Good morning. My name is Brittany, and I will be your conference operator today. At this time, I would like to welcome everyone to the Q2 earnings call and February sales conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star then the number 1 on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. Mr. Richard Galanti, CFO, you may begin your conference.
Thank you, Brittany. Good morning to everyone. I'll start by stating that our discussions will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. That these statements involve risks and uncertainties that may cause actual events, results, and/or performance to differ materially from those indicated by such statements. The risks and uncertainties include, but are not limited to, those outlined in today's call, as well as other risks identified from time to time in the company's public statements and reports filed with the SEC. Forward-looking statements speak only as of the date they are made, and we do not undertake to update these statements except as required by law.
Last night's press release reported our second quarter and first-half fiscal 2016 operating results for the 12- and 24-week periods ended February 14th, as well as our monthly sales results for the 4-week reporting month of February, which ended this past Sunday, February 28th. For the quarter, reported earnings came in at $1.24 a share compared to last year's second quarter earnings per share of $1.35. Note that last year's earnings were positively impacted by two discrete income tax items that together benefited last year's second quarter earnings by $43 million, or $0.10 a share, and that excluding these two items, earnings for the second quarter last year would have been $1.25 a share. Among the factors that impacted our second quarter year-over-year earnings comparison, foreign exchange, FX, as compared to a year ago.
During the quarter, the foreign currencies where we operate continued to weaken versus the U.S. dollar in all countries, but primarily in Canada, Mexico, and Korea, resulting in our foreign earnings in the second quarter, when converted into U.S. dollars, being lower by about $32 million or $0.07 a share than if exchange rates had been flat year-over-year. Second item of comparison is our co-branded credit card transition in the U.S. and relates to that. As you know, we're transitioning to a new co-branded credit card relationship in the U.S. this year. As we wind down our current relationship, new co-branded credit cards sign-ups stopped several months ago. The short-term negative earnings impact to the lost co-branded credit card sign-ups was $18 million pre-tax, or $0.03 per share hit to the second quarter.
Recall that the earnings impact was $15 million pre-tax, or $0.02 a share last fiscal quarter. It will continue to impact earnings in Q3 and a little even into the first month of Q4. As of today, we expect to have the new co-branded Visa cards in the hands of our members in May with a go-live transition date in June. While I can't give you any specifics regarding the new card, contractually, I can't do that yet, I do look forward to sharing more details with you at that time. Third item, IT modernization. Our major IT modernization efforts continue to impact SG&A expense percentages, especially as depreciation begins on the new systems that are now being placed into service.
In the second quarter, on an incremental year-over-year basis, these costs impacted SG&A by about $10 million or an estimated 3 basis points, 2 basis points without the gas deflation, which was about $0.01 a share. There is a light at the end of this tunnel with the SG&A headwinds. Based on our current estimates, we expect the year-over-year basis point impact to SG&A is likely to be just a couple of additional basis points in fiscal year 2017, then flatten out hopefully a little better than flattening out over the next couple of years after that. Stock compensation expense was higher year-over-year in the second quarter by $14 million or $0.02 a share. Lastly, in terms of the year-over-year comparison LIFO, last year in the second quarter, we recorded a pre-tax LIFO credit of $4 million.
This year into the second quarter, with deflation being a little bit more impactful than in the past couple of months, we had a LIFO pre-tax credit of $15 million, resulting in a year-over-year delta of $11 million or $0.02 a share. Turning to our second quarter sales. Reported sales were up 3%. Our 12-week reported comp sales figure was up 1%. For the quarter, sales negatively impacted by gasoline price deflation to the tune of 80 basis points and by weakening foreign currencies relative to the US dollar by -340 basis points, such that excluding gas deflation, the reported +3% U.S. comp for the second quarter would have been a +4. The reported Canadian comp of a -7 in the second quarter would be a +10, excluding both gas deflation and assuming flat FX rates year-over-year.
The reported -3% international comp figure for the quarter, excluding gas and FX, would have been a +6. Total comps again reported 1% for the quarter. Excluding gas and FX, would have been up 5. For the four-week month of February, which again ended this past Sunday, reported comps came in at flat at 0%. That consisted of a +2 comp on a reported basis in the U.S., a -2 reported in Canada, and a -8 other international. As we discussed last month, the calendar shift of Super Bowl moved sales out of January reporting period into February. We estimated that this shift benefited our U.S. sales for the month of February by about three-quarters of a percent and the total company by about a half a percent.
Sales were negatively impacted by, again, gas deflation, which started to head down again during the month, about a 180 basis point negative impact to the number, and also by weakening FX foreign currencies relative to the U.S. dollar to the tune of 250 basis points. Excluding gas deflation in the U.S., the reported +2% U.S. comp for February would have been a +4%. Excluding gas deflation, the February -2% comp in Canada would have been a +10%. The reported -8% international comp would have been flat year-over-year ex gas and FX. Total company comps reported, again, 0% for the month, would have been a +4% excluding gas and FX. I might mention that the other international normalized number, in other words, ex gas and FX of 0%, mostly relates to the timing of the Chinese Lunar New Year holidays.
We don't think that'll be an issue after the timing of that. Final comment on deflation. Beyond gasoline price deflation that we've always pointed out each month, we have seen a little additional deflation across many merchandise categories, such that sales have been impacted a bit by a little bit more in the past couple of months. In terms of new openings, our opening activities and plans, we opened 13 new units in Q1, including two reloads, so a net of 11 new locations in the first quarter. In Q2, we opened one new business center in Westminster, California. For all of fiscal 2016, we're still on target to do 30 net new locations, 21 of which will be in the U.S., three in Canada, two in Japan, and one each in the U.K., Taiwan, Australia, and Spain.
Also this morning, I'll review with you our e-commerce activities, membership trends, and renewal information, additional discussion, of course, of margins and SG&A, and a couple of other items of note. In terms of second quarter results, sales for the quarter were $27.57 billion, up 3% from last year. On a reported comp basis, Q2 comps were up 1% for the quarter, up 5% ex gas and FX. For the quarter, our +1% reported comp was a combination of an average transaction decrease of -2.5% and an average shopping frequency increase of just over 3%. In terms of the -2.5% average transaction decrease, again, taking FX and gas out of that number, that -2.5% would have been a positive number that would be just under +2%.
In terms of sales comparisons geographically, in the U.S., the Midwest, Texas, and California regions were strongest. Internationally, in Q2 in local currencies, better performing countries were Mexico, Canada, Australia, and Taiwan. In terms of merchandising categories for the quarter, for the second quarter within food sundries, overall flattish, meat, deli, and sundries were the leaders. Tobacco, negative in the low double digits as we continue to eliminate tobacco SKUs from various locations. For hard lines, overall in the mid-single digit range. Departments with the strongest results were consumer electronics, which was up in the low to mid-teens, sporting goods, lawn and garden, and tires. Within the low to mid-single digit soft lines, domestics and apparel were the standouts. In fresh foods, comp sales were in the low single-digit range, with produce showing the best results among the four main fresh foods categories.
Lastly, as we've mentioned during the December and January sales calls, in the U.S., we're seeing deflation in the low single digit range for foods, sundries, and fresh foods. Now again, a little bit more on the non-food side as well. In terms of February, traffic was up a little over 3.5%, while the average transaction was down a little under 4%, about 3.75%. Again, gas, as I mentioned earlier, fell again a little more dramatically. In February, the average sale price year-over-year in gas was down 21% for the month, which is a bigger decline year-over-year than we saw in the quarter overall. In terms of geographic regions, again, for February, Texas, Southeast, and Midwest regions were strongest. Internationally, in local currencies, Mexico and Canada were at the top.
From a merchandise category standpoint, ex FX, all categories, food sundries, hard lines, soft lines, fresh foods, were in the mid-single digit range for February reporting period. Again, a little deflation impacting these. It's a little deflation, but it's more than we had seen historically of recent history. Moving down the line items of the income statement, membership fees. We came in for this fiscal year at $603 million, up 4% or $21 million from $582 million a year ago and up two basis points as a % of sales. Again, that $21 million increase and 4% dollar increase, if you assumed flat FX, the $21 million would have been a $40 million increase, and the 4% increase ex FX would have been a 7% increase. In terms of membership, renewal rates remain strong, 91% in the U.S. and Canada, and 88% rounded up to in worldwide.
