Growing pains: how ecommerce firms can fight inflation

Gen­er­a­tions of con­sumers have nev­er expe­ri­enced a world of high prices, with busi­ness mod­els, val­ue propo­si­tions and retail rela­tion­ships built on the assump­tion of low infla­tion. This is no longer the case, pos­ing seri­ous chal­lenges for ecom­merce busi­ness­es.  

The cost-of-liv­ing cri­sis, fuelled by rock­et­ing ener­gy prices and soar­ing infla­tion – fore­cast to reach dou­ble dig­its for many Euro­pean coun­tries over the com­ing months – com­bined with the ris­ing cost of raw mate­ri­als, pack­ag­ing, trans­port and labour, is putting insur­mount­able pres­sure on retail­ers and increas­ing­ly price-con­scious con­sumers.  

“The era of being reward­ed for hyper growth at any cost is quick­ly com­ing to an end,” US ven­ture cap­i­tal firm, Sequoia Cap­i­tal, warned in an advi­so­ry note to its port­fo­lio com­pa­nies in May.

Ecom­merce busi­ness­es were set up on high-growth, low-prof­it mod­els after more than a decade of cheap lend­ing. They’re strug­gling against ratch­et­ing bor­row­ing costs, as inter­est rates creep up and cap­i­tal becomes more expen­sive. 

“We’ve been in an era of cheap mon­ey since the glob­al finan­cial cri­sis,” says J. Walk­er Smith, knowl­edge lead at glob­al data and insights firm Kan­tar. This fea­tured “a cheap mon­ey cycle sup­port­ed by the kind of focus on run­ning a start-up with the pur­pose of val­u­a­tion, as opposed to cre­at­ing bot­tom line val­ue and prof­itabil­i­ty”, he says.  

Dur­ing this peri­od, investors, ven­ture cap­i­tal and pri­vate equi­ty firms could afford to under­write growth-ori­en­tat­ed busi­ness mod­els. “But the investor cli­mate has changed, and this is a wake-up call,” he warns.

What, then, can high-growth ecom­merce busi­ness­es do to rework their mod­els and weath­er the storm? 

Survival mode

Erin Brookes is head of retail at Alvarez & Marsal, a glob­al con­sul­tan­cy. For Brookes, “tak­ing a razor-sharp look through their entire oper­at­ing mod­el and every sin­gle cost with­in the busi­ness will be essen­tial for sur­vival”. 

This is about ask­ing and under­stand­ing what real­ly works at the core of the busi­ness “that we can back and that cus­tomers are real­ly engag­ing with”, she explains. “What’s got to be the focus for this busi­ness to be healthy? And are there parts of the busi­ness, in adja­cent cat­e­gories or dif­fer­ent geo­graph­ics, that aren’t giv­ing the return and that are dis­tract­ing from the core of the busi­ness?” 

There needs to be a shift in the kind of met­rics used to dri­ve these busi­ness­es, says Smith. The most imme­di­ate focus should be less about dri­ving nov­el­ty in the offer­ing to get atten­tion and users and less about build­ing an over­all user base. It should instead be more about dri­ving val­ue per cus­tomer. He advis­es retail­ers to focus on val­ue-ori­en­tat­ed strate­gies which look at the val­ue they can dri­ve per cus­tomer, then eval­u­at­ing suc­cess against a met­ric of prof­itable cus­tomers.

Alex Charl­ton is senior vice-pres­i­dent tech­nol­o­gy, media and tele­coms at inter­na­tion­al research and insights agency Verve, which works with brands such as H&M, Sam­sung and No7 (Boots). He says part of the shift is under­stand­ing what ‘val­ue’ means to dif­fer­ent cus­tomer groups, then using this infor­ma­tion to shape what you’re offer­ing and how you com­mu­ni­cate it.

“For retail­ers, gran­u­lar under­stand­ing of their cus­tomer base could mean the dif­fer­ence between sur­vival and liq­ui­da­tion over the com­ing months,” he explains. “Fac­tors such as mar­ket seg­men­ta­tion, tar­get­ing and posi­tion­ing will be key, such as allow­ing them to tar­get and tai­lor prod­ucts and mes­sag­ing to dif­fer­ent cus­tomer groups accord­ing­ly.”

Charl­ton says retail­ers should become an authen­tic ally to their cus­tomers, espe­cial­ly those who are strug­gling finan­cial­ly. The thought process should shift from focus­ing on how they can sell more to ask­ing how they can help, he says. 

