Pure-play e-commerce’s scaling woes continue

Just a couple of years ago the conventional wisdom was that e-commerce was going to wreak havoc with every aspect of physical retail. This “e-commerce will eat the world” hypothesis continues to drive the “retail apocalypse” nonsense. It has even caused some normally level-headed analysts (and some maybe not so much) to suggest that brick & mortar stores will cease to exist within 10 – 20 years. I’ll take the over on that bet.

As it turns out lots of folks still like to shop in stores, including–and I hope you are sitting down for this–millennials! It also turns out that many retail categories do not lend themselves to high (or even meaningful) online shopping penetration. But there is another reason that e-commerce is not going to get to 100%, much less 40%, market share any time soon: the economic are often terrible. And while Amazon is leveraging its massive scale and expertise to improve its anemic profit margins, for some high profile disruptive brands the profit challenges are only getting worse.

Earlier this year I wrote about pure-play e-commerce’s scaling problems calling attention to what I saw as the increasingly questionable economics of Wayfair, Stitch Fix and Blue Apron, among others. Quite a few folks challenged my conclusions, much as the excellent work by Peter Fader and Dan McCarthy on similar topics has attracted its share of critics. Aside from being called a Luddite and being told to do some anatomically impossible things, it was suggested that I failed to appreciate how these brands would soon realize the fruits of their massive investments in technology, customer acquisition and “brand” and start to make it rain (okay that’s my wording not theirs).

As luck would have it, we now have some updated facts (author’s note: historians believe data and objective truth were once important to drawing conclusions on any particular object of discourse). Wayfair reported its quarterly earnings just last week and, once again, sales were way up. And once again losses widened. They are now deep into what I refer to as their ruh-roh moment as customer acquisition costs have grown to a staggering $196. They are fast becoming the poster child for profitless prosperity (though I imagine Uber and WeWork might get jealous of that appellation).

Luxury marketplace Farfetch just went public, so we now have visibility into their economics. Their story is much like Wayfair’s. Booming sales, worsening profits and less than stellar marginal customer acquisition economics. Zalando, the Germany based online business, is also public and their latest earnings show great sales growth and deteriorating profits as well. Revolve has filed for an IPO and its financials reveal strong sales growth, little movement on profitability and some truly scary stats on high rates of returns. Coincidence, or an underlying business model issue?

The picture at Stitch Fix and Blue Apron is a bit murkier, but still points to the difficulty in scaling online only businesses. Stitch Fix continues to enjoy solid growth and is marginally profitable, but its growth trajectory is slowing markedly. For Blue Apron, they just reported another terrible quarter. The stock has cratered this year as the meal-kit brand attempts to rein in spiraling costs has resulted in significant customer defections and worsening customer acquisition. And this speaks to an underlying dilemma. These brands could stop investing in customers that have little or no chance of every being profitable, but then their sales growth would go from wow to tepid.

To be fair, there are a few online only brands that are scaling successfully. YNAP, which was acquired by Richemont earlier this year, is a case in point. The luxury e-tailer formed by the merger of Yoox and Net-a-porter is solidly profitable and continues to grow nicely, albeit now barely above the industry’s overall e-commerce growth rate. With much higher than average order size and customer lifetime value they are largely immune from the factors that hamstring or sink other pure-plays (high marginal fulfillment and customer acquisition costs).

As the majority of pure-play brands are private, we don’t much about their profitability. But anecdotally we know that some of the most high profile disruptive brands continue to post big losses. We know that several that were burning tons of cash were bailed out by Walmart. We know that one of the first things HBC’s new CEO did was sell off Gilt. Most importantly, we know that just about every digitally native brand is now opening physical stores. We also know that many of these brands are now seeing the majority of their marginal growth come from their brick & mortar locations. And we can suspect that when many of them leave the ranks of pure-plays their marginal economics get better–often dramatically so.

