Clicks & Bricks: Pure-play Internet Companies Get Physical

This is the year for "clicks and bricks," a phrase denoting a business model that combines online channels with traditional offline ones. For many, this model has ascended from the ashes of the now somewhat dated new economy to assume the lucrative luster that once made pure-play Internet ventures, such as the bankrupt Value America, shine so brightly. Simply put, old ideas have become new again, thanks to the Web, and companies putting their futures online will be judged by investors not so much on the basis of their clicks but on their bricks. Whether a company focuses on a business-to-business market or business-to-consumer, a flashy front-end Web site accomplishes little for building profitable business if it lacks the distribution and fulfillment infrastructures that enable the organization to meet the demands of its customers.

"In the last 12 to18 months, there's been a strong to push on marketing and acquisition [among e-tailers]," explains Dennis A. Veltre, founder of Clicks & Mortar Consulting, a Bayside, New York-based firm specializing in the retail market. "There was a lot of money burned through to draw customers. But now, in the last four months, these companies have been equally concerned over the reverse logistics. They might be able to get away with one channel on the marketing side, but the whole fulfillment and satisfaction side requires multiple channels."

According to Veltre, this shift of emphasis comes in response to customer demands--and, to some extent, from customer complaints. While 1999 saw online retail sales grow at a phenomenal rate of 120 percent, customer frustrations ran high as virtual retailers struggled to manage the volume of orders. As a result, to retain their valuable customer bases, online stores have had to step up their supply chain and fulfillment processes and, in many cases, increase their inventories--a circumstance that has, in turn, increased overhead for some.

The quest for convenience has also drawn many consumers to clicks and mortar retailers that allow them a choice of making their purchases on the Internet, through a catalogue or from a store. Many of these companies will allow purchases made online to be returned to local outlets. "Customers want to be able to return merchandise using the method that is most convenient to them," says Veltre, "whether it's by mail or at a store location. So you might be able to do a pure-play Internet firm on the marketing side; but when it comes to fulfillment and the reverse logistics, and the customer satisfaction, pure-play companies are going to need some partners out there."

The demographic shift of online shoppers from young, affluent, technically literate males to a [more mature, less educated and also increasingly female market] has fueled this development, requiring online retailers to accommodate a wider range of shopping styles in order to acquire and retain customers. Traditional retailers whose multi-channel infrastructure is already in place have an advantage in this respect, though they have lagged behind their pure-play Internet counterparts in fully leveraging the capabilities of the Web as a marketing tool. What is interesting, however, is that both types of companies are essentially pursuing the same strategy--to integrate online and offline channels and resources to create multi-channel "clicks and bricks" platforms that will enable them secure market share in the customer-rich business-to-consumer space. And while both groups approach this task with their own particular set of challenges, each has begun to look to the strengths of the other to find solutions.

The Downfall of the Dot-Com?
Although the press has devoted much paper and ink to the demise of dot-coms, the future of pure-play Internet retailers may not be as bleak as appearances might suggest, according to a May 2000 report by Boston Consulting Group (BCG). The study reveals that, contrary to widespread view, not all pure-play Internet companies are losing money. In fact 24 percent of the pure-play retailers BCG surveyed are showing a profit at the operating level--and half of the companies selling online for at least a year are breaking even.

The impression of impending doom arises from an unbalanced emphasis on the 60 or so larger publicly traded pure-play Internet companies (such as Amazon.com) as the bellwethers for the e-commerce world. Unfortunately, these companies tend to pursue high-growth operating strategies that involve enormous expenditures for customer acquisition in expectation of greater market share and long-term profitability, says the BCG report.

The customer acquisition costs for the large public pure-play companies have been the driving force behind their perceived failure. Where once these companies were touted for their efficiencies--their ability to serve a large number of customers with highly personalized service and inexpensive virtual inventories--they are now heavily criticized for their excessive overhead and often cumbersome operational processes. Consider, for example, that the average pure-play company spends $82 to acquire a new customer, whereas the average traditional retailer spends $12.

