Retailing is in desperate need of new metrics – “Cost to sell through”
JuralMin, Pixabay.com
By Chris H. Petersen
Omnichannel is all the rage and a still a key topic at most retail conferences. You have seen the phrase used many times in our posts: “Omnichannel is the New Normal“. There is little question that omnichannel has become the new way customers shop and purchase across time and place. While omnichannel is normal for consumers, retailers are still scrambling to meet the rising expectations of seamless shopping online, in store, and hybrids of “click and collect“. The dirty little secret about omnichannel that is not getting nearly enough attention – omnichannel can cost a lot more than simply running stores. Retailing has entered the age of desperately needing new metrics reflecting the “net cost to sell through and deliver”.
Why this is important: On the surface, omnichannel sounds like a panacea to bolster sales. But, some channels are far more costly than stores. CFOs face new challenges of balancing sales versus the increasing cost burden of omnichannel.
Omnichannel = Multiple ways to sell, but at what cost and profit margin?
To be honest, I would never think of CNBC as a primary source for insights on omnichannel and retailing. However, through the miracles of social media I ran across a fascinating article titled: “Think running retail stores is more expensive than selling online? Think again.”
Much of the prevailing wisdom seems to suggest that running retail stores is more expensive than selling online. Without analyzing all of the costs, conventional wisdom may be wrong! In her article, Courtney Reagan examines where retailers actually make the largest profit, and conversely, where they incur the greatest incremental costs. The synopsis of the AlixPartners case study for apparel retailers selling through multiple channels is summarized below.
Source: CNBC – Case Study by AlixPartners on omnichannel for Apparel Retail
I heartily encourage you to watch the video that breaks out all of the costs by the 4 scenarios illustrating how purchases made in store can be more profitable than some omnichannel scenarios.
Historical Retail Model – Selling Through Stores
Traditional retail has historically been based on a “bricks and mortar” model. Stores were the showcase, point of purchase and forward point for inventory. The economies of scale involve shipping truckloads to fixed points (stores) and customers managed their own delivery in terms of cash and carry from the stores.
Using the AlixPartner apparel scenario, the financial model can be summarized as:
Retail Price $100
Cost of Goods -$ 40
Store Ops Cost -$ 28
Net Profit $ 32 Margin 32%
But with Amazon, customers are increasingly purchasing online. So, in an omnichannel world retailers must offer online shopping in addition to stores.
Online – Selling through Websites
Online pure e-tailers are not new. Amazon has been in business for over two decades. Their success story of annual double digit growth is testament to omnichannel shoppers going online for both the convenience of shopping and delivery to their doorstep. However, e-tailers were built on an entirely different model of distribution centers with no stores. Much of the costs in pure e-tail revolve around warehousing, infrastructure and personal home delivery.
Can traditional bricks and mortar retailers compete online? Most accept that they have no choice but to go to where the majority of customer start their purchase journey. The critical question: how costly is it for traditional retailers to sell online, versus through stores?
Using the AlixPartner apparel scenario, the financial model can be summarized as:
Retail Price $100
Cost of Goods -$ 40
Distribution Cost
+ Home shipping -$ 30
Net Profit $ 30 Net Margin 30%
If the retailer can manage inventory turns, grow the long tail opportunities and manage price elasticity/discounting, it is not so bad selling online, even with direct shipping to homes.
Hybrid – The slippery slope of Click and Collect
The plot thickens! In this new omnichannel world of customer centricity, customers have rising expectations of being able to purchase online and collect in store. It is so popular with customers that it is projected to grow 300% in the next 5 years. In theory, click and collect should be beneficial in getting customers back to the retailer’s stores. But, at what costs?
Using the AlixPartner apparel scenario, the financial model can be summarized as:
Retail Price $100
Cost of Goods -$ 40
Store + Distrib
Operating Costs -$ 37
Net Profit $ 23 Net Margin 23%
While click and collect can be convenient for the customer, it creates incremental labor and operational costs to ensure that the specific item is in stock, plus having staff for the collection point in store. If the retailer can upsell something while the customer is at the store, then it might be possible to offset part of the loss in profit.
Emerging model – Ship from Store
It seems that the rising demand of omnichannel consumers never cease. The new expectation is being able to shop in store, try out the goods, and then have that store (or another store) ship it to the customer’s home or place of business. While this might keep some shoppers happy, it essentially creates double shipping of the merchandise. And, the last mile of delivering a single package to a home is the most expensive.
Not many retailers are yet offering ship from store to home, and for good reasons. Using the AlixPartner apparel scenario, this model is very costly and highly unprofitable:
Retail Price $100
Cost of Goods -$ 40
Store + Distrib
Operating Costs
+ Additional Shipping -$ 48
Net Profit $ 12 Net Margin 12%
Not only are items shipped form stores to homes shipped twice, there are incremental systems and people costs to pick, pack and ship individual items from stores and maintain accurate shelf inventory for click and collect sales. There are very few, if any bricks and mortar retailers that can survive the burdens and low margins of ship from store sales.
The other “dirty” secrets of omnichannel
The AlixPartner analyses provides an excellent comparative model for evaluating different costs and net margins realized through different omnichannel scenarios. There are many more variables impacting retailer investments, operating costs, and margins realized.
Inventory costs can be a huge component. By becoming omnichannel, a retailer typically adds more SKUs to capitalize online. And by definition, inventory levels must expand to support both store sales, and distribution center sales direct to customers. This correlates with increased investments in stock, warehouses, systems and logistics to manage increased inventory required.
Returns are an ugly, costly reality. Returns have always been a part of retail, but with store sales, the customer brings them back. With store returns there is potential recovery via good store staff. The AlixPartner research on the apparel example indicates that 30 to 40% of clothing purchased online gets returned. Returns result in incremental processing, non-saleable inventory and ultimately markdowns.
The CFO may have the hottest seat in the C Suite
Most retail experts think that a combination of stores and online provide traditional retailers with the best chance to optimize the shopping experience and retain customers. However, some iterations of omnichannel such as ship from store might prove to be just too expensive.
There is one sure thing in an omnichannel world … the CFO’s role and retail financials just got a whole lot more complex! The true measure of omnichannel survival will the total “costs to sell through” … all the way to the hands of the customer, where ever she wants delivery!
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Sources:
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CNBC: Think running retail stores is more expensive than selling online? Think again., Courtney Reagan; April 19, 2017
Hi Chris, very interesting analysis! Do you also have one that compares the additional cost to additional value? The way you argue (and I do not dispute the points that you bring forward) it sounds like retailers should really avoid omni-channel.
Thomas
@twieberneit
Thanks for your comment Thomas. I would argue that retailers would avoid omnichannel if they could, but they can’t. The customer has already decided that omnichannel is how they shop and purchase.
What the analyses shows is that some types of omnichannel configuration are much more costly than others. For example, “click and collect” is slightly more costly, but can be a profitable solution IF the retailer invests in how to leverage it for cross selling and developing relationships.
The bottom line is that retail is no longer about selling “things” at a price off the shelf to make a margin. The various forms of consumer convenience are costly. The retailer must be much more precise in analyzing the “total costs” to sell through all the way to the consumer’s hands.