Why D2C Brands Go Into Wholesale & Brick & Mortar

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By Tricia McKinnon

When the direct to consumer selling model became more popular about a decade ago it was heralded as the next big thing in retail. Since then it has brought us many brands we know and love today like Warby Parker, Dollar Shave Club and Casper. But along the way the very same online retailers which sought to disrupt traditional retail have realized, maybe traditional isn’t so bad.   

Selling online can be a fast way to get started but over time as direct to consumer brands get larger they find it increasingly difficult to attract customers in a cost effective manner. Then there are the economics of not having a place where customers can get their merchandise themselves. Instead the cost of picking, packing and delivering merchandise is shifted to the retailer at a cost the retailer often does not fully recoup, especially if it’s trying to stay competitive with others.

These are just some of the reasons why you can now walk into the stores of many of your favourite digitally native retailers. But if you want to learn more about why so many online retailers have stores or have gone into wholesale then consider these five factors.

1. High customer acquisition costs. In the beginning beverage maker Dirty Lemon like many direct to consumer brands used Facebook and Instagram to market its products. It even designed product packaging specifically to fit on a 2 x 3-inch screen and focused on a minimal (a.k.a. “bland”) aesthetic. But over time the brand found digital marketing to be cost prohibitive. 

“Having advertised with Facebook and Instagram since very early on, we saw the cost to acquire customers rise significantly, and it's at a place now where it's just unsustainable. I think that's happening because brands that have historically relied on traditional advertising methods are now shifting their ad dollars to online and to Facebook and Instagram. When that marketplace gets flooded with demand, it raises the price to connect with and acquire customers. As the prices rise and more advertisers enter the marketplace, there was a point for us that it no longer made sense to spend millions and millions of dollars on Facebook and Instagram” said Zak Normandin, founder and CEO of Iris Nova, Dirty Lemon’s parent company. 

“So as the pendulum swings from traditional brands going to digital and away from retail, we're doing the opposite, shifting to retail and away from digital. As a young brand, there's only so many levers we can pull to reach the broader mass market. Shifting to retail is a great way to connect with a local audience but also have an impact on the national scale,” says Normandin. “When you look at what’s happened with Casper and a lot of direct-to-consumer companies that are getting hammered in the public market, it is because they’ve focused so much on spending whatever it takes to acquire customers and drive-top line growth. They’re losing a lot of money.”

While there is a cost to opening stores there is no replacement for having a permanent billboard in the form of a store that people walk past everyday and are reminded of what you have to offer.

It is also easier to discover new products in a physical environment when a customer is already on a shopping trip and happens to notice an interesting new product like Dirty Lemon while they are standing in the beverage aisle at Walmart. Seeing the writing on the wall, last year Dirty Lemon closed a deal that places its beverages in over 500 Walmart stores in the Unites States.

2. The direct to consumer model has flaws. The irony of online shopping is that the most economical model for a retailer is when consumers are not purely online shopping at all. As Bloomberg reported: “if retailers can continue to convert a meaningful portion of that demand into pickup versus delivery, it will provide an offset to the inherently higher supply-chain operating costs of a digital model.” Some of the costs that make a digital model more expensive in addition to marketing costs are returns and logistics cost. Last mile delivery costs for example, often cause retailers to lose money on each order of a certain size especially if the customer is not subsidizing the cost.

Take mattress retailer Casper. In 2018 Casper spent $80.7 million on “refunds, returns, and discounts”. Since Casper launched in 2014 it has yet to make a profit. High marketing costs are one reason for Casper’s struggles but returns have also eaten into the brand’s profitability. It is estimated that the return rate for returns of online orders is three times that of orders made in store. For categories like clothing and shoes the return rate is between 30% to 40%. It is also believed that returns cost retailers 10% of revenue. That’s a lot of money for an industry often characterized by thin margins. 

While Casper was valued at $1 billion as a private company its valuation quickly declined once investors read its IPO filing and saw that Casper lost $67 million on revenues of $312 million in the first nine months of 2019. Marketing expenses alone during that timeframe were $114 million (36.5% of revenues). Now that Casper is a publicly traded company it has a market cap of $390 million, significantly lower than its private valuation. 

Casper’s disappointing IPO has forced the retailer to face the music and reorient its business model so that there is a path to profitability. One of the initiatives Casper is using to do this involves increasing its retail partnerships. To that end last August it established retail partnerships with Walmart, Sam's Club, and Ashley Furniture and it started selling its merchandise at Nordstrom in November. Casper is also available at Walmart, Target and Macy’s. "Having multiple touchpoints for consumers, so they can shop and learn and consume our product however they would like — offline, online, or a combination of both — is important," said Philip Krim, Casper’s co-founder and CEO. Casper also has 63 retail stores and plans to open 200 more in North America.

Another fast growing direct to consumer brand which has struggled with profitability is Dollar Shave Club. By 2015 only four years after Dollar Shave Club launched it had four million subscribers and 48.6% of the online razor market. A year after that Unilever bought Dollar Shave Club for $1 billion. But by 2019 the brand still wasn’t making money despite its fast growth. The Wall Street Journal has reported that Unilever eventually: “concluded that selling staples as online subscriptions doesn’t make financial sense.”

Similarly P&G which also has direct to consumer brands in its portfolio including Native Deodorant and Walker & Co. has struggled to make them profitable. "There are many, many launches that grow fast, and people call them successes because they grow fast," said David Taylor, P&G’s CEO speaking about these brands, but "we're in the world of having to create value, not just grow. A business model that makes money is a higher challenge."