I will not be so bold as to say there will be no such thing as a profitable online only brand of any real size in a few years time. I am, however, confident that we will see several notable collapses within the next 12-18 months and that the real action in digital commerce will continue to be in the blurring of the lines between channels, not the growth of e-commerce at the expense of brick & mortar.

A version of this story appeared at Forbes, where I am a retail contributor. You can check out more of my posts and follow me here.  

I’m honored to have been named one of the top 5 retail voices on LinkedIn.  Thanks to all of you that continue to follow and share my work.

We’ve created a monster: Retail’s growing returns problem

At the beginning of the year I published “A Baker’s Dozen Of Provocative Retail Predictions For 2018.” In No. 11, I opined that the industry’s problem with returns would soon start to get the attention it deserves. For awhile now I have seen the growing rate of costly product returns as a ticking time bomb—particularly as e-commerce garners greater share. As we’ve gone through this year, stories of retailers tightening their return policiestracking “serial” returners and going after returns fraud have become more common. Last month, Axios joined in the chorus, calling attention to the problem of e-commerce returns in particular. Unfortunately, despite greater awareness, the issue is likely to get worse before it gets better. But eventually something has to give.

Product returns and exchanges have been the nemesis of the direct-to-consumer industry going back to the mail-order catalog days. For products that are fit and/or fabrication sensitive (think fashion, intimate apparel, shoes) returns often exceed 30%, and rates north of 40% are not unheard of. Back in the good old days, while high return rates were definitely an area of concern, the fact that the customer often paid “shipping & handling” costs helped soften the damage to the bottom line. In fact, for some brands, shipping & handling was actually a profit center.

Today? Well, not so much.

More and more free shipping is becoming the norm. Many “disruptive” brands have made free shipping “both ways” an intrinsic part of their business model. And as the holiday season approaches we are about to enter a period where free shipping offers will practically be tables stakes. In fact, Target has already announced that it will offer free two-day shipping beginning November 1. None of this bodes well for turning the tide on returns.

As is so often the case, Amazon remains the 800-pound gorilla here, particularly as free shipping is core to the Prime value proposition. And while Amazon charges for this privilege, its total fulfillment costs continue to grow as a percent of sales. While the company does not share much detail about the underlying drivers of this escalation, it’s hard to imagine that product returns are not a key contributor.

Some argue that fast, easy and inexpensive returns are all just part of being customer-centric or staying competitive. And certainly that is true. Yet it’s also true that the growing problems are largely self-inflicted and, in many cases, distorted by the increasing popularity of e-commerce. Online shopping can be incredibly convenient. At the same time it’s next to impossible for most consumers to be sure of fit, color accuracy, product quality, etc. sight unseen. So given there is no additional direct cost, it’s not surprising that many customers buy 2, 3 or 4 of the same item in different colors and/or sizes, fully expecting to return all the rest for credit. In the quest to be customer-friendly many companies have radically changed their cost structure. And not in a good way. We have met the enemy and he is us.

In “normal times”—and for any number of reasons it’s clear these are far from normal times—such liberal and wildly unprofitable practices would have long been tamed by market forces. But as many investors have been willing to value growth over profit, the consumer has seen a huge benefit, while many brands continue to see their margins shrink.

Confronted with this reality, smart retailers are not only refining their policies and adjusting their pricing, but also turning to new technology and/or partners like Happy ReturnsOptoro (which raised $75 million earlier this year) and others that seek to help brands deal more effectively with this rising tide. At some level, returns and exchanges are simply an inherent part of the retail business. Seeking to make the best of a necessary, but costly, part of the retail equation is eminently sensible.

Real progress on reducing the overall incidence of returns, however, must focus on the root causes. Many retailers have made significant progress on reducing returns due to product damage, shipping errors and the like. Taming the monster of returns that have nothing to do with delivery quality, and everything to do with intentional customer decisions, is far more vexing.

A version of this story appeared at Forbes, where I am a retail contributor. You can check out more of my posts and follow me here.  