Continuing increasing penetration and the Executive Member, I think, helps that. New membership sign-ups in Q2 company-wide were up 4%. I will point out last month, the early part of February and into the second week of February, for 12 days, we ran a new membership promotion on LivingSocial. I recall that we also ran a membership promotion with LivingSocial about 18 months ago. Like that one, it went well and we don't do it too often. Don't want to get people used to it, but it was a good result. In terms of new members at Q2 end, Gold Star members at Q2 end was 35.4 million, up from 34.7 million at Q1 end 12 weeks earlier. Business primary remained at 7.2 million. Business add-ons remained at 3.5 million. All total, at Q2 end, we were at 46.1 million versus 45.4 million at Q1 end.
Total cardholders would be 84.0 million, up from 82.7 million. As of the end of the second quarter, paid Executive Memberships totaled 16.6 million of our members, an increase of 214,000 over the 12-week month, or about 18,000 a week increase in the quarter. As I've mentioned before, Executive Members are a little more than a third of our membership base and about two-thirds of our sales results. In terms of renewal rates, as I mentioned, they continue strong. Business in the U.S. and Canada was at 94.5%, same as it was a quarter ago. Gold Star was 89.7%, same as a quarter ago. The total U.S. and Canada at 90.5%, same as a quarter ago. Worldwide at 87.7%, down a tick from 87.8% at Q1 end.
A little bit of rounding. As you know, in all new markets, we generally have in the first year, lower renewal rates in that second year, the first year of renewals. I've mentioned, I think, in the last couple of months that in Canada, when we did the credit card conversion, which is a little different than the one we're doing here, it was what's referred to as a de novo thing, where everybody had to sign up for a new credit card and apply and what have you. Your renewal rates related to auto renewals, which by definition are high, it comes down a little. That'll be anniversary after next quarter. We saw a little tick down in Canada this quarter, year-over-year, as we had in the last couple of quarters as well. There should be one more quarter of that.
Again, not terribly meaningful. We've been asked. Going down the gross margin line. Our gross margin in the second quarter was higher year-over-year on a reported basis by 17 basis points. As always, we'll jot down four columns of numbers with six line items. The first two columns are Q1 2016 and Q1 2015. The columns would be reported, column one. Column two would be without gas deflation. We'd have Q2 2016, two columns, reported and without gas deflation. Reading across, core merchandising Q1 on a reported basis was up 24 basis points. Ex gas deflation was down three basis points year-over-year. For Q2 2016, reported was plus five, and without deflation, minus three. Ancillary, plus 11 and plus four in the first quarter year-over-year. Plus nine and plus seven in Q2. Two % reward, minus three and minus one. Q2, minus one and zero.
LIFO, plus one and plus one. In Q2, plus four and plus four. Other was minus seven and minus seven a year ago and not an issue, zero and zero in Q2. Such that total reported year-over-year in Q1, we were up 26 basis points in gross margin. Without gas deflation, down six basis points. In Q2, we were up 17 and up eight ex gas deflation. As you can see, the core component of gross margin was higher by five, minus three excluding gas deflation in the quarter. Core gross margins, food, sundries, hardlines, softlines, and fresh foods, as a % of their own sales, were positive year-over-year in Q2 by 11 basis points , with food sundries and hardlines showing higher year-over-year gross margins as a % of their own sales, while softlines and fresh foods a little lower year-over-year as a % of sales.
Again, the net of those four major categories as a % of their own sales was up year-over-year in the quarter by 11 basis points. Ancillary and other business gross margins were up nine basis points, seven without gas. In terms of various ancillary businesses, our gas business, our food courts, our hearing aid centers, our tire shops, and our one-hour mini labs all showed higher gross margins year-over-year as % of their own sales. Again, Executive Membership, not an issue without deflation, a zero impact year-over-year. Again, LIFO, a four basis point benefit to the gross margin year-over-year. Moving to reported SG&A. Our SG&A % in Q2 was higher or worse year-over-year by 34 basis points on a reported basis and up by 27 basis points ex deflation. Let me, again, give you these tabular numbers. I'll give you some text around those.
Again, the four columns would be Q1 2016, year-over-year, reported and without gas and deflation, and Q2 reported without gas. Those would be the four columns. First line item, operations, would be 0 basis points in Q1 reported and +26 without gas deflation, the plus being any lower or better. In Q2, -22 and -16. Central, -8 and -6 in Q1. In Q2, -8, -7. Stock expense, -12 and -10 in Q1. In Q2, -4 and -4. Quarterly adjustments or unusual items, -8, -8 in Q1, and no unusual items to point out, 0 and 0 in Q2. Such that in Q1, year-over-year on a reported basis, SG&A was a -28 basis points or higher by 28 basis points. In Q1 ex gas, it was better or lower by two basis points, so a +2.
In Q2, it was -34, as I mentioned, and -27 ex gas deflation, so higher by 27. Core operations, again, component, the -22. Again, -16 ex the impact of gas deflation. Of that -16, payroll was about -2. Benefits and workers' comp were -8, with the remaining -6 basis points being a variety of items, including bank fees, depreciation, and various other items. I think a few of those things relate to a very slight change in sales increases and a couple of things just going a basis point in the wrong direction. I also point out that within the benefits of workers' comp, one thing that stood out is just in January, we had what's referred to as high cost claims for employee benefits, medical claims. Typically, it averages over the last two years, this is U.S., about $6 million or $7 million.
A year ago, it was a little lower than that. It was about three and a half. This year, it was about 13. Nothing unusual other than we refer to those high cost claims as anything over $100,000, but it just spiked, and that's a few basis points there. That'll come and go in both directions. In terms of central expense, higher year-over-year in Q2 by eight basis points, seven without gas. As I mentioned earlier, IT was three basis points of that, or two without gas deflation. In addition, we had several one-time items, which in total represented about $9 million. We always have a few one-time things that go either way. We had three items that together totaled $9 million, but they are what they are, and they did impact our SG&A. Lastly, the stock compensation expense was four basis points.
Before I move on from SG&A, I do want to mention one additional expense headwind that is just starting. In March, every three years, we review our pay scales, and in fact, our entire employee agreement. We always review top of scale, and historically increase the top of scale every year in March for the roughly 60%, 65% of our employees that are at top of scale already. In addition, this year, we're also changing the starting level or entry-level hourly wages. This is the first change to the entry-level wages in nine years. Since 2007, our entry-level wage in U.S. and Canada was $11.50 or $12 an hour. Effective this month in the U.S. and Canada, we're increasing our starting wages from $11.50 and $12 to $13 and $13.50, so up a dollar and a half.
We estimate that this will cost us about $0.01 a share in Q3 year-over-year and about $0.02 a share in each of the next three fiscal quarters. Again, it's part of what we do, and there are a few warehouses that we've already started people at a higher level, simply markets like Bay Area or some limited markets like that. But at the end of the day, it'll be about the numbers that I mentioned in terms of the impact to our earnings. Next on the income statement is pre-opening expense. Pretty much the same year-over-year, at $9 million last year and $10 million this year. Last year, we had no actual openings in the quarter, but a lot of that relates to openings that are just getting ready to occur or have just occurred, as well as one opening this year.
All told, operating income in Q2 came in at $856 million, down 2% from a year ago's $877 million. Below the operating income line, reported interest expense in Q2 came in at $31 million. That's up $4 million from last year's $27 million. Excuse me. The increase is primarily due to interest on the $1 billion debt offering that was completed in Q3 last year, related to our one-time special dividend that we did back in February a year ago. Interest income and other was lower year-over-year by $4 million, coming in at $20 million last year and only $16 million this year. Actual interest income for the quarter was lower year-over-year by about $8 million, primarily a factor of less cash on hand this year as compared to a year earlier. This is a result, again, of two things.
We had a $1.2 billion debt payoff last December, as well as we used about $1 billion of our cash towards paying that $5 share special dividend last February 27th a year ago. Overall, pre-tax income was lower by 3%, or $29 million in Q2, going from $870 million a year ago to $841 million. In terms of income taxes, we got a little help there. Our company income tax rate this quarter came in right at 34%, up from a little over 30% a year ago in the quarter. The income tax line on this year's Q2 benefited from a few positive discrete items, resulting in the 34% rate. Normally, this rate would have been a shade over 35%. While last year's income tax line benefited from, as we mentioned earlier, a $43 million benefit in the call primarily relating to our $5 special cash dividend.