“Cus­tomers will remem­ber, and it will be an oppor­tu­ni­ty to cre­ate last­ing brand loy­al­ty,” he adds.

Tony Preedy, man­ag­ing direc­tor of glob­al mar­ket­place Fru­u­go, says it’s cru­cial that online retail­ers mea­sure, under­stand and man­age unit eco­nom­ics to over­come ris­ing infla­tion­ary pres­sures. 

“Ulti­mate­ly, busi­ness­es are going to have to make trade-offs between prof­it now and growth lat­er, so it’s impor­tant for them to analyse their data close­ly,” he says. “Inevitably, ris­ing costs are like­ly to cause retail­ers to put up their prices in the short to medi­um term. But online retail­ers can be high­ly agile in how they price to opti­mise how they sell through their inven­to­ry, and they can also be cute about how they tar­get dis­counts to prompt a pur­chase.”

How­ev­er, he warns about a strat­e­gy of indis­crim­i­nate dis­count­ing to dri­ve vol­ume. “Very few busi­ness­es prop­er­ly cal­cu­late the impact on gross mar­gin of reduced prices and the mas­sive growth in units required to keep income sta­ble, nev­er mind grow­ing,” he says.

Distribution headaches

With a myr­i­ad of data at their fin­ger­tips and agili­ty in their pric­ing and mar­ket­ing, ecom­merce busi­ness­es have some strong advan­tages over their bricks and mor­tar coun­ter­parts. 

How­ev­er, the over­ar­ch­ing issue for online retail­ers, com­pared to phys­i­cal retail, is the cost of dis­tri­b­u­tion and the impact this has on mar­gins, “a weak­ness in the busi­ness mod­el which is only exac­er­bat­ed in the cur­rent trad­ing envi­ron­ment,” says James Han­k­ins, founder of strat­e­gy con­sul­tan­cy Viz­er Con­sult­ing and co-chair of the IPA Share of Search Think­Tank.

With bricks and mor­tar, the cost of ful­fil­ment is held by the con­sumer. But with ecom­merce this rela­tion­ship is invert­ed, with the retail­er hav­ing to sink the cost. “This is a huge cost base that ecom­merce play­ers have to shoul­der, and it’s very dif­fi­cult to opti­mise,” says Han­k­ins. In today’s mar­ket of soar­ing costs, it’s becom­ing unten­able.

To mit­i­gate these ful­fil­ment chal­lenges, retail­ers such as Zara and Boohoo have start­ed charg­ing cus­tomers for deliv­ery and returns. Returns are a cost­ly ele­ment of the dis­tri­b­u­tion mod­el for online fash­ion busi­ness­es, with Asos say­ing in June that a “sig­nif­i­cant increase” in returns con­tributed to its lat­est prof­it warn­ing.

Some retail­ers are sup­ple­ment­ing their core ecom­merce chan­nel with oth­er rev­enue streams.  In March, fash­ion retail­er H&M start­ed trail­ing the sale of third-par­ty brands on its web­site in Swe­den and Ger­many, open­ing its dis­tri­b­u­tion net­work to oth­er brands and effec­tive­ly rent­ing it out. 

Mean­while, Ger­man ecom­merce giant Zalan­do has bought a major­i­ty stake in retail media busi­ness High­sno­bi­ety, “which offers the oppor­tu­ni­ty for high mar­gins and rel­a­tive­ly low effort” says Han­k­ins, allow­ing it to sell adver­tis­ing and help­ing cross-sub­sidise the weak­ness in the ecom­merce busi­ness mod­el. 

Online fur­ni­ture retail­er Made.com, which has made lit­tle prof­it com­par­a­tive to rev­enue in its 12 years of trad­ing, bought online mar­ket­place, Trou­va, in May. “If con­sumers are buy­ing more than Made prod­ucts by shop­ping across the mar­ket­place, you are open­ing up the poten­tial demand,” says Han­k­ins. “This means your mar­gin­al costs should hope­ful­ly reduce because you’re get­ting more brands to use your dis­tri­b­u­tion net­work.”

Pres­sure is grow­ing as inter­est rates rise and banks start to call in loans. High-growth retail­ers must think long-term and strate­gi­cal­ly about build­ing oper­a­tions that sup­port their core busi­ness, while bolt­ing on mul­ti-rev­enue gen­er­at­ing arms that have been test­ed, scaled and man­aged appro­pri­ate­ly to cross-sub­sidise the cost chal­lenges in their dis­tri­b­u­tion mod­el and the wider eco­nom­ic cli­mate.