Wilson K Lee - How To Open A Restaurant / F&B Shop

Costco Loses Money on Every Hot Dog. Here's Why It's Genius.

Duration: 9:10 1736 transcript words EN summary

Video summary

Costco has maintained a unique pricing strategy since the 1980s by selling its famous hot dog and soda combo for exactly $1.50, a price point it refuses to raise despite decades of inflation and rising ingredient costs. The company reportedly loses money on every single unit sold intentionally because the food court is not designed as a profit center but rather as an essential service to members, similar to free parking or clean bathrooms. This consistent low pricing serves as a powerful promise that Costco cares for its customers after they spend hundreds of dollars on groceries elsewhere, ensuring that their last taste in memory reinforces trust and loyalty before they leave the warehouse. The core genius behind this strategy lies in understanding that Costco's actual product is not the food or merchandise on the shelves but rather the annual membership fee, which generates the majority of the company's operating profit. By pricing items like the hot dog to appear as a giveaway, Costco effectively markets its value proposition and encourages members to renew their subscriptions every year; approximately 90% of members choose to renew annually because they feel protected by these honest deals. Raising the price would break this narrative instantly, signaling that the company no longer stands on the side of the customer, which is why executives have threatened severe consequences for anyone suggesting a price increase instead opting to rebuild their supply chain economics internally. This approach offers critical lessons for other businesses and restaurant owners who often mistakenly raise prices on their most popular items when facing financial pressure, not realizing that these low-margin products act as magnets or signal items rather than primary revenue drivers. When an item serves as the magnet pulling customers in, it should be priced to build trust and community goodwill while profits are generated through other high-margin goods like memberships, second visits, or additional purchases made by those drawn in by the deal. Successful operators must identify which specific menu item functions as their loss leader versus a margin maker before making any pricing decisions, ensuring that they do not confuse an asset used for brand defense with a product meant to generate immediate profit. Ultimately, Costco's discipline demonstrates that protecting a price is sometimes more important than maximizing short-term margins on individual units if that price represents the foundation of customer trust and long-term loyalty. Instead of passing increased costs onto consumers, companies should attack their own cost structures by building in-house production or finding efficiencies to maintain those vital low prices forever. By clearly distinguishing between items that serve as proof of value for members and those designed to generate revenue, businesses can create a sustainable flywheel where the cheapest item drives traffic while other elements capture the true economic value needed to thrive.

