Dot.com grows up

MMR, April 25, 2005 by Scot Meyer

NEW YORK -- Internet retailing has survived the dot.com boom and bust to become a more mature business with an emphasis on profitability and viability.

It is also a business that continues to grow, according to McKinsey & Co. director Christiana Shi, who delivered a presentation at the recent Multichannel Executive Symposium. The inaugural event was cohosted by McKinsey and Shop.org.

According to Shi's presentation, online retailing generated sales of $14.5 billion during the 2004 holiday season--a 29% increase over 2003. Overall, e-tailing is now a $80 billion phenomenon likely to reach sales of more than $160 billion in 2009.

"In recent years retailers have placed new emphasis on profitability, as the industry's youthful exuberance of the late 1990s, when all that seemed to matter were 'eyeballs,' has given way to the more mature business judgements of 2005," Shi said.

Whereas web retailers in 1999 were interested in boosting traffic to their sites, producing revenues at any cost and investing "whatever it takes," in 2005 the strategic imperative is to make money by creating profitable transactions.

Challenges remain, however, particularly for what Shi calls multiple-channel retailers.

McKinsey's analysis of the 2002 to 2003 growth of the top 100 direct retailers found that single-channel retailers--those that operate only online--grew by 14% but still remained relatively small on an absolute basis. Average sales growth was $226 million, and most of that involved a few big players, including Amazon.com.

At the other end of the spectrum are the multichannel retailers, including mass retail giants Wal-Mart Stores Inc. and Target Corp. Although these companies have a strong online presence, they derived most of their $1.3 billion average sales growth from their brick-and-mortar stores.

"Success for these retailers comes from three cross-channel activities: integrating to deliver consistent consumer and brand experience, leveraging back-end capabilities to manage cost and efficiency, and ensuring that consumer insights are shared and leveraged by all parts of the organization," Shi contended.

Caught in the middle are the multiple channel retailers, which also typically have both online and off-line operations. The problem is a lack of strategic integration--either management of the different channels is run completely independently, resulting in duplication of efforts and leaving synergies uncaptured, or a one-size-fits-all approach is adopted, ignoring the unique strengths of each channel.

"If the overall strategy just moves sales from stores to direct," Shi pointed out, "significant value can be destroyed as fulfillment costs, free shipping promotions and deep discounts result in lower-profit orders and lower margins."

McKinsey's analysis suggests that retailers can choose one of four viable approaches in their online operations:

* Efficiency machines are sites with low gross margins and low price points, offering merchandise in a wide variety of categories. The aim is to use efficiency and scale to keep prices low, boosting volume.

* Niche leaders focus on a single, specialized merchandise offering. The key is to "become famous for something," according to Shi.

* Triple plays use multiple channels to improve their share of wallet.

* Traffic drivers use the web less as a source of sales and more as a way to supplement and support their stores.