Overall reported net income of $598 million last year in Q2 compares to $546 million of net income this year in Q2 on a reported basis. A rundown of a few other items. Balance sheet is included in this morning's press release. A couple of things I always point out on this call. Depreciation and amortization for Q2 totaled $285 million for the quarter and $556 million year to date. Our AP ratio, accounts payable as a percent of payables, last year in Q2 on a reported basis, it was 97%, and this year, five percentage points lower at 92%. That includes construction and other payables. So if you just looked at merchandise payables as a percent of inventories, it would be 87% a year ago and 4% lower or at 83% this year. Last year being higher by 4% or 5% here is actually the anomaly.
A couple of factors. Part of it was last year's West Coast port slowdowns. You had a lot less inventory a year ago on some big-ticket, low-turn items like electronics. Just that one department was $120 million+ of higher inventory and only a few million dollars of higher accounts payable. Gas payables, again, was $20 million or $30 million to the wrong side of this AP calculation as we try to keep our tanks a little more full when prices decline. That's running the business and nothing per se exceptional there. In terms of average inventory per warehouse, pretty much flat year-over-year, coming in just $6,000 higher this year, an average inventory per warehouse of $12,761,000 , up from $12,755,000 a year ago. Ex FX, year-over-year inventory levels per warehouse were up more than the $6,000. They were up $286,000 or up 2%.
That, again, on a normalized basis, I think, is one of the smaller increases we've seen year-over-year in that. Overall, our inventory is in good shape. Not only are they in good shape, we just completed our mid-year physical inventories, and it's our best shrink results ever by a basis point plus. I think it's indicative of running a clean shop there. In terms of CapEx, in Q1, we spent $715 million. In Q2, we spent approximately $650 million more. We're still on track this year for fiscal 2016 CapEx to be in the range of $2.8 billion+, maybe as high as $3 billion, but $2.8 billion to $3 billion. That compares to $2.4 billion CapEx in fiscal 2015. Next, Costco eCommerce, Costco Online. We're now in six countries, having recently opened in Korea and Taiwan. We're also, of course, in the U.S., Canada, U.K., and Mexico.
For Q2, sales and profits were up over last year. Total sales were up 19% in the quarter, up 22% ex FX, and on a comp basis, up 18% reported and up 21% ex FX. Continued good results in terms of growing our eCommerce efforts. In terms of expansion, fiscal 2016, again, we opened ahead of 11 units in Q1, one new unit in Q2, so 12 through mid-year. We plan seven net openings in Q3, nine openings, including two reloads, so seven net. In Q4, we're on task to do 11. That would give us the 30 total for the fiscal year. If you go back a year ago, in fiscal 2015, we added 23 net new units on a beginning basis, 663, so about 3.5% square footage growth. This year, assuming we get to the 30, that would be about 4.5% square footage growth.
Again, the new locations by country, if we do the 30, 21 in the U.S., three in Canada, one in the U.K., and three into Asia, one in Taiwan and two in Japan, one more in Australia, and one more in Spain. At Q2 end, total square footage stood at 100.7 million sq ft. Next, in terms of stock buybacks, in Q1, as I mentioned a quarter ago, we spent about $130 million buying 898,000 shares back, so an average price of just under $145 a share. In Q2, we spent $80 million on 531,000 shares, so an average of price at just over $150 a share. During the first five weeks of the past quarter, very little stock was repurchased.
In fact, of the total $80 million, $3 million of the $80 million was purchased in the first five weeks, and the remainder, the vast majority, was in the last seven weeks. That's purely a function of how we do it. We look at a matrix pricing. As it goes up a little, we buy a little less, and if it comes down a little, we buy a little more. As long as we feel comfortable about our runway, I think we'll continue to do that. In terms of dividends, our current quarterly dividend stands at $0.40 a share, so $1.60 annualized, which on an annual basis is about a $700 million number. That's the quick and dirty of how Q2 went. I'll turn it back to Brittany now and be happy to answer any questions. Brittany?
Ladies and gentlemen, if you'd like to ask an audio question, please press star one on your telephone keypad. Again, that's star one to ask an audio question. We'll pause for just a moment to compile the Q&A roster. Your first question comes from the line of John Heinbockel with Guggenheim Securities.
Hey, Richard, I know you have this data. I don't know how deeply you dig into it, but if you look at traffic in the U.S. by your different customer segments, and in particular, your most loyal customers. Are the most loyal customers generally fresh food customers? Is that a good part of the basket? Do you think, is it possible that a little bit of the moderation in traffic is, are you maxing out with your truly best customers, and it's just hard to grow frequency with that group?
Well, I'd have to look into it. I don't know. My guess would be that our more frequent customers are bimodal. They're the ones that you mentioned that are shopping more frequency as families on a regular basis, and certainly food is a meaningful part of that.
That's, in my view, one of the two or three main factors that get people in the door on a more frequent basis. You also have small business members who are buying a lot of things, not necessarily fresh foods. Obviously, some restaurants and convenience stores will buy some of that. In terms of maxing out, I've said it before, I continue to be surprised how many more Executive Members we're getting, even among existing longer-tenured members. Look, we got to keep doing what we're doing in terms of being good merchants and constantly improving the value. There's always saturation in everything you do. We're pretty good at figuring out ways to offset that. In the last year or two, certainly, organics has helped.
Not only bringing in arguably some newer, perhaps younger members, but taking existing members who love Costco, but there are certain things they didn't buy at Costco because they're an organic family. I think we'll keep coming up with stuff. I would bet that logically, that makes a little sense, but I bet you it's not that big of a factor, that concern.
Do you think your best customers are shopping three to four times a month or more frequently than that?
I'm sorry, who?
Your best customers, in terms of shopping frequency, do you think they're up to three or four times a month or even more?
I'd say three or four times a month. Look, you have some customers shopping twice a week.
Yeah.
Four of those are small business. I have a friend that shops six times a week. That's what he tells me, and I run into him a lot, and I scratch my head, why? Jokes aside, arguably, when there's a family that's getting to shop four times a week, are they on that curve of incremental frequency increases? It's going to be harder and harder to do. Again, we're pretty good at figuring out a reason why they need to come back.
All right.
We feel good about the fact that in the last couple of years, our average members' age, which half a dozen years ago, they were four years older than the U.S. population, that's now just under two. That's going in the right direction for a lot of reasons. The fact that we keep adding some gas stations is driving frequency. I remember years ago, I've heard over 30 years, now that this thing is maxing out, fresh foods or gas stations.
Right.
Whatever it is, we keep figuring out new things. I feel good about some of the things we're doing in a lot of the non-foods categories. Fresh foods never ceases to amaze me. We'll keep going.
All right. Lastly, you talked about two of the categories were up in gross, two are down. Just maybe a little more color on the ones up versus down and how much mix a factor. I guess I thought fresh food might just because of deflation and a little bit of a delayed pass-through. I guess maybe you passed through that a little more quickly.
Well, we do that. By the way, one thing that Bob here reminded me of, another issue in terms of a year-over-year comparison, or as some of you like to talk, the two-year stack, it was a year ago when gas fell dramatically in a big way. We had a couple of months there, we had a 5.5% frequency for a couple of months. Look, I think some of it's the deflation that we're seeing now a little bit. Some of it's that year-over-year comparison when we had some pretty nice numbers there. I'm hopeful we'll find out in the next couple of months now that we've anniversaried that.
Okay, thank you.
Your next question comes from the line of Simeon Gutman with Morgan Stanley.
Hi, this is Joshua Siber for Simeon. If gas prices stay low, do you expect you'd see traffic slow as that competitive advantage starts to diminish?
Again, in theory, it should be less of a factor of helping sales because we're not on the news every night. We love it every year when GasBuddy comes out. Now, three or four years in a row since they started it, they were the lowest price nationally on average. I think we still get positive feedback from that. Yes, at the end of the day, is it better than when we had gas was going down $1 year-over-year or over a couple of months, and it's on the news every night? Sure, that helps us a little more. We still find people that are just signing up and can't believe our gas prices. Again, it's a net positive. It's less of a positive than it was the first year, the second year, and the third year.