November 8th I will be doing the opening keynote eRetailerSummit in Chicago. For more info on my speaking and workshops go here. 

The de-schlepping of retail

Millard “Mickey” Drexler, the former CEO of J. Crew Group and Gap, is many things. Shy and retiring is not among them. To be sure, Drexler’s had his ups and downs, his victories and defeats. But he’s always interesting. In my only conversation with him (by phone when I was a responsible for strategy and multi-channel marketing at the Neiman Marcus Group), he had the attention span of a gnat on a 5 Hour Energy bender. Between barking orders to his assistant, he dictated a litany of things we were doing wrong at Neiman’s that I must address STAT (wait, do I work for you?). I left the call with a long list of items to discuss with my boss, more than ready for a nap. Good times.

Drexler has been mostly off the radar since stepping down from J. Crew, yet he re-emerged in typical style at the recent Annual Retail Forum/Retail Radicals event organized by the Columbia Business School and The Robin Report. Among his many provocative comments, the one that captured my attention was what he referred to as the de-schlepping of retail. “Why schlep paper towels from the supermarket? Why schlep dog food? Why schlep a lot of things?” he asked. And he’s right. Of course lugging heavy and/or bulky items home from a store has always been a hassle, particularly if you take public transportation or live in an apartment. The more powerful change is the number of companies that have emerged to address this pain point, including Boxed, Jet and Amazon.

I (and others) have made the distinction between buying and shopping, highlighting the fact that e-commerce is rapidly gaining share in the former, where the products are more commodity-driven and where price and convenience are paramount. Shopping, on the other hand, is more experiential and tactile, and as such, pure online shopping has not gained nearly as much traction. De-schlepping, as Drexler describes it, solves a very particular sub-set of customer needs, delivering clear and obvious value. From my own experience, once I discovered the ease of buying bulky and heavy items online, I haven’t turned back. While it’s not a huge amount of purchases, I’ve made a nearly complete shift of spending in certain categories away from traditional grocery stores to Amazon and others.  It’s clear from the data that I am far from alone.

At one level this dynamic is pretty obvious. At its core it merely explains some of the fundamental reasons that online shopping is now approaching 10% of all retail sales and continuing to grow much faster than brick-and-mortar retail. What’s relatively different about the de-schlepping phenomenon, however, is both the customer value and the underlying economics for the retailer.

There are plenty of retail categories where the customer may be largely indifferent between buying in a store or online—or where they regularly split their spending between the channels, based upon their episodic need for sales help, the desire to touch and feel the product or pure impulse. This is not true when we are motivated principally by our desire for de-schlepping. Once we know what we want and have a supplier we trust, there really is no reason not to buy online as a physical store experience adds little or no discernible value.

Yet from a retailer’s perspective, it’s often rather different. Since brick and mortar is largely a fixed cost business, the marginal profitability of a big bag of dog food or 48-pack of toilet paper or a case of S. Pellegrino sparkling water (my personal favorite) is usually good, even when heavily discounted. Conversely, for the online players the economics are generally terrible, owing to the variable cost nature of direct-to-consumer sales. The precise reasons customers love the de-schlepping of retail is why e-commerce sellers generally hate it. If it’s big, bulky and heavy, it costs a lot to store, handle and ship. The logistics costs relative to the gross margin dollars generated typically make these orders unprofitable. What’s great for consumers is lousy for online retailers.

So the question isn’t whether the de-schlepping of retail is good for consumers. The question is whether it can be economically sustained as it scales. The nature of Amazon’s Prime program means a decent percentage of the e-commerce behemoth’s orders are unprofitable. The prevalence of free-shipping and deep discounts to acquire new customers means that some online-only players have many transactions that generate negative cash flow. Ultimately it comes back to the interplay of unit economics and customer lifetime value. Most customers are smart enough to go where they will get the best deal. They will “overuse” retailers (online or offline) that consistently provide customer value that is too good to be true (see also Uber, Lyft and WeWork). In Amazon’s case, it has the benefit of comparatively low customer acquisition cost, supply chain efficiency and offering such a wide array of product and services that the vast majority of customers have good lifetime value even if it has a smattering of transactions that are money losers.