Yet BCG estimates that there are 1,000 online retailers generating annual sales in excess of $500,000 and more than 10,000 niche players, whose modest marketing strategies do not demand this disproportional outlay for customer acquisition. These companies can succeed because their business models do not depend on exponential growth to support operating overhead.

"When you talk about [the large] dot-com retailers, the hockey-stick projections never came through because the fundamental value proposition to the consumer just did not make sense," says Miki Tsusaka, vice president director of the consumer practice for BCG. "They didn't get enough consumers, or value delivery was awful. Both of those things combined just make some businesses unattractive. You have a new generation of people that is looking more like the average population that is shopping on the Internet; but there are only so many people who will do that-only so many who will fundamentally change their behavior. If you look at our research, people zone in on the number of bookmarks. We don't go to 25 sites on a daily basis, so if you're not on a short list of three, it's hard to get on that list."

Online commerce, says Tsusaka, can not necessarily support the type of exponential growth on which many large pure-play retailers have banked their investors' dollars. She draws a parallel here to advent of cable in the television market, when many believed 500 channels were imminent. Available advertising at the time could not support such a large number of stations, just as the available base of online shoppers can only support a limited number of sites.

strength in Tradition
Given the finite number of shoppers who will opt for the online channel, those pure-play Web retailers who will survive and prosper must either focus on a particular niche while carefully controlling operating costs, or aggressively continue to grow their customer bases through expansion into new channels. In many cases, these new channels will be traditional ones. And this presents the pure plays with a whole new set of challenges.

Whether they are online or not, the majority of traditional companies have long leveraged multiple channels in marketing to customers, selling and cross-selling products, and managing inventory and fulfillment. Their operational models offer several advantages that might improve on those of the pure play Internet companies, such as stronger brand presence and lower customer acquisition costs.

"One of the key challenges of the pure plays is that they've been so focused on revenue and customer acquisition that, operationally, they're immature when compared to the offline companies," notes John Sheldon, associate director, e-business architecture at Dialogos, a customer development consulting firm headquartered in Boston, Massachusetts. "When we look at those challenges, generically, we view the offline companies as bringing incredible strength in merchandising and operations, and understanding inventory management and the whole supply chain in incredible detail. And online companies then bringing a huge sense of the customer centricity that everybody's looking for."

Sheldon recognizes the strides many pure-play e-commerce companies, such as eBay and Amazon, have made in gathering information to customize and streamline the online shopping experience. Like many, his firm believes that this keen understanding of the customer dynamics on the Web, combined with the traditional retail channels and operational efficiencies of conventional retailers, represents the next wave of e-commerce.

Some expect pure-plays to increasingly acquire or form partnerships with companies the provide offline support for their online business, such as Amazon.com's deal with raid-response delivery service Kozmo, which enables Amazon customers to receive best-selling items within an hour. "For the pure plays, now is the inflection time," says Sheldon. "Do they try to be profitable? Or do they try to find someone for whom they can be profitable? Many of them are out there right now shopping the company to offline folks to take advantage of their strengths."

Sheldon believes that the latter solution will prove most successful--that is, the acquisition of pure-play companies by multi-channel retailers with a brick-and-clicks presence. "We're spending a lot of time preparing for a wave of offline companies scooping up cheap online companies to fill out their offering," he says. "We think the most successful strategy is for existing brick companies to basically build the Internet into everything they do, because the asset of your customers needs to be leveraged throughout the organization--stores driving traffic to the Web, the Web driving to stores. That's the only way to do it."

To date, few such acquisitions have been attempted. One example can be found in the acquisition last October of failed online mea-retailer Value America by Merisel, the technology products distributor. Merisel intends to absorb Value America's e-fulfillment business into its own operation.

But the motivation to merge strengths is there, especially as both Internet retail companies and bricks and mortar retail companies feel the pressure of a very competitive marketplace in a an economy with low consumer confidence. "In my opinion, there's nobody in the retail space who is going to be content with one channel," says Clicks & Mortar Consulting's Veltre. "Even Amazon is not really a pure play any longer. They're doing co-branding business with Toys R Us. When you're one channel, and the customer expectation is to have the convenience of choosing between a store, a Web site or a catalogue," he concludes, "you're going to lose that customer."