Okay. A follow-up to John's question. I don't know if you have this in front of you, would you be able to compare traffic and ticket growth across demographic groups?
I know that our membership marketing people look at that, and I've seen it, but I don't know if we want to go that. I don't have it in front of me, so I can't answer that question.
Okay. Last one from me then. If you could talk about the dynamics between the credit card transition and a potential membership price increase in terms of timing.
Well, there's no real dynamic. It looks like we're on task. As you know, just last week, I believe, American Express and Citi announced the agreement to purchase the portfolio, and which I believe we're on track to issue. Citi's on track to issue cards to the existing millions of members that have the current co-branded card in May with a transition date likely in early June. Again, that could slip a week or two, too. We'll see. In terms of transition, there's not a lot contractually that we can do until then, and of course, when the cardholders are being sent those cards by Citi, they'll be getting information from Citi. I think that'll start that process of making our members aware of what the new card brings to them, and then we'll go from there. Look, we're excited about getting it done.
It is a big transition in the sense that there's millions of members that have the current card, and they'll get the new card in the mail. We're excited about the value proposition to our members, and we think it'll be a net positive long term. Like anything, when we can save that money, we want to give most of it to our members, and this will be like that as well. We'll get a little benefit from it. As it relates to the fee increase, we really haven't made any decisions which would be consistent with the six times we did it in the past. History has shown, if you just dot it out chronologically, it's about every five to six years. The last time we did it was in January of 2012, so five years would be January of 2017, and six years would be a year later.
I can only tell you that logic would dictate we certainly wouldn't do anything during the transition. We got enough going on this year, midyear, when we're doing this credit card transition. All those align to a possible answer. At the end of the day, I don't know when we'll do it. I can tell you that we feel as comfortable today as ever about the loyalty of our members, and we feel as comfortable as ever today that we feel that we've improved the value on that membership way more than the likely increases that you've seen in the past. Stay tuned.
Okay. Thanks, Richard.
Yep.
Your next question comes from the line of Christopher Horvers with JPMorgan.
Thanks. Good morning. I wanted to follow up on the potential membership fee increase as well. Last time you raised the Executive Membership price in addition to Gold Star, I believe, correct me if I'm wrong, that was the first time you had ever done it. Can you walk us through how you thought about that last time and maybe reflect on how that could possibly mean for the next potential increase?
Well, I think the big issue is for about 10 or 12 or so years, we had the Executive Membership out there. The Executive Membership from its inception was $100. Our view at the time was, let's build it. In theory, if you think about when we originally did the exec, I think the Gold Star was $45. There was a $55 delta, if you will, and $55, assuming a 2% reward, breakeven, if you will, between do I stay a regular member or become an executive, was an incremental $2,750 of annual purchases. As the $45 went to $50 and to $55, that delta became less. In theory, another bucket of, I think it was 2-plus million additional members that fell into that bucket of being above breakeven than below breakeven. We wanted to grow it.
As we decided to raise it almost 5 years ago, 4-plus years ago, not only from $50 to $55, but the $100 to $110, I think felt that we'd gotten a lot of that benefit. Certainly there's a lot more benefit incrementally than $10. We felt comfortable doing that. That's how we got there. How we get to the next one, stay tuned.
Understood. Just reflecting back on the traffic, I think, ex the Super Bowl, still 3-plus traffic comp. Do you think that much has changed in terms of the behavior of the consumer within the box in terms of maybe are you seeing it in different mix, buying less discretionary items, less sort of trade up within the category, or any commentary there that you can talk about the consumer and how they're behaving in the store?
Yeah. Well, in terms of discretionary, some of our stronger categories are not foods. That flies in the face of that concern. Did we see a little less strong numbers in some of those higher ticket categories in parts of Texas or Canada? Well, Canada was strong, notwithstanding that, or I guess North Dakota, where we have a unit. I don't know about North Dakota. I know Texas was a little different, even though Texas overall was fine. I know that when I talked to our head of international, because of the strong dollar, they saw a little weakening of that strength in the bigger ticket discretionary items. Overall, we've had our best percentage dollar increases in electronics and statistically in TVs the last couple of months, in a few years.
Thanks very much.
Your next question comes from the line of Daniel Binder with Jefferies.
Hi. Good morning. Thank you. My question was around membership as well. You obviously have a good retention rate, and presumably in existing clubs, you have members that sign up to help fill the gap. I was just curious if you can give us some metrics around comp membership growth, how that looks in the U.S., and how that looks on international.
Well, first of all, any new market, even when we went into New Orleans, where we hadn't been in Louisiana before a couple of years ago, you're going to see a year hence when you have your first class of renewals, it's going to be a number quite a bit lower than our company average. I think in the U.S., we typically see numbers in that first full year in a new market, and there aren't that many new markets anymore, but when we do, something in the low 70s perhaps. Overseas, when we first opened in Korea, Taiwan, and Japan, and as we've opened new units at new geographic markets in those countries we might see in the first year our renewal rates in the high 50s to low 60s, then it grows from there.
Our renewal rates, and that's why you see that, we separate U.S. and Canada, which is the most mature. That number is a little higher than the worldwide number for that very reason. We always see a higher renewal rate among the Executive Members. They get it. They're investing another $55 on top of the main $55 on that upgrade because they get it, and they get the value of it. We think that works, reward programs works, co-branded credit card rewards works, fresh food and gas works. All those things help.
Looking in aggregate, mature clubs and new markets, is the company actually experiencing a comp store membership growth?
Oh, yes. I'm sorry. Most of our sign-ups are comp sign-ups. The answer is yes. This is a rounded number here, but when asked, hey, if you have a 90% or 91%, we'll use 90% for this example. If you have a 90% renewal rate and you had 100 members, what do you have a year hence? You have about 101 or 102. You lose 10 and you gain 11 or 12. That's kind of how it's been. I'm shooting from the hip with this one, but that's pretty consistent with my assumption of if overall new member sign-ups are in the 4% range this past quarter.
You mentioned the LivingSocial campaign was good. Can you give us a little color around how many, and how many were millennials?
No. Well, not in terms of the number. We were pleased with our results based on our expectations of it. Again, we do not want to get people comfortable waiting for that kind of value proposition to sign up. That is why we waited 18 months. As it relates to millennials, I know I do not have the chart in front of me, but I know the chart that our head of membership marketing showed at the budget meeting. Yes, it overindexes the other way towards younger people relative to our existing base, which is what you would expect.
Last question for you. On the LIFO credit, based on what you know today about deflation store-wide, are you expecting additional LIFO credits as we get into the back half of the year?
If it were today, I would say yes, but you never know. Keep in mind, when we have a LIFO credit, your markup is probably impacted a little the other way. When you have a LIFO charge, it is because there is inflation. You have raised your prices a little bit. Sometimes there is a little bit of a gap there. It is part of margin. Yes, I think all things we see today, it would be a LIFO credit, a little bit of that extra LIFO credit.
Great. Thank you.
Your next question comes from the line of Michael Lasser with UBS.
Good morning. Thanks a lot for taking my question. On the wage increases, is the increase that you're giving this year consistent with what you've done in the past? When you've done this in the past, have you noticed any change in your sales trajectory? Employee satisfaction goes up, and that leads to a better membership experience, or it coincides with broader wage inflation, and people have more money to spend, and they spend it at the warehouses.
Yeah. Somebody once said it's like chicken soup, it can't hurt. I think at the end of the day, at top of scale, we've done every year for as long as I can remember. When you've got somebody that's reached top of scale, they want to know what they're going to get a year hence, and we've always erred to the high side on that. I think over the last three years, top of scale in the U.S. is in the $23 range, $22.50 or something.
What was the average?
Just top of scale. I think it was a $0.50 or $0.60 increase. Let's say $0.55 on $23 would be about 2.5, a little under 2.5% increase. I believe the current increases are similar to that kind of percentage. What we haven't done every year is bottom of scale. By the way, I want to also say that the amount of cumulative hours it takes for somebody to get from bottom of scale to top of scale on a full-time basis, not that people all start full-time, they don't. On a full-time basis, it takes about 4.5 years, which is a very short period of time. Our employees get it. We think this will help. It's important to do. We want to be the premium at all levels.
