Target, which make the vast majority of their profits from selling things.

Other warehouse clubs, like BJ's and Sam's Club (owned by Walmart), operate in a similar way: In a sense they don't make so much money from the products they sell; they earn a profit by selling exclusive access for customers to buy items nearly at-cost.

Netflix's model similarly charges members for exclusive access to consume its content, in which the company invests a lot to produce and deliver.

High costs have led Costco, Netflix to crack down

For years now, both Costco and Netflix have been content to look the other way as paying members shared passwords and ID cards in violation of their respective policies.

So long as renewals and new signups held steady, neither company seemed too worried, but rising costs (and softening sales for Costco) have pushed both companies to go hunting for ways to shore up their profits.

Beyond simply raising prices (a lever Costco has been more reluctant to pull than Netflix), the real low-hanging fruit for both companies is to nudge more of their non-paying consumers to become paying ones.

Indeed, early indications are that the password crackdown has been a wildly successful move by Netflix, more than doubling the usual rate of new signups in the days following the announcement.

Costco won't likely report updated membership numbers until later this year, but if the company sees even a fraction of that increase, it will be a huge lift for the business in a challenging economic year.