For brands that offer great customer value, yet suffer from challenging delivery economics and high customer acquisition costs (Boxed, Wayfair, among others), the path forward is far less certain. Sure it’s impressive to deliver consistently strong revenue growth. Yet it turns out it’s really not all that surprising when the service offering and pricing may be too good to be true. For consumers it’s great when investors are willing to subsidize a new business model that offers real customer utility. Whether that business model is ultimately economically sustainable is another matter entirely. Time will tell. In the meantime, as long as certain brands are willing to price in such a way that I can avoid the hassle of schlepping home the biggest and bulkiest of items I regularly purchase, I’ll keep buying. I’ll let them worry about whether they can sell at a loss and make it up on volume.

A version of this story appeared at Forbes, where I am a retail contributor. You can check out more of my posts and follow me here.  

My speaking page has been updated with several new gigs. See the latest here.

Amazon Prime Day: Don’t fall for the hype

It would be hard to calculate the crazy amount of media and analyst time spent anticipating, covering and then trying to dissect the implications of this year’s Amazon Prime Day event. In fact, each year it seems like the breathless coverage moves closer and closer to the media frenzy that surrounds Black Friday. It’s mostly a complete waste of time.

Here’s the thing: Going into this year’s Prime Day, there were a few outcomes we could easily predict. First, it was going to be a record day. Second, knowing virtually nothing, you could reasonably guess that the year-over-year growth was going to be materially higher than the general trajectory Amazon has been on this year. Why? Well that’s what happened each of the last several years, and that’s what almost always happens when any brand intensifies promotions around a particular event. Third, Amazon was going to distort efforts toward the strategic areas it’s focused on building (i.e., voice-activated commerce, its private brands and generally anything that reinforces why everyone on the planet should be a Prime member). Why? C’mon, you can answer that question for yourself. Fourth, major competitors were going to dial up their efforts to protect marketshare. Why? Because that’s what retailers always do, whether it’s rational or not.

The last major thing we knew going into Prime Day is that, post-event, Amazon was not going to share anything especially useful or specific about its actual category or financial performance.

And, yes, that’s precisely what happened. Apparently my crystal ball remains in good working order.

So here we are looking back at the event, reading, watching or listening to folks like me — and hopefully some real journalists from time to time — trying to make sense of it all, which leaves me inclined to ask three questions. First, did we learn anything substantive that we didn’t already know beforehand? Second, more specifically, does any of the information gleaned from Prime Day help us make a more accurate prediction about what’s next? Third, if you work at a retailer (or supplier), now that are you armed with any incremental and actionable knowledge gained, are you going to do anything different in the future?

Now here’s where I need to briefly make the comparison to Black Friday. Since I’ve worked in retail, which is now more than 25 years, Black Friday has become a bigger and bigger deal, both in terms of the media attention it garners and the time and energy most retailers put against it. And the two things that have become clear over time is that most of what happens on Black Friday is completely predictable in advance and that actual performance on Black Friday is a poor indicator of how the industry will do that overall holiday season and how any given retailer’s results will turn out. In other words, it’s mostly much ado about nothing.

So with regard to my first two questions, I’m struck by how Prime Day is becoming more and more like Black Friday — and, for that matter, the unfortunately named Cyber Monday. Sure, they will be huge volume days. Sure, they will rack up bigger numbers than last year. But did we really learn anything that we didn’t already know, other than it turns out Amazon’s website also crashes from time to time?

Which brings me to a follow-on to the third question I posed: As a retail leader (or someone who provides services to the industry), regardless of whether you actually gained any new knowledge and insight this week, what is it you are actually doing to fight and win in the age of Amazon?

