Direct-to-consumer (DTC) emerged as the future of commerce in the past decade. It makes sense: cut out the middleman (retailers), save 50% of margin and connect directly with your customers.
What's not to like?
Well, it turns out retailers play an important, if evolving, role. Historically, retailers were the primary way to get inventory to your consumer, while today they should be thought of as a customer acquisition funnel.
Retailers – through their stores, their online presence, their brand and advertising – have a set of customers who come there to buy. DTC brands were built with the mindset that cheaper, targeted digital advertising and direct fulfillment would be much more cost efficient than going through a retailer. But many are now finding that, once you scale, those costs end up being higher than a retailer’s cut. If you’re a consumer goods brand, here are a few things you’ll want to consider and do as you think about how and where to sell your products.
If you want to be successful, you will eventually need to be in retail to scale
Virtually every successful DTC brand – Casper, Allbirds, Honest Co, Hims & Hers, Cotopaxi to name a few – hit a point at which they move away from pure DTC and start selling through retail once their economics flip.
You may think it’s much simpler to run an e-commerce or DTC brand (you only need to worry about one channel!), but a survey of recent headlines indicates otherwise. DTC brands that were on the top of the world a few years ago have taken a big hit recently – losing billions in market cap in 2022 and drastically underperforming the market in an already bad year – due to the inability to scale amid a confluence of challenges. And now views and strategies are starting to change.
That’s because the DTC model might work for a while, but you can only scale it so much.
Imagine that you are a brand selling sunglasses, and your target customer is 25-year-old men who live in California and Hawaii. You get a lot of traction early at a low cost because you can attract these customers using targeted ads with high conversion rates.
The problem is that you eventually run out of 25-year-old men who live in California and Hawaii to target. You can pay more for advertising to reach a broader group of customers, but the marginal effectiveness of those ads goes down, and your cost of acquiring customers (CAC) goes up. You might go from spending $5 to sell a $40 pair of sunglasses to paying $15 or $20. At that point, it may make more sense to reach new customers by placing your product at REI or Target.
The question for these brands becomes not whether to push into retail, but when. Now that the economy is slowing, and it is harder to raise money, businesses and investors are learning these lessons even faster.
Understand the tradeoffs between direct-to-consumer and retail
As a software company, we’re constantly considering how much we spend acquiring customers through conferences, digital advertising and public relations. We analyze which channels are more and less effective and adjust to ensure we make the right investments in each channel. Consumer product brands must do the same, thinking about all the costs of acquiring customers and tuning their channel mix accordingly.
DTC is a great way to build that direct connection with your most loyal customers. DTC darlings Dollar Shave Club and Warby Parker attracted a rabid base of loyal customers with e-commerce, but eventually needed retail to continue to grow. And Allbirds’ Joey Zwillinger recently acknowledged: “Being purely [direct-to-consumer] can hinder long-term potential because reach is limited.” The leader of the digitally-native footwear brand, which now also has a retail presence, added “We’ve held an omnichannel vision for the company ever since we started.”
Customer acquisition cost is becoming more expensive, often prohibitively so, for DTC brands on digital channels. As more brands compete for eyeballs via paid advertising on social platforms, ad costs go up. Remember, pricing algorithms in these marketplaces are influenced by demand. The fact that online advertising costs are soaring with CPMs and search CPCs rising 22% and 23% respectively, according to SKAI, is making the benefit of acquiring customers online look much less compelling. Digital ad spend is expected to continue on its growth trajectory for at least the next several years. MediaPost says that social media advertising CPMs are up a whopping 41% year-over-year. Google and YouTube’s CPMs were up 108%, according to Hunch.
It’s true that brands can be more targeted online, but only so much. With Apple’s iOS 14.5 update, consumers must now opt-in to share their advertising data with brands, and only about a quarter are choosing to do so. This change decimated Facebook’s ad business, and the DTC brands that rely on Facebook ads don’t get the same customer insights they used to get.
Analyze which channels are working and which are not. That may change from one year to the next. Continue working to rebalance your approach based on what the cost structure looks like.
Take your data-driven “e-commerce mindset” into the retail world
To understand how your channels are performing, you need visibility into what’s working and what's not. DTC brands are very comfortable using data from e-commerce and online advertising to inform their growth strategy. But once you start selling to customers through various channels, balancing and rebalancing are much harder because each of those channels must be managed differently, and it isn’t as easy to get the same insights and intelligence from sales in retail.
Ensure that you’re investing in technology to help you understand what’s selling, the margins and velocity of what’s selling, and where it is selling. That way, if you sell through Amazon, Costco and Walmart, you will know which of those retailers and geographies are performing the best for you –down to the store-SKU level.
Today most consumer brands’ visibility ends at their own distribution center, so having visibility into your sales and inventory in your retailers’ networks is a competitive advantage. You can choose to work more with the retailers that are your top performers, and you can deprioritize those where you are seeing less of a benefit. As a result, you may opt to send less product to retailers that are not moving your product as successfully. You can also use demand and supply intelligence to inform your promotional and pricing strategies and other efforts.
Retailers can benefit from your granular visibility, too. Use it to help retailers order the right amount of product at the right time. Helping your retailers in this way is more important than ever since retailers are increasingly squeezing brands to deliver more value. Using data to understand current supply and demand can help smaller brands look like domain experts, even if they don’t have huge teams managing retailer relationships like established brands do.
But technology only gets you so far. You also need to make sure that no matter how your product is sold, everybody involved with that product can see its sales performance. That doesn’t happen in many cases because most companies have completely different teams working for their DTC and wholesale businesses. Often, those two teams don’t know what’s happening with the other side. The two sides are completely siloed, which inherently makes it difficult for the brand to compare and rebalance its e-commerce and retail efforts.
Break down the barriers between the e-commerce and retail sides of your organization. Provide all team members with the visibility and data insights they need to sell more products, save time, and quickly sense and solve complex supply chain challenges for your brand and for your retail partners.
Understand that approaches differ, but customer acquisition cost is the name of the game
The optimal distribution approach will be different for every brand. But whatever mix of DTC and retail – and whichever collection of retailer partners – you decide to use at any given point in your lifecycle, the bottom line is that optimizing for customer acquisition cost is the name of the game.
If you don’t understand this, and you cling to one approach at all costs, you are probably wasting money and missing out on the opportunity to become more efficient.
But if you gain visibility into what levers you can use to accomplish your goals, you can land on the right mix to reach those goals, maximizing your profitability and driving higher growth.