Photos: Everlane
How profitable is online selling?
“What online-only company is really profitable? Basically none of them. That’s this dirty secret.”
So said Everlane CEO Michael Preysman last week to CNBC’s Jim Cramer to explain why Everlane is opening stores.
The statement is a full reversal for Mr. Preysman, who told The New York Times in 2012 that he would rather “shut the company down” before opening a store.
Mr. Preysman told CNBC, “Everybody loves to say you don’t spend money online, but the way things work now with Facebook, Instagram, and how much it goes to acquire a customer, then you have to ship it all.”
The apparel retailer just opened its fourth store, in Brooklyn, adding to others in Manhattan, Los Angeles and San Francisco.
In another about face, Andy Dunn, the co-founder of Bonobos and now Walmart’s SVP of digital consumer brands, told attendees earlier this month at the Future of Home conference in New York City, “I don’t really like digitally native vertical brands. What gets me excited are brands that are really strong and direct-to-consumer, but also have got omni.”
According to Business Insider, he described e-commerce as a “tremendously challenging, frequently unprofitable business” and insisted that consumers want to interact with “brands and products and people” face-to-face. Bonobos’ “guide shops” inside Nordstrom are its most profitable business.
Despite digital first start-ups such as Casper, Glossier and Rent the Runway attaining $1 billion valuations this year, studies regularly find online selling continues to be price driven. Primary purchasing incentives include free shipping, free returns and coupons.
A recent Drapers article exploring the “true cost” of online selling found avoiding rent and associates’ pay is often offset by major investments in customer acquisition, fulfillment and the cost of returns. According to Drapers, one U.K. department store told suppliers any online order under £30 ($38) is unprofitable.
A less talked about challenge is the climbing costs of customer acquisition and online’s lackluster retention rates. Matt Alexander, CEO of Neighborhood Goods, the start-up specializing in bringing digital native brands to physical places, recently told Crunchbase News, “Customers acquired offline have five times more lifetime value than those acquired digitally.”
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Everlane needed to open stores because ‘basically’ no online-only companies are profitable, CEO says – CNBC
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The founder who sold Bonobos to Walmart says digital only brands are overrated, and pointed to Bonobos’ success in Nordstrom stores as proof – Business Insider
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Valassis Research: Online Shoppers Prioritize Savings, Seamless Experiences – Valassis Research
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Dallas-Based Startup Raises $11M To Bring Online Goods To Your Neighborhood – Crunchbase News
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Drapers Investigates: the true cost of online retail – Drapers
Discussion Questions
DISCUSSION QUESTIONS: Is online selling still facing near-term profitability challenges or is it inherently unprofitable in its current set-up? What are the biggest profitability hurdles for online retailers?
Poll
BrainTrust
Paid social and search are only getting more expensive in practically all categories. For consumer brands, this is definitely a hurdle with a typically lower average transaction value. This is one of the steepest hurdles that has grown in the past five years in particular as the eyeball aggregating platforms have grown to mega-scale. Another money pit being the freight/fulfillment space, which is increasingly becoming more interesting (Shopify’s acquisition of 6 Rivers), with innovation hopefully paving the way for significantly reduced costs to merchants.
The challenge with the term “online selling” is that it quickly degrades to competing on price. Customers are well equipped to compare prices if that is the only value proposition. Online does not have to be “inherently unprofitable” if is part of an omni-strategy which builds on market basket and relationships. The biggest challenge for pure online retailers is customer acquisition that leads to some kind of relationship.
If the business has to provide incentives such as free shipping (ridiculous, it’s not free), coupons (sure, once in a while but not always), and returns without re-stocking fees (why? It costs the business to re-stock an item), yes the business is heavily challenged. This may be a self-fulfilling prophecy as it is these businesses that have agreed to play by these terms when they shouldn’t have, and investors continue to put money into businesses that show promise but not profit.
The consumer should be happy enough that s/he does not have to go to the store to buy it, or to return it. Every touch of the merchandise has a cost associated with it (remember activity-based costing?) and someone has to pay for it.
There is such a misconception out there that online selling will eventually displace or make the brick-and-mortar experience irrelevant. That couldn’t be further from reality, as pure-play e-commerce sales are approximately 10 percent to 11 percent of the total retail Q2 sales. Online shopping has plateaued somewhat, and the path to purchase is far more dynamic and includes a mix of physical retail, digital and social interactions before the transaction is completed.
Michael Preysman and the Everlane team are following the playbook that a significant amount of digital native firms have established. With companies such as Away, Warby Parker, Bonobos and now Everlane opening physical showrooms, it’s clear that the store serves as the best form of media. Brick-and-mortar is alive and well and will be an especially critical component for digital natives to get right in order to scale, survive and thrive.
If it’s never been profitable, there’s nothing on the horizon that will make it better – only worse. Lots of potential for a repeat of the dot com bubble situation.
In general terms, online isn’t as profitable. However, the math is complex: it depends on the sector, the method of fulfillment, the dynamics of the customer, and so forth. The biggest issue is that customers do not, and are not willing to, pay the full cost of fulfillment. Sometimes, online selling needs more marketing and customer acquisition support as it is more challenging to draw in traffic in a digital environment.