From where I sit, many of us (myself included) spend way too much time watching things happen, rehashing things we already know and staying stuck in judgement and critique.

Don’t fall for the hype. Don’t get sucked into the media vortex. It may feel like it’s useful to watch the talking heads on CNBC. You might feel like you are learning something poring over various articles and newsletters. But it’s a distraction and a trap. Most of us already know what we need to do.

The hard part isn’t the analysis. The hard part is the doing.

A version of this story appeared at Forbes, where I am a retail contributor. You can check out more of my posts and follow me here.  

On October 3 I’ll be doing a keynote at the ICSC Canadian Convention in Toronto. Hope to see you there.

5 big myths and misunderstandings about e-commerce

Much of what gets written about the retail industry centers on the notion that e-commerce is changing everything and that traditional retailers and malls will soon be obliterated in a tsunami of disruption. Alas quite a bit of this is just flat out wrong or widely misunderstood.

The seismic forces being felt throughout most sectors of retail are undeniable. While the overall retail apocalypse narrative is nonsense, a harsh reckoning is befalling those retailers that failed to act in the face of significant change and shifting demographics. The ridiculous overbuilding of retail space during the past decade or so is finally being corrected. And, to be sure, the rapid growth of e-commerce—and Amazon in particular—continues to transform consumer behavior and wreak havoc with many legacy brands’ boring value propositions and challenged underlying economics.

It’s also true that a lot of commonly held beliefs—and what is put forth as “futurist” prognostication—ranges somewhere between rank hyperbole and outright distortion. So here’s my take on the five big things many often get wrong about e-commerce in particular—and the impact of digital disruption more broadly.

E-commerce will soon represent 50% of all retail

Forever is a long time, so it’s impossible to say definitively that e-commerce will never represent half of all industry sales. But I’m absolutely willing to take “the under” from those that are predicting it will get to 50% within the next decade. That’s not to say that certain categories won’t make it—books and music are already there. Certain retailers might grow to (or maintain) that penetration level as well; the most obvious being brands that started as pure-plays but are rapidly expanding into brick and mortar (e.g. Warby Parker, Indochino). Well differentiated brands with a strong legacy in direct-to-consumer that wisely invested ahead of the curve and that operate relatively few physical stores (e.g. Williams-Sonoma, Neiman Marcus) can get or stay there as well.

The reason it won’t happen is two-fold. First, you don’t have to be a mathematician to see that we are not on a glide-path to make it. To achieve 50% share would require a far different growth rate than current trends suggest. Rates are moderating, not accelerating. Indeed there remain large categories with comparatively low e-commerce penetration (home furnishings, grocery, home improvement, et al) but there are inherently sound reasons for this, mostly tied to the experiential nature of the vast majority of these purchases. When the customer is inclined to see, touch and feel the product, brick and mortar is likely to stay overwhelmingly favored. This is a prime (heh, heh) reason why Amazon bought Whole Foods, why Wayfair is struggling and why so many once online only brands find themselves rapidly (and rather ironically) opening stores.

It’s all about new disruptive models

With all the hype surrounding the brands the cool kids like—and the VCs seem to enjoy pouring money into with reckless abandon—you might think they are big contributors to e-commerce’s massive growth. Turns out, not so much. First of all, when we say e-commerce we mostly mean Amazon, as it accounts for nearly half the entire sector. But here are the leaders that come right behind them, in rank order: No. 2 Walmart, No. 3 Apple, No. 4 Home Depot, No. 5 Best Buy, No. 6 Macy’s, No. 7 Target, No. 8 Kohl’s, No. 9 Costco. No. 10 is Wayfair, which I doubt will stay much longer in the top ten, but that’s another story.

So despite the bright and shiny nature of the latest brand to “disrupt” the sock, lingerie or luggage market, when you add them all up they don’t account for all that much market share. Instead the $100 million plus e-commerce club is filled with old school brands like Lowe’s, Staples, Nordstrom, Neiman Marcus and (shudder) Sears.