Read the full video transcript

If you change the price, I will kill you. Go figure it out. That's what the CEO told the team when they suggested to raise the [music] price. Costco has sold the same hot dog and soda for $1.50 since 1980s. It reportedly loses money on every single one of them on purpose and it has protected that loss like it's the most important number in the company. And friends, if you're running a restaurant, this is by far the most misunderstood pricing decision [music] in retail because the item that everyone thinks is a giveaway is actually the smartest marketing that the company has ever ran. Hey friends, welcome back to the receipt, the series where we take apart the businesses behind the restaurants that you know. I'm Wilson, two decades in food and beverage. Built my dessert chain 720 [music] Suites to seven locations before it was acquired. And I've made the mistake this entire story is about. I've looked for cheap, popular items on my menu, done the math, and thought that, hey, you know what? Basically, we're giving this away for free. Let's just raise it a dollar. Sometimes it was right, many [music] times it was wrong. It quietly just broke the one thing that made people trust [music] our prices. And what I want to show you is why one of the most popular retailers on [music] Earth guards a money losing hot dog like a state secret. Because the hot dog was never the product. Now, let's dive right in. Costco opens its first warehouse [music] in 1983. And almost from the beginning, there is a hot dog stand [music] out front. A quarter pound all beef hot dog and a 20 oz soda. By 1985, the combo is priced at $1.50. That price has not changed ever since. Not through inflation, not through recessions, not through beef spiking, not through pandemic, at $1.50 for over 40 years. And here's the thing that you must understand. And the food court was never designed to be a profit center. Most retailer treats food service as its own business. It has its own margins. [music] Costco treats the food court like free parking or like the free samples or like the clean bathrooms. It's a service to [music] the members, a reason for the members to stay in the building. So, the hot dog isn't priced to make money. Rather, [music] it's priced to make a promise. When you walk into a Costco having spent $300 on groceries and you grab a full meal for just a buck 50 on the way to your car, the last taste in your mouth literally is that this place take cares [music] of you. Friends, this is not an accident and it is actually by design. That it is the most valuable real estate for this entire warehouse and it only costes them $1.50. Now, fast forward. Cost climbs the way that cost always climbs. Beef climbs, labor climbs. every input that makes the hot dog climbs for [music] the last 40 years. And at some point, someone within the company does the obvious responsible thing. They run the numbers and they walk into [music] Jim Synagal, the co-founder and longtime CEO, and they suggest raising the price [music] to $2, even a $1.75 just to stop the bleeding. And Synagal's answer, if you raise the price of the hot dog, I will kill you. Figure [music] it out. Instead of raising the prices, Costco went to rebuild the entire economics around that hot dog. They took the hot dog production in-house. They built their own hot dog manufacturing. [music] So then that way they can control the cost of the product directly. They protected the price by [music] attacking the cost, not the customer. So the $150 survives not because they can't do the math, but because they decided the price itself was a brand asset [music] worth defending. Hold on to that idea. A price is an asset because that's the entire lesson in this video. Real quick, if you're finding any value in this, make sure you smash that like button, subscribe along the journey, and drop me a comment in the section below. What's the one item on your menu that you would protect even if it stops making money? Tell me honestly, so that way I know what to break down [music] next. To understand the $150, you have to understand that Costco barely makes anything selling you groceries. Costco runs on razor thin retail margins on [music] purpose. It marks most products up only by a small capped amount over the cost. The stuff on the shelves is close to break even by design. So, where does the profit come from? The membership fee. The annual cart that you buy just to be allowed to shop in there. The membership is reportedly the majority of Costco's operating profit. [music] Guys, we're talking about the majority of the entire profit. The company's actual product is not the food, nor the TV, nor the giant tubs of mayonnaise. The product is the membership. Everything inside is priced [music] to make that membership feel like the best $1.50, the best 60 bucks that you have spent [music] all year. And now the hot dog makes total sense. Because the $150 combo is not just a food item, it is a promise. It is a renewal ad because every time you eat it, it resells you on the benefit of the membership. [music] It says out loud, "The deal is real. We are still on your side. Come back." Costco reportedly renews around 90% of its members every single year. We're talking about 90%. That is one of the stickiest [music] customer base in all of retail. And the cheapest, most reliable piece of marketing in that entire flywheel is the hot dog that loses a few cents every [music] single unit. The hot dog becomes the bait. It's an honest bait because the deal really is that good. But that's [music] the reason why Synagol would rather lose money on it forever than to let anyone touch [music] the price. But here's the trap, friends. This is where I see operators, myself included, get it exactly backwards. Because when money is tight, the instinct is to raise the price of your most popular, lowest margin item. It feels responsible. [music] It feels like it's going to help out. Everybody buys it. It barely makes any money. Let's fix that. But your most popular, low margin item is often [music] your signal item. It's the price that people use to decide whether you're fair. Raise it and you don't just make a few cent. You quietly tell every single regular that the deal is over. Costco understood that the hot dog's job was never to earn margin. Its job is to be the proof. A $1.50 unchanged for 40 years is a promise that you [music] can taste. It's more convincing than any ad any loyalty app. The moment that they raise it, their story [music] breaks. So they would rather rebuild the entire supply chain than to break the story. That is a discipline that most company do not [music] have. The genius is not the hot dog. The genius is knowing which number on the menu is the price and which number is a promise and never confusing the two. So what's the lesson that you can actually learn from? [music] Three things. Number one is to know which item is your magnet. Which item is your [music] margin. Every menu has a magnet. The thing that tells people to come in, mention to friends, use to judge your prices. and it has margin items, the stuff that quietly pays the rent. They are almost never the same item. Costco's magnet is the $150 hot dog. [music] The margins is a $60 membership. Map yours before you touch the pricing. Lesson number two, price the magnet for love, not [music] for profit. Your signal item, this magnet, should be priced to build trust, to be able to give back to your community, not to hit a margin target. You make your money on everything else that the magnet pulls people towards. the full cart, the second visit, the loyalty. And I'll be honest with you, at 720 Suites, we had this signature item that people came in for. It is a $2 cone that we barely [music] make money on. Yet, every single day, we sell hundreds of those cones. And when people come by the cones, they would end [music] up buying tubs of ice cream to bring it back to their family to eat, which is where we make all our margins. By identifying the cone and the tub, it allows us to have a very strong strategy moving forward. Number three, you must fix the economics. Attack the costs and not the customer. [music] Costco didn't raise the prices. They went and built their own hot dog plant. When your signal item, the magnet, stops working financially. Protect the price by going to rebuild the cost around it. That's [music] harder, but it is also what's going to make the difference. Take this as reference, friends. But before you decide to raise prices [music] on the thing that actually drags and pulls all your customers in, really try to identify, is this item going [music] to be a loss leader, a magnet, a thing that actually showcases to your customer who you really are, or is this actually a margin maker? Identify the difference and you're going to be able to [music] make your restaurant a profit machine. So there you are, friends. Costco sells a hot dog for $1.50, 50 loses money on it on purpose and threatens to fire anyone who raises it. All because the hot dog isn't food. It's proof that the membership is worth it. The magnet is the hot dog, the lost leader. The margins is the membership [music] and the discipline is to never confuse the two. If you find any value in this, make sure you guys subscribe along the journey. Hit that like button. So then that way it tells me [music] to keep doing these for you. With that, friends, we'll see you in the next one.