3. Discoverability online can be elusive. It’s hard to be noticed when you don’t have a physical store. Walk in traffic matters. It’s the way many of us discover new brands. Think about how many times you have walked home from brunch or dinner on a Saturday afternoon and noticed a cute little bookstore and decided to give it a try. Before you know it you are a repeat customer. 

There are also all of those impulse purchases you make while you are shopping for groceries on a Saturday afternoon. How many times have you gone to a supermarket with the intension to buy groceries for the next week but then left with a set of new candles and pillows for your living room? Walmart started out as a discount store that did not sell groceries at first. But over time it got into the grocery business realizing it drives foot traffic and if Walmart could just get you in the door you would buy more than what’s on your shopping list. Walmart is now the largest retailer in the world.

Yes, brands are discovered online, it’s just easier to discover something new in person especially if you are a new brand and you are trying to convert your traffic into sales. Not too long after launching online in 2017 menswear brand Bonobos started to think about expanding into new categories. One of those categories was men’s shirts. While men’s shirts sounded like a logical next step Bonobos found it wasn’t having the success it expected in selling that product online. Bonobos realized it might be easier to move the product by having a physical presence. Bonobos then opened a small fitting room within the lobby of its headquarters where customers could try on shirts. Sales picked up after customers were able to touch, feel and try on merchandise. 

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4. It’s hard to scale past a certain level. While a brand can scale on its own to a certain level it often needs the help of someone else’s platform to get to its next level of growth. Coke would not be as popular as it is today if you couldn’t pick up a can of Coke from your corner store. The vast majority of retail sales in the United States still come from stores with 86% of retail sales in the fourth quarter of 2020 in the United States coming from brick and mortar.

With that in mind what should a direct to consumer brand do? This is a question digitally native oral care brand Quip asked itself. It launched online in 2015 selling now popular electric toothbrushes then it chose to go into wholesale with a deal with Target in 2018. The deal allowed Quip to place its products on the shelves of 1,800 Target stores across the United States. “Core to Quip’s mission is accessibility. The product is positioned to help improve behaviors and get people more interested in their oral health, and we want to make that as accessible as possible. For some people, they’re already in Target doing a certain amount of product discovery and making purchases, so giving the consumer that option is really beneficial,” says  Shane Pittson, Quip’s vice president of growth.

Speaking about Dirty Lemon’s wholesale deal with Walmart Normandin said selling its product at Walmart is “the only way forward.” “If you look at the majority of beverage sales, they are either coming from Walmart, Target or Kroger, so we see this as an opportunity to acquire customers profitably.” 

Casper is also finding its retail partnerships to be a key part of its growth trajectory with that line of business growing at a faster rate than its direct to consumer business. In the fourth quarter of 2020 Casper’s direct to consumer channel grew at a rate of 19.1% while its retail partnership channel grew at 42.8%. "Because we picked partners like Target, Costco, and Amazon that stayed open throughout the peak COVID time, we were able to grow business meaningfully in this period," said Krim. At the end of 2020 Casper had 20 retail partners and 67 Casper Sleep Shops.

Similar to other digitally native brands Native Deodorant can now be found at a store near you with approximately 40% of Native Deodorant’s sales coming from stores. "In order to get all those consumers, you have to be where a majority of people shop," said Moiz Ali, founder of Native Deodorant. 

After a while many successful direct consumer brands realize they have to open stores or go into wholesale to scale. Almost all of the most successful direct to consumer brands have gone offline including the biggest digitally native brand of all time, Amazon. Yes Amazon has stores, and lots of them. Amazon has over 600 stores, more than either lululemon or Trader Joe’s. In the middle of the COVID-19 pandemic Amazon even opened a new supermarket chain called Amazon Fresh. Who opens stores in a pandemic if they aren’t a good idea?

5. Certain categories offer a better shopping experience offline. While online shopping is convenient it isn’t always the most effective shopping channel. Dave Gilboa, co-founder and co-CEO of Warby Parker has said, that when they first launched in 2010 having an online business was an effective way to reduce capital costs. The four co-founders were still in college when they started the business. They did not have any external funding therefore opening stores was not an option. But by 2013 and over $100 million in funding at the time, Warby Parker opened its first store in New York.   

Since the vast majority of people buy glasses in-person trying to convert those customers to online only shoppers proved too difficult even for a breakout star like Warby Parker. Fast forward to 2021 and Warby Parker is valued at $3 billion and has 120 stores. 

While Casper is well known for its Instagram ready bed in a cute box most people want to try out a bed before making a purchase they are going to be stuck with for a while. Even if you can return a mattress that you ordered online it’s just easier to go into Nordstrom, lay on a nice bed and then decide if you want it. “The majority of beds in the United States are still bought in a location somewhere you can lay down in the bed,” says Emilie Arel, Casper’s President and Chief Commercial Officer. Not only is this a better shopping experience it also reduces the likelihood of returns. 

The COVID-19 pandemic also revealed many things about consumer preferences. One of those things is the importance of omni-channel retail to a retailer’s success. “Our second-quarter [2020] comparable sales growth of 24.3% is the strongest we have ever reported, which is a true testament to the resilience of our team and the durability of our business model. Our stores were the key to this unprecedented growth, with in-store comp sales growing 10.9% and stores enabling more than three-quarters of Target’s digital sales, which rose nearly 200%,” said Brian Cornell, Target’s CEO. 

From Best Buy to Walmart to Target these retailers had outstanding performance in the pandemic in part due to seamless omni-channel offerings. Consumers like picking up their online orders either in a store or curbside. Having only an online channel misses an opportunity to deliver merchandise to consumers in the way they want to receive it.

Tricia McKinnonStrategy & Growth, eCommerceComment