Online shopping is easy to scale

Among the key reasons that investor dollars flooded into pure-play e-commerce over the past decade was the belief that these new and innovative brands could scale quickly and efficiently. While it’s turned out that the technology is generally quite scalable—and that impressive numbers of customers could be acquired far faster than a typical brick and mortar roll-out strategy—the path for many, if not most, has been far more difficult than anticipated. Much of this can be traced back to the ridiculously high (and generally unsustainable) costs of customer acquisition, as well as what often turn out to be expensive and/or complicated issues stemming from the high rate of customer product returns. Pure-play e-commerce can be extremely capital efficient. Until it’s not. See One Kings Lane, Gilt.com and a growing list of pure-play flameouts.

Online shopping is more profitable than brick & mortar

Amazon has barely made any money in retail in its more than 20 year history. In its most recent earning quarter report (which delivered record profits), Amazon’s margins remained below industry averages (fun fact: Apple made more money in its recent quarter than Amazon has made in its entire history, and that includes AWS). When you consider that Amazon represents nearly half of all e-commerce, and the majority of hyper-growth digitally-native brands (Wayfair, Bonobos, et al) lose money, it’s hard to believe the sector is more profitable. For traditional brick-and-mortar-dominant retailers with fast growing e-commerce businesses we can reasonably infer from publicly available information that for many the growth of e-commerce is dilutive to earnings. It’s not surprising, particularly for low average ticket online purchases, where order fulfillment costs eat up a large percentage of margins.

Many have criticized brands like Walmart, Pier 1 and H&M for being slow to develop their online capabilities. And they did get some things wrong, mostly around not understanding the role of digital in the overall customer journey irrespective of the purchase channel. But it’s also likely true they were slow because they knew that given the characteristics of their product lines they were signing up for deteriorating margins.

The focus on transaction channel is important

Retail industry folks like to talk about channels. There is little evidence that customers care. Wall Street likes to know how fast e-commerce is growing and what’s going on with same-store sales. The fact is those channel-centric metrics are increasingly useless. Many retail brands are organized by channel, allocate inventory by channel and analyze customer behavior exclusively by channel. Many still have separate marketing budgets, performance indicators and incentive schemes based upon purchase channel. In almost all cases this is not only wrong but dangerously misleading as it encourages behavior that is not customer-centric, while undermining overall brand objectives.

While there are customers who are literally online-only shoppers, the vast majority of customers are regularly active in digital and physical channels. They think brand first and channel second (if at all). To them it’s all just shopping—and for brands it should be seen as all just commerce. One brand, many channels. Digital influences brick and mortar and vice versa. In fact, both Deloitte and Forrester studies indicate that digitally-influenced physical store revenues are far bigger than e-commerce sales, suggesting anyone who attributes all digital spending to online channel revenues is likely to widely miss the mark on their investment strategies. Except for the few brands that remain online only (which is a rapidly dwindling number), the focus on e-commerce versus brick and mortar is fast becoming a distinction without a difference.

Clearly shopping behavior continues to evolve rapidly. Short-term strategies that look to be burning cash today may turn out to be wildly profitable tomorrow. Amazon obviously has the potential to improve profitability if they choose to focus on margins over growth. A shakeout of profit proof business models is likely in its early days. Much more of this history is yet to be written.

Nevertheless, when we advance click-bait worthy stories as real analysis, we do a disservice. When we broad brush industry trends, rather than dig deep into the idiosyncrasies and nuance of particular sectors and categories, we are likely to miss what’s really going on. And understanding the dynamics of a complicated, ever-changing industry is hard enough to do without getting confused or distracted by the hype cycle.

A version of this story appeared at Forbes, where I am a retail contributor. You can check out more of my posts and follow me here.  For more on my speaking and workshops go here.