We're a huge premium at the top of scale. As others raise their rates at the bottom. Frankly, in some markets, this is a physically challenging job. You're on your feet, you're lifting cases, you're pushing carts, these entry-level jobs. We felt it was time to do it. That is incremental, and that's what I mentioned earlier in the call, the $0.01 a share in Q-
Three.
Three. Thank you. The $0.02 a share in each of the next three quarters, because they're full quarters. That's that incremental piece that I'm talking about. I would like to think that we're not going to have a lesser shrink or employee shrink because of it, or they're going to be better service providers to our members. I think it reinforces what they already feel, and that's what we're all about.
Okay. My second question is on the competitive landscape. Traffic has remained good on a multi-year basis, but a little bit more volatile just on a one-year basis. Are you seeing any signs that you are having more interference from the competition? It certainly doesn't look like it from some of your club peers, but maybe some of your online players are peeling off some members or peeling off some trips from your member base.
I don't think so. Again, on the margin, are there a few? I'm sure there's somebody that made one less trip to Costco because they bought something online or somewhere else. I think we're still doing a pretty good job of getting them in the door, particularly with fresh foods, with gas, with Executive member, with a quality co-brand offer in terms of rewards. All those things help. Look, online is taking a piece. Some of those pieces we're not going to take. We're not going to take the single unit items, some small value food and sundry things that are going to be delivered to your door by 7:00 A.M. if you ordered six hours earlier. That's not us. We can't do that at 10%-11% margins. We're taking little pieces of other things.
Again, we still feel pretty good about what's going on.
Awesome. Thank you so much.
Your next question comes from Brian Nagel with Oppenheimer.
Hi, good morning. Thanks for taking my questions. I want to go back. This may be a follow-up to some of the earlier questions. In the U.S. comps ex gas in January and February, my numbers, you had a 1 and a 4. You'd mentioned before there was some shift between those two months. It's given weather, more importantly, the time in the Super Bowl. I guess the question I have, Richard, if you look at those months, maybe take them in total, are sales in the U.S. tracking where you'd expect them to be? If not, is there something we can point to to explain why?
Look, we're like a teenager. We always want more. I think when we look at the detail, deflation is probably the biggest factor. That gives us comfort that fundamentally, there's not been a lot of change in our view. It bothers us that it tracked a little differently. Again, that just makes us look at everything, what else can we do? We got a lot of good things going on out there. Would we like it a little better? Sure.
On the deflation point, you probably gave these numbers already. Was deflation a more significant factor here in the first two months of 2016 than it had been, say, in the second half or latter part of 2015?
Again, there's different ways to measure deflation. The answer is yes, first of all. There's different ways to measure deflation. If I look at the first, just from a LIFO index, which is U.S. inventories, if everything started at a cost, everything that we had in our warehouse at a cost of 100.00, that was the baseline. At the end of Q1, so in late November, that LIFO index was 99.49. A half a percent lower on average. That's that inventory LIFO calculation. In the last 8 weeks, the 99.5 has gone to 99.06, down 44 more basis points. Yes, that's continued. That's where I got the it's a little lower. We're seeing a little bit more deflation, particularly we're seeing it in some of those non-food categories.
When I look at the 85% plus of our goods that go through our depot operations, again, this is just one parameter. The number of pounds being shipped through with the dollar value, that dollar value is down a little over 1% year-over-year. Year-over-year, not from the beginning of this fiscal year. Again, that would indicate to me, again, we're seeing a little bit more deflation. I could give you crazy numbers on given items on a year-over-year basis.
I think she got it here.
Yeah, I got it here. Just candy, M&M's down 10% year-over-year. American single slices of cheese down 15%.
Bacon.
The bacon down 20%. There's also some inflationary items. Overall, I think the LIFO index and that depot calculation, although it's not a perfect calculation, would indicate that we're seeing a little bit more deflation than we had overall, and particularly on the non-food side, you're seeing it. I think I mentioned a quarter or two ago when asked about that with oil prices coming down, what about some non-food items like plastic bags and things that require a lot of petroleum-based products. The answer I got back and I shared with everybody was, yes, you're seeing it, but you got to ask for it more frequently and more strongly. Even then, it took a little longer because sometimes you've got vendors that have committed out several months, if not a year, on raw material prices, and we're going to work with them.
We're going to do what we can, but we're not going to create hurt. Again, we're starting to see a little bit of that, but that's retail.
Got it. It's helpful. The second question I had, just with respect to the forthcoming shift in credit card, and I know it's early, but is there anything you're watching as some type of leading indicator as to how your members may or may not react to this shift?
Look, you've got 11 or so million members that have the co-brand card. You've got however many, high 20 million of member households in the U.S. We've had our share of letters both ways. Good, I'm glad you're changing, I never liked whoever. Then you've got those says, "How dare you change? I got it for this reason, and I love my existing card." Aside from that, we feel comfortable or we wouldn't have done it. We recognize that we're going to look at the spend afterwards. I think, with the reward proposition, with any possible improvement in merchant fees with us, with the fact that the new card will be accepted in more places, there's a lot of reasons why it should be a positive. We have to get there and see.
All right. Thank you very much. Appreciate it.
Your next question comes from Paul Trussell with Deutsche Bank.
Hey. Good morning, Richard. You spoke about the incremental labor costs that are forthcoming with the $0.01 hit in 3Q and $0.02 thereafter over the next 12 months. Can you just dig a little bit more into the expense deleverage from the second quarter? Certainly, as you mentioned, there was a little bit lighter sales volume, perhaps that had an impact. How should we think about the results in 2Q and the outlook on payroll and benefits and operations, central, et cetera?
I think first of all, sales drive leverage. I remember years ago, when we were always asked the question, what comp sales number you need to get any leverage at all or to be consistent? Our guesstimate at the time, this would have been years ago, was something in the 4% or 5% range, kind of an underlying comp. My stronger and more confident portion of response was, whatever other companies do to be able to better leverage if sales showed a little weakness, we're not going to be as good because we're not going to do some things. We're going to still clean the bathrooms every hour, we're going to still make sure all the carts are inside and not sitting out there, we're not going to cut labor. In fact, we'll enhance labor.
We've done that at times at the front end to drive more business. I think the bottom of scale increase, that's easy, that's quantifiable. A few of the moons lined up on a few items. I mentioned the high-cost claims was three or four basis points. I mentioned there were three other items that usually two of them go one way and one go the other way, and so it's a couple million or a quarter or a half a penny impact to the quarter. This time, it was all in one direction. You're always going to have that. I guess I too get a little more defensive when we miss the number. Some of it was we could have done a little better job. Directionally, we're going to try to do a better job.
We're going to hope that the moods line up 2 to 1 to the positive, not 3 to 0 the other way. We know that we're getting a little less hit from IT modernization a year or two in. Other than that's what we do for a living. I think the other thing is to drive more business, and we're pretty good at that.
Fair enough.
By the way, the credit card. You've heard it before, I've said it before. Whatever this additional bucket of potential money is, we're going to give most of it to the customer in the form of a co-brand offering. We're going to keep a little of it, and that helps merchant fees. That's not going to start until this summer, and we'll go from there. That should help us a little. We have our fingers crossed.
I appreciate that color. Certainly, we will take a look at the 10-Q when that's out to see some of the margin detail geographically. Could you maybe just give us a little bit of preview of any changes year-over-year from a U.S. or Canada or international standpoint? Maybe you can just speak to some of the performances ongoing in those particular markets.
No, I think we're going to have to wait till the quarter's out. The only thing that you've seen in the past historically is gas has continued to be strong, but on a year-over-year basis, there's not a big difference. Gas is a big thing to the U.S. I think you've seen a couple of quarters in the 10-Q in the last two or three quarters where the biggest improvement year-over-year on that in the segment analysis of operating income as a % of sales, the most improved was the U.S. column, which is one of the lower columns. We've mentioned this part of that's attributed to gas. I know in Q2, it was still good, but it was very good a year ago. Other than that, I can't really talk to you about it till it comes out.