All that said, retailers can’t simply ignore online as, if they do, they lose market share and then they lose profit on the sales they make. However, those retailers where online operations simply result in the transfer of sales from stores to digital have real problems as they generally end up with lower margins and a more expensive cost base to support.
While there is not a consistently reliable source of data, we can easily surmise that the answer is that most of e-commerce is not very profitable, as I’ve previously called out in a Forbes piece.
We know this because Amazon, which represents about 40 percent of online sales in the U.S., has low profit margins, Walmart is reportedly losing about $1 billion per year, the biggest digitally-native brands for which we have data collectively lose quite a lot (particularly Wayfair) and venture capitalists continue to plow significant dollars into private fast-growing brands to cover operating deficits.
As mentioned, as brands scale they often face daunting customer acquisition costs while the lifetime value of the customers added declines. Basically the more they grow online the more they lose. This is nearly impossible to change as the competition for eyeballs becomes more intense and Google, Facebook, Instagram et. al. improve at optimizing their rates.
Another issue is that direct-to-consumer is a variable cost business to fulfill. It costs about the same to pick, pack and ship a $15 order as it does a $200 order. Companies with generally low value orders and high returns (online returns are often north of 30 percent) that offer free shipping both ways are largely profit proof.
The move into physical, while expensive on the fixed cost side, has the promise of lower CAC and lower returns. It is this mix that allows many brands with a strong presence in brick-and-mortar and digital to make the total equation work.
The fact that online only retailers struggle to stay profitable was an eye-opener at GlobalShop this year. One panel noted that once an online retailer hits a certain number it becomes too costly to attract new customers without a brick-and-mortar presence.
The other not so dirty secret that no one wanted to talk about for a long time is that people like to shop. We like to touch and feel and try before we buy. We can dissect brick-and-mortar stores all day long, but shopping is and will always be a social activity.
There is no real news here. It has been clear for a long time that other than a very few outliers, stores are a requirement for retail profitability. The problem has been that one of those outliers just happens to be Amazon, with virtually unlimited cash to put pressure on everyone else. As we get smarter about leveraging stores as our most potent competitive weapons against Amazon, we are seeing brands that deliver truly seamless experiences between physical and digital channels thrive. People rely on the store as showroom, education center, entertainment center and return center. Online shopping is all about – and only about – choice and convenience; hence the dominant role of price as a conversion engine.
Online conversion for many retailers is about 3 percent. So 97 percent do not buy, they walk. Returns range from 35 percent to 45 percent or more. Shipping product back and forth to customers and warehouses is inefficient, and seriously not “green.” For all the bravado around technology solving digital shopping, recommending a product to a human who buys the product, likes it and keeps it, nothing has worked. All are pretty much hacks on the same old thinking: segmentation, collaborative filtering, etc. Technology has treated humans as cogs in a machine, rather than as people with individual sensory preferences. Computer and data science seeks to find patterns in zillions of data points, learning absolutely nothing about individual human preference. Having preferences is something we all do as humans every day. We prefer one thing or many. We wear clothes, drive cars, and buy homes and furniture that make us feel good and comfortable, without even having to think about it!
Online retail has many challenges that make profitability a difficult goal. Many have been highlighted by others: “free” shipping, price sensitive shoppers fueled by easy price comparison, high cost of customer acquisition (SEO and advertising) and limited brand loyalty.
Omnichannel features such as BOPIS create even more challenges, as there are increased labor costs. With customer expectations at all time highs and going higher, making a profit on online transactions will continue to be challenging.
This is definitely the reality merchants are facing in this evolving marketplace. The answer today is the same answer as when online retailing first took off: “Play everywhere the shopper is.”
Physical stores are not going away. Sure retailers close their doors, however the reason for this is not solely due to online shopping growth. More of that story is because of the lack of agility of the physical retailer to adapt to changing product trends. Many of the online hurdles have been mentioned already in some great responses. Those hurdles can be dealt with profitably with a balanced approach to your shopper touchpoint strategy. Of course, that’s easier said than done, however it can be done by leveraging the business functions that drive profitability in each channel and driving down costs in those that don’t. Simple. Just not easy.
Somehow I feel like this is not a new story, or at least it shouldn’t be. The first dot-com boom went bust because customer acquisition costs were ridiculous. It’s cheaper to have stores which are brand ambassadors along with profitable selling channels.
The only thing that has changed in the ensuing two decades is mobile.
And then there are apparel returns. Where do I begin?
These problems are intractable, so perhaps once and for all we can stop talking about the “Retail Apocalypse.” There’s a reason so many of us thought it was stupid from the jump.
It has always been essentially true that direct selling has a high cost. Old direct response TV (infomercial) products needed a 4x to 5x markup to afford to pay for customer acquisition. (I joined an ad agency to run financial models on such things.)
Direct selling can be a highly profitable model for a small business. But it takes stores to scale.
