Viewpoint -- Success Eludes Many Dot-Com Retailers

Dec. 21, 2004
Bricks-and-clicks is the way to go.

As the landscape for business-to-consumer online commerce becomes more mature, bets as to which of the myriad e-commerce contenders will emerge as the most successful and long-lasting are on those companies that maintain physical stores as well as online shops. The online space has become more populated in the last few months, despite a turbulent market that has been merciless to e-commerce stocks. Retail stocks have taken a beating as well, but the distinction between a strictly physical retailer versus a pure-play Internet storefront are blurring as many physical retailers scramble to get online. According to published research from McKinsey & Co. and Salomon Smith Barney, nearly two-thirds of pure-play Internet retailers believe that they will not be profitable by the end of 2001 and more than a third don't expect to achieve profitability until 2002. Few online retail pure-plays are expected to have long-term success without an offline partner or investor. The business models of online retail pure-plays differ drastically from those employed by offline retailers with e-commerce operations, which are largely viewed as another profitable sales channel. The established brand that many physical retailers have can help drive traffic to their dot-com divisions far easier than unheard-of Internet-only companies can lure would-be shoppers to their sites. Successful retailers should view the Internet as a sales channel, instead of as the sole platform upon which to build an entire retail business. This is good news for offline and catalog retailers that must be mulling launching e-commerce sites. Online pure-plays, on the other hand, will have a much more difficult time reaching profitability. Net pure-play winners may be limited to those e-tailers that most successfully bridge the offline world with the Internet. Many pure-plays are still fighting steep uphill battles, given their hefty outlays to market and the costly incentives, promotions and freebies that many online merchants feel they must offer to new customers. The problems herein are twofold. For one thing, fulfillment and shipping costs are staggering expenditures for online stores that are virtually nonexistent in traditional stores, where consumers select their own stuff and take it home themselves. Secondly, online shoppers are not loyal consumers. They may visit a site to use a coupon or take advantage of some other type of promotion, like double frequent flyer miles, but one-time gimmicks don't have the staying power that e-commerce companies need to justify high customer acquisition costs. Online pet stores and online drugstores have been hit hard by high shipping costs that are not recouped from small orders that already have thin profit margins. Online druggists must maintain deep inventories that may not rotate quickly enough to be profitable, while places like face the dilemma of shipping 50-pound bags of dog food below cost. E-commerce executives and bullish equity analysts promise investors, however, that these types of losses will only be short-lived. They reckon that as a company builds its customer roster and as the average order size increases, distribution systems should become more efficient. Streamlined distribution centers will translate into cheaper fulfillment costs per order and should lead to rising contribution margins that should cover such corporate costs as marketing and Web site development. Brick-and-mortar stores generally have lower break-even points than their Internet counterparts. Most offline companies have also been in business long enough to achieve the essential scale in their distribution systems required to consistently turn profits. The online grocery sector was one area that the study found to have the potential for longer-term success. The reason was primarily because food shoppers, as opposed to buyers of toys, tools and CDs, for example, are loyal, frequent customers. Officials from Webvan, HomeGrocer, Peapod and Streamline all insist that their most desirable customers get such kitchen staples as milk, eggs, bread, and fruit with such regularity that these types of items are added to regular grocery lists and delivered at least a couple of times a month. Online grocers as a whole are increasingly focusing their marketing and advertising campaigns on a very select group of consumers. Instead of wasting time on customers who live in or near city centers, or on singles, most of them now seek out affluent, dual-income, suburban families with kids and pets. This market segment, they accurately figure, is willing to pay enough of a premium for the service and convenience of online grocery shopping to enable the Webvans of the world to afford to shell out as much as $35 million to open a distribution center.

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