Thank you. Lastly from me, very quickly on e-commerce. You continue to have very solid growth up, I think it was 19% this quarter, 22% ex FX. Can you just speak to some of the categories really driving that strength? Is there any expansion of assortment that we've seen online of late? Just a quick update on the Google and Instacart partnerships.
Well, we have over the last couple of years expanded some of the categories, what we'll call velocity categories, some sundries items, some limited non-perishable food items, some apparel items, socks and underwear, to speak of, things like that. Health and beauty aids. Yeah, that's a little of it. Those are small pieces relative to if you can drive sales into furniture and exercise equipment and electronics. Those things are helping us as well. I think it's a lot of the things we've done. Some out there would argue it's about time. We're getting to it and we're starting to do a few new things.
Your next question comes from the line of Peter Benedict with Robert Baird.
Hey, Richard. How is the growth in trips to the pump changed as gas prices have dropped here to around $2? Have you seen a noticeable change there? Remind us what % of those fill-up trips correspond with a visit inside the club.
Well, for every 100 people that pump gas during the hours that we're open in the warehouse, because we open a couple of hours earlier than the warehouse opens at the gas pump and close an hour later, it's in the low 50s. That's improved a little from 50 and 49, but it's in the low 50s. What was the other part of the question? I'm sorry.
Well, have you seen the growth in trips moderate as gas prices have fallen? I think whether you measure that by comp gallon growth or what have you.
Yes. What we see is when it really spiked a year and a quarter ago, we saw a spike there as well, in terms of gallonage comps. It's still positive and it still beats the U.S. averages out there, but it's more muted than when you have those big deltas.
Okay. That's fair. It makes sense. Just on the organics.
That means we're retaining it.
Yep. No, understood. Just on the organics, can you remind us where your penetration is at this point, what the pace of growth has been, and where you think you can take that? Do you have more room to continue to improve the penetration of organics?
We're about $4 billion, which was, I think, the last two years, it was up 30-ish%. We're on task. I think our goal this year is on task to have a double-digit number that has a two in front of it. We feel good about it. We are, I think, doing as good a job as anybody in terms of sourcing. Part of the challenge is availability. The industry is growing, needless to say. There are more farmers and more poultry producers and more beef producers that are committing more to this. We're certainly out there, literally in the fields here in Rod, getting these growers and processors to do more. I think it still has some good opportunities there.
Okay. Last question, just on D&A, was up about 9.5% year-over-year in the quarter. Is that a pace that you're comfortable with kind of going forward? Is that going to accelerate at all as some of these investments come in? I'm just trying to get a sense for how we should be thinking about the growth in D&A going forward.
Well, it's partly going up because of IT modernization, because we're opening 30 units instead of 23. Although this 30, 21 or so are in the U.S., which is a little different than I would have guessed two years ago, what it would be by now. I would say that for a couple of years here, it has kicked up and we got at least one more year where it'll kick up because of IT modernization, this year and next. It probably kicks up a little bit because of just a little bit more expansion and a little bit more expensive expansion.
Okay.
Does that take the number, if sales are growing at X, does D&A grow at X plus two or three? I'd have to look at it, but it's probably as good a guess as anybody. I'd look at what it's done historically and probably it grows a little faster than that in the next couple of years, couple of three years. Percentage-wise.
Okay. Makes sense. Thank you.
Your next question comes from the line of Oliver Chen with Cowen and Company.
Thanks a lot, Richard. The average transaction increase was impressive at that plus 2% range. Do you expect that that will be a dynamic that will continue? Within consumer electronics, what are the major pluses there, given that it had such nice performance? Richard, as we do model the next year, what's the magnitude of deflation in terms of the impacts to comps? Is it in the 100 basis point range? Just, I think you mentioned several different categories, but is there an overall take on which categories it's applying to most?
Well, starting with the last question first, again, I think the difference now is we're seeing a little bit more deflation on some of the non-food items, particularly like an example of plastic bags and garbage bags and things like that require petroleum-based products.
I still think, again, you get the sound bites of the things that are down 10 and 20%, but overall, if deflation as measured by our LIFO indexes have been down a quarter percent a year. Then last year, maybe it was more than that. This year, it seems like it's a little more. It's less than 1%. Maybe it's half to 1% instead of a quarter to a half a percent, but I'm guessing there.
In terms of electronics, I think a couple of things. I think arguably, if we have a higher end member, that probably helps. We certainly over-index on bigger TVs. I know that during the 4 weeks between Thanksgiving and Christmas, we had outsized TV sales dollars, in talking to every major supplier that we buy from relative to everybody else, online and offline. I think part of that was, is that over-indexing to 60 and 80-inch TVs. We're seeing strength in phones. TVs is the thing that drives it. Cameras are better, but the cameras are better because they were weaker the last couple of years.
Richard, just remind us, as a percentage of total, what is consumer electronics?
I don't have it in front of me, but I think Department 24 is four or five. Four plus.
Okay.
With TVs-
Okay. Richard.
TVs probably be 40%+ of that.
Okay. Richard, as you think about Costco for the long term, just for the five-year story of Costco, we know that you don't have the buy online pickup in store, the BOPUS, but what are customers asking for as you really try to execute to customer desires? Is there anything on the delivery speed front and mobile that you would highlight as where you're focusing efforts on in terms of your human capital and strategic priorities as you look to bricks and clicks over the long term?
One of the challenges we have with picking up at the store is we've got an average location that's doing $175 million, $180 million, which means we've got a bunch of locations that are doing $200 million to $300 million and several that are doing more than that. We don't want somebody to come by necessarily and pick it up. Maybe that would change if we were having -3% comps in our lives. We want to do everything possible to get them in the store, not just come and pick something up. I don't see that as being a strategic focus of ours, at least in the near term. We also, part of the thing of trying to get people in the store with treasure hunt items, with fresh foods, with gas. We'll keep driving that.
As we've done, our relationship with like in six markets with Google Shopping and I think 16 markets with Instacart, there are people that want things delivered to them, and we're selling them. We're still selling it, but we're doing it that way. I think that's what we'll continue to do. We are getting better. Again, some out there would say we've gone from an F to a C or an F to a D. Some would say that we've gone to a B plus. We'd like to think of ourselves. We still have some things to do, but we've improved our mobile apps. We've gotten a little smarter about how we do it. We know that when you come in store, you're going to buy a lot more than when you shop online, in general.
Recognizing our average online transaction is actually higher than our in-store visit, but that's because we started with just big-ticket items. It's just recently we put on some other smaller-ticket items. We know that compared to, let's say, an Instacart or a Google experience, the in-store visit is two and a half to three times, if not a little more than that. Now, what we're finding is that customer comes in a little less frequency, does the online several times, and the net of the two is an aggregate improvement in their comp. That works. We're still taking it slowly in terms of, I don't see us doing pickup at store, at least in the next year or two, because we've got enough traffic there and we're trying to figure out how to keep driving that.
Richard, you've been experiencing such robust traffic and healthy fundamentals. What is your take on the health of the consumer? There seems to be different factors going on at different income levels, and at the same time, there's definitely stock market volatility. A related question is, if there is something that keeps you up at night for the next year, what would you highlight as risk factors as you evaluate them and think about them internally?
Look, I think from all the things I read, first of all, first and foremost, when we do our competitive price shops, we feel as good if not better than ever. When we look at our renewal rates and our customer loyalty, we feel as good as ever. When we look at our employee loyalty and our turnover rates, we feel as good, if not better than ever. We certainly like to read those nice things that everybody says about us, and I think it reinforces. We're doing it because we do it, and we then reap the benefit of it. I think from that perspective. Now, at the same token, my favorite negative word or negative phrase out there, we talked about the volatility and the choppiness. There's a lot of what somebody referred to, not me, but toxic anxiety out there.
The world is a little different and the dollar strength doesn't help everything. Even the U.S. economy, while good, there's not a big engine driving it necessarily. There's a lot going on out there. I'm comforted by our consistency, even if it's come down a little bit in the last couple of months. Again, I can explain some of that with the strength and frequency a year ago. Look, we'd still like an extra half a point or a point there. In terms of what keeps me up at night, what do we as a company and what does Craig, our CEO, get and what Bob and I and Jeff asked about? A lot of it centers around dot-com and what are you going to do?