As a result, it’s boggled my mind how many experts buy into the “pureplay online” mythology. My first experience with it was more than 20 years ago when I heard the 800.com pitch. It was nonsense. But everybody “wanted” it to be true — so they ignored the fact that it was nonsense.
I am particularly fascinated by the 5x longer retention though but I haven’t seen those types of particular numbers. That said, at least with a half-hour infomercial, purchasers learn reasons to be loyal. Online is such a weak communication environment it’s wouldn’t be too surprising to find low retention.
I agree with Georganne. You need to interact with the brand and with real people to get things done. Online is fast and sometimes easy but not always. Case in point. My daughter is getting married soon and the guys are all ordering from an online tuxedo company which sends them to you based on an online survey. I simply don’t have time to screw around with sending them back for additional alterations as the tuxedo needs to be perfect for this occasion. I decided to purchase at a physical store where I interacted with a very knowledgeable salesperson who took good care of me.
I also shopped for bow ties online, and my wife ordered a few and we found they don’t quite fit, and guess what? She is so used to buying online that she assumed they would be able to be returned. On closer inspection, she discovered that there was no return policy mentioned on their website and a few e-mails have received no response from the bow tie company.
I think I’ll purchase one from the same place I bought my tuxedo. Is online profitable? For companies that don’t let you return an item — you bet!
Pure-play e-commerce can be profitable but it is difficult to scale and grow. Most of the BrainTrust agrees on the direction of online selling as challenging. Issues such as free shipping, overall fulfillment costs and more notably skyrocketing customer acquisition costs definitely make it a challenge. However, there are models that work and looking back to the days of mail order, there are models that thrive. Online pure plays are still just a business model and dissecting an entire business model is hard to do in a few paragraphs. The real issue here is not whether they are or can be profitable, but whether they can grow profitably. Steve Dennis has a great Forbes article on the scaling woes of pure plays.
Just to add a bit of food for thought: at the early levels, pure play e-tail can be profitable. Amazon has more than 25,000 companies driving more than $1 million in sales each year on their marketplace.
Online stores have been very successful in creating unrealistic and unsustainable expectations for consumers. We expect to logon anytime, find anything we want, at the lowest possible price, and get it shipped for free within a day (or less). The consequences of these expectations are just beginning to appear; the real retail apocalypse may be the crashing of those expectations.
Don’t think that will happen — what you’re suggesting, Jeff, is that customer behavior will change because retailers don’t like the precedent. I doubt customers who enjoy having packages delivered to their door after buying online will accept anything less. The cats already out of the bag. What will happen is the omnichannel trend where the advantages of store buying overtakes the pure play — with acceptable losses by those unwilling to accept that you need both to run a strong retail business.
Online selling alone limits a brand’s opportunity to engage consumers. Most digitally native brands today are developing online-to-offline retailing strategies to maximize their omni-reach. Pop-up stores are the most popular entry into offline retailing and give online brands and businesses an easy way to disrupt their way of doing business and reach new consumers. Disruptive retailers such as Amazon and Tesla have online-to-offline retailing strategies. Consumers enjoy the Tesla pop-up store and the Amazon Treasure Truck. These forms of disruptive retail are unique and memorable brand experiences that directly engage consumers and work to build a brand relationship, something online selling alone cannot do.
Wow!! Overgeneralize much? I’ve no doubt there are many unprofitable online sellers, just as there are many unsuccessful/marginal businesses. But catalog selling has been around for a long time. Obviously, sellers in hyper competitive markets, who are willing to offer free shipping — and free whatever — in a (dubious IMHO) quest for volume will be the worst performers, but let’s not tar everyone with the same brush.
Online selling will always have costs attributed to customer acquisition, shipping and returns. Over time, as the customer base settles, the online sellers will learn and reduce their cost over time. However, the profitability will continue to be lower than store-based sales. The biggest profitability hurdles will continue to be shipping and returns. Customers assume online selling is “free” and they will continue to push back on prices and shipping costs.
I believe online selling is inherently unprofitable for certain price points and product categories. The fact that customers can’t physically use their five senses to buy products is one major factor, another is the return rate of 30+ percent for many products. Many people use online shopping as a way to have presented to them a range of colors and sizes that they have no intention of purchasing and, if they do, it will only be a singe item selected from the presentation.
I have always felt that history is the best indicator of where this market will go. Earlier in my career, mail and phone order retailing and leveraging catalogs, was hot. It was going to eliminate stores, but it had the opposite effect with catalogers opening locations where they had geographic clusters of customers. I believe we are seeing a similar phenomenon but a different day and time.
Online selling is not profitable. Amazon makes its profits from the cloud and offering its fulfillment and warehouse services, along with website selling listings for additional fees to the suppliers. The article quotes “valuations” like those of Casper, but confuses these with actual profits, since valuations are a stock market perception, not a reflection of profits. Following in the footsteps of Amazon by leveraging your investment in “the cloud” to sell this to your partners, or other services to better leverage your online market space, is the true way to create profits for an online sales and marketing company.