We try to not avoid it or be arrogant about it, but also recognize we try not to freak out about it. I think in my older age, I lose sleep for age-related issues, not the company-related issues. I really feel pretty good fundamentally about our company and what we've got going on, what we're doing in terms of global sourcing, what we're doing in terms of the strength of our Kirkland Signature brands. Things could change, and we'll keep trying to do a few things on the internet more. We're going to take it steady.
Are you still selling tons of diamonds? Have your diamond luxury sales been really good?
Yes. I know in fiscal 2015, they were up, percentage-wise, up to 150-plus thousand carats, which is up 15% or so. Yeah.
Thank you. Best regards.
Your next question comes from the line of Meredith Adler with Barclays. Meredith, your line is open. You may be on mute. Your next question comes from the line of Matt Fassler with Goldman Sachs.
Thanks so much. Good afternoon at this point. My first question relates to U.S. versus international traffic and ticket mix. When the numbers were quite similar in terms of total sales, comp growth ex gas and FX for U.S. international, I guess we're a bit less curious about how the traffic trends you're seeing that you report, which I believe are global, correct me if I'm wrong.
Yes
were different. Any sense as to how different the traffic number is in the U.S., particularly over the past few months?
No. Again, the biggest factor was a year ago with the gas. Our view was it was gas related. We had a couple of months of mid 5s, which was an anomaly the other way. We're just finishing comparing to that. What surprised me in Canada, the underlying comp there is surprisingly strong given that oil prices are down. When I looked at for Q2 in terms of front-end transaction growth, which is shopping frequency, that's how we measure it.
Yeah.
Overall, we were again in the low 3s, low to mid 3s. The U.S. was in the mid 2s, although that's more impacted than anybody by gas, by the gas a year ago, the shopping frequency. When I look internationally, it ranges from flat to up 14%. No rhyme or reason to it. A little of it is in the Asia countries, Q2 was a little flatter because of opening new units as well.
Got it. If I can also focus on sales for a second question. I guess the difference really between January and February in the U.S., if you knock out the weather and Super Bowl, et cetera, it actually seems to be, at least in the overall numbers, seems to be less about traffic and more about ticket. I know that there's a component of ticket that's obviously deflation. Is the decel in ticket ex gas and FX in the past couple of months entirely about deflation, or is there any change in basket size or units per basket, et cetera?
Well, it's basket size related to deflation. We saw-
Deflation pure and simple rather than any kind of units per transaction.
We don't do this all the time, but a month ago, Bob had everybody look at last two months. We looked at the basket size and the actual number of items in the basket. The number of items in the basket was up less than 1%, but a quarter of 1%, and the average basket dollar amount was a little down. That would imply, again, a little deflation, but we got them buying slightly more things in the area. Slightly.
Got it. Understood. Finally, on SG&A and the forward guide on wages, just to be clear, is what's different over the upcoming 4 quarters or so simply the change in the entry level hourly wage rather than the increases you'd give your experienced team members? Or does that increase also flow through at a greater than usual rate to the-
The top of scale flows through at the same rate. Again, if you have 60%-plus of your employees who currently are making $22 or $23, whatever that top of scale is, and every March they got a $0.55, $0.60 an hour increase, we've experienced that through all times for 30 years.
Percentage wise, it's pretty similar. The unique thing this time is the bottom of scale, which just taking what it would be without it and what it would be with it, and it affects not only the entry level, it affects the first couple of increases. If we were at $11.50 and $12, was it?
Yes.
If we're $11.50 and $12 currently prior to now, three months or however many cumulative hours later, somebody goes from $11.50 to $11.75, then $11.75 to $12 or $12.25. Everybody below 13 is now going to 13. On that, what's the incremental cost, all things being equal? The incremental cost is about $0.08 a share over the course of a year.
Got it.
It's $0.01 this quarter because it's a partial quarter, then it's about $0.02 a quarter, then it'll anniversary next year, this time.
Got it. Thank you, and thanks for the transparency today.
Your next question comes from the line of Bob Drbul with Nomura Securities.
Hi, Richard. I just have a couple of questions, I think. The first one is on the membership fee income growth. What would it have been without the impact of no American Express sign-ups?
Higher. We don't measure it. On the margin, we think somebody's coming to sign up because of us first and a co-brand card second, a distant second, whether it's Amex or Citi Visa or anybody. They're coming to be a member of Costco. I don't think they come to the desk and say, "Never mind," and walk away. Because part of our relationship with our former partner and our upcoming new partner, current and soon-to-be former partner and our upcoming new partner, is they do some marketing for us. They do some things to get people to come in also. There's probably a little bit, but we don't try to measure it. We just know it's zero right now.
Got it. Okay. In your soft lines business, the private label component, I think has increased. I was just wondering if you could talk through a little bit on the impact that weather has played in that segment of your business, both from a markdown perspective, but also in terms of what you're really seeing as buying opportunities throughout the last few months in the current market.
Well, the only thing that was impactful is I believe there was a relatively warm. There was more men's outerwear markdowns this last few months than we had historically, which was completely weather-related. I didn't even point it out on the call, that was a little bit of soft lines impact. That was one of the reasons that the soft lines margins I mentioned year-over-year was a little down. Beyond that, at the last budget meeting, when we're looking at some of the apparel buyers came in to talk about some of their new seasonal things. We keep getting a few more brands. I can't think of any off the top of my head right now. I think it's consistent.
We've enjoyed apparel business with comps in the 10%-15% range compounded for two years now. We're still seeing some decent growth in those areas. It's a good category for us. I know we're committing. I think we're trying two men's athletic items. We've been very successful with the three pieces, the bottom, the top, and the jacket. KS, I know we're bringing in a few other items on the men's pant, not just the fancy wool pant, but the khakis and the gabardines.
Okay, great. Thank you very much.
Your next question comes from the line of Kelly Bania with BMO Capital Markets.
Hi, thanks for taking my question. Richard, just wanted to go back to the credit card transition. You've talked in the past about kind of reinvesting some of the savings, but I think you just also mentioned maybe keeping a little bit of it. I'm just curious, is that a change? Are you considering letting some more of that flow through? You've had a lot of expense on the IT front now with the wage increase. FX has been a headwind. Just curious if there's any change in how you're thinking about the savings there. And now that we're very close to it, any comment on what those savings could be in terms of magnitude?
No comments until we get there. It really is going to be probably not until early October we'll report our year-end and fourth quarter numbers since early June would be about three weeks into our fourth quarter. I can't really tell you anything about it. We've made no change in what piece of this bucket we're thinking of saving. If anything, as we went through the final negotiation several months ago of what the reward structure would be, Craig pushed it further towards the customer, towards the member who would get this card. We want it to be a great card, if anything, we went the other way a little bit.
I just mentioned it, perhaps I didn't mention it, that when I talk to people, as people have talked to me, my standard line has been, like anything we do, when we save a buck on a piece of merchandise, we can buy better. We're going to give, as a rule of thumb, the majority of it, maybe 80%, even 90% back to the customer. We're going to do the same thing here. We're going to give most of it back to the member. That being said, again, in the throes of the final figuring out what exactly do we want the reward structure to be, because we want that card to be top of wallet, as we do with our current co-brand, top of wallet, and to be used not only at Costco but outside of Costco, and to be used at Costco as much as possible.
Craig pushed the envelope with us and with the third parties to make sure that that value proposition is geared more towards them than us. There's been no change in terms of that.
Got it. That's helpful. Just on the transition, will you have any grace period for a member that, say, doesn't have the co-branded card but tends to use their Amex at the store and didn't get a new card in the mail, obviously, but gets up to the register and goes to pay and you're not taking Amex anymore, or will they just have to find a debit card, or have you thought about how to treat that situation?
Well, first of all, there's going to be a lot of communication several times by us to our members about timing and everything. Contractually, there's a lot of things we can't do until near the end. There'll be plenty of information provided. We're still going to upset a few members when they come in. We did it with gas pumps years ago, when we stopped accepting certain things. At the end of the day, there'll be plenty of opportunities. The fact is, there'll be some members that have an existing Visa card in their wallet while we would prefer them to have ours. There'll be cannibalization that way. Frankly, there'll be some cannibalization there. Look, whether it's American Express or Citi or any other big credit card issuer, they're the bank that determines credit eligibility for somebody signing up.
That doesn't impact the portfolio people, all the people that have the current co-brand, they're going to get a new card similar in terms of credit capacity and things from their existing co-brand relationship. Somebody who has to sign up, there are millions of people that never got an Amex card because they couldn't. They have resorted to debit or cash or check. There are some of those people that will be thrilled. There are some debit card holders that'll do this. When you add it all up, we know that it's a net positive, certainly in terms of what we've negotiated, and we'll see where it goes from there.
Got it. That's helpful. Then if I could just ask one more on online. A lot of retailers are spending a lot of money investing in their online business. It's kind of pressured the margins for them there. I believe your e-commerce business is higher margin. Just curious, how you think about spending there going forward, and is that higher margin structure sustainable?
I'm sorry, could you repeat that?
In terms of online, just a lot of retailers have been talking about how much they're investing in their online business and that pressuring their margins for that side of the business. I believe Costco's margins online are higher margin, and I'm just curious how you think about spending there and if that higher margin structure for e-commerce is sustainable.
Well, first of all, our gross margins online are a little lower. Its operating margin is quite a bit higher because you have a substantially lower SG&A. Now, the fact that we're not spending hundreds of millions of dollars online, perhaps is part of that. At the end of the day, we certainly make more when that dollar is sold online than it is in store. Notwithstanding the fact that our gross margin, what we charge the member, is lower online than it is in store.
I guess the question is, do you see that sustainable?
I do, because the SG&A portion is so low and because we're so extreme.
Great. Thank you.
Your next question comes from the line of Scott Mushkin with Wolfe Research.
Hey, guys. Thanks for letting it go so long. I just wanted to kind of poke at the environment that almost everyone seems to be operating in right now. I think you talked about traffic, and I assume February traffic's in that kind of 2 to 2.5 range too. Talked about the deflation outlook. We talked about wages going up. As you kind of move forward here, and this is not just a Costco question, I guess just from an analyst perspective that covers a lot of retail, it seems like everybody's facing a lot of the same challenges. Do you see a light at the end of the tunnel? We had deflation now, minus 1 maybe. We have wage inflation. We have traffic that's kind of come down a little bit.
Not a great environment, it seems, again, that maybe something has to give here. Is the wage inflation going to finally pick up demand? Where does this, in your opinion, kind of end? Even Costco, which is probably one of the best retailers in the world, domestically, is feeling the pressure. I'm just trying to understand what's the end game here, generally. I don't know if you have any thoughts on that. That's my question.
I don't know if this will give you comfort or anxiety. We're going to keep doing what we do. In bad times, we probably have the benefit of being more aggressive to drive stuff. If anything, I think we're doing it from a stronger position now than we've ever been in. We're going out there driving prices down. We see our competitive moats actually, even relative to traditional brick-and-mortars, not only our direct competitors, not just clubs, but other forms of category-dominant retailers. That moat has widened a little bit of late, being the last year or 2, the answer around here is, well, can we get a little more margin? The answer is, of course, no. We could drive more business, we can make it tougher on everybody.
I think some of the things we're doing in terms of our strength with our vendors and our global sourcing, all that stuff, that helps. We're doing a lot of good things.
Do you have concern, though, given the slow wind down that we're seeing, Richard, a little bit on the components I mentioned, higher costs, yet deflation and the traffic. I think someone asked you what do you stay up at night. I guess I'm getting old too. It's hard to stay up because you're getting old. Generally, does that get you a little nervous as you look at the business and at the broader economy that something's just a little off?
Well, I think I used the word earlier, for that I quoted from some economist about toxic anxiety. The world is filled with it. Our economy is darn good compared to a lot of them out there. The fact that wages are increasing and unemployment has improved, all that's positive. Frankly, higher wages at the lowest wage levels, in my view, is a positive. I think we've just got our head down and doing a lot of good things. I think that what we're doing, again, on some of the global sourcing stuff, is something that very few could touch, and the strength of our KS brand name, and we're going to figure out how to create more value.
Other than everybody in the world never wanting to leave their house and only typing stuff to order and get it at the front door, other than that risk, I think that the strength of our merchandising, the strength of our competitiveness, the fact that we're able to be successful in other countries. I come to every four-week budget meeting and listen to merchants and some of the things they're doing, and I go out and feel better about what we've got going on. I think, by the way, when it is tougher for everybody else, everybody else does it less extreme than us. They figure out ways to cut costs that aren't necessarily long-term the right way or as right of a way in our view.
Maybe we're righteous and we're standing on our own pedestal here, it seems to have worked for us through good and bad economies.
Perfect. Thanks for taking my question.
Okay. We're going to take two more questions.
Okay. Your next one comes from the line of Greg Melich with Evercore ISI.
Greg Melich.
Hi. Thanks. I have two questions. Richard, what drove the acceleration in membership fee income growth besides the LivingSocial program?
LivingSocial had virtually no impact because of deferred accounting. Even if we had a little bump in that first week of last week of Q2, when the LivingSocial thing was happening, virtually none of it hits the income statement because for a new member, that $55 or $110 goes into the P&L over the next 12 months. My guess is it's probably some strength a year earlier that we're now getting the full benefit of that.
Mm-hmm. Okay.
It might even be strong membership.
That's the best reason. I guess the second question then is on the ancillary business, because I know these have been growing a lot, and you gave us a few numbers, I think, last quarter. Is there any way to sort of pull those together and say what percentage of your members are doing a car rental or a travel program or a car buy or one of these things that, is it 5% of the transactions, if you think of it that way?
I think some of those services, it's 1% or less. I think one number that we've seen and presented in some of our PowerPoint presentations, I think last year we had car rentals above about 2.5 million car rentals. Let's assume 2.5 million car rentals weren't to 2.5 million mutually exclusive customers, but maybe it was 2 million members. I don't know if it's 1.5 million or 2 million, but if it was even 2 million members, that would be less than 10%, probably 7% or 8%. My guess is less than that. It's maybe 5. Not everybody needs a mortgage, not everybody's doing forms of check printing. On some of the items, as a percentage of our total membership base, it's low, but there's a lot of room for it to grow.
Basically, that nice tailwind to gross margin, that could be there for a while.
Yeah, I think it is. Absolutely. It probably, over time, moves the needle a little. It definitely moves the needle a little positively.
Great. All right. Good luck.
Thank you.
Your final question comes from the line of Sean Naughton with Piper Jaffray.
Hi. Good morning. Quick, just following up on the LivingSocial deal, understanding that the deferred accounting doesn't really impact it. How did that impact the total membership numbers for the quarter? Also, just how was the retention rate really on the one that you had about 18 months ago?
I think in terms of, excuse me, aggregate number of members, we signed up a few more than we did the last time. I think the 4% increase would be lower. It'd be somewhere north of zero and south of four.
Okay. The mechanics of the program, when somebody buys that deal?
Yeah
Automatically they get it done. They don't have to take it to the warehouse to get activated.
No, they buy the coupon or whatever online. They print it out. They go to the warehouse where they sign up for a membership.
Okay. You don't get those right away then.
It's that latter date that when we represent, when we recognize it as a member, when we start our deferred accounting, which will be small in the first year because you have the offsets of the value proposition to that purchaser.
Okay. There could be more people that are signing up in the current quarter that we're in now that purchased that deal.
There will be. Yeah.
Yeah. Okay. I guess the second question would just be around, you didn't talk much about the other international business being flat in February. You did say something about the Chinese New Year. Is there something going on in the Japan business? You haven't called it out in the monthly for a long time as being a real positive contributor to comps. Just any comment you can-
Sure
elaborate on for February for other international, also specifically in Japan.
I think in Japan, the last couple of years, we've had probably a little more cannibalization, their economy is soft. I know of late, again, as it relates to the strong dollar, in all countries where the dollar is much stronger, there is a little weakness in some of the bigger ticket items.
Okay.
Not hugely, but there is a little.
Okay. Thank you, Richard.
Okay. Well, thank you everyone. Have a good day.
Ladies and gentlemen, this does conclude today's conference call. You may now disconnect.