The omnichannel age is here — and it's expensive
For most of the industry's life, retail had a plentiful supply of labor for critical tasks that was absolutely free. The source of that unpaid labor? Customers.
Shoppers drove the last mile to and from their house to the nearest distribution hub (in this case a store). They paced the aisles and picked the merchandise from the shelf. They walked products from shelf to point of sale and then to their car before driving off, perhaps to another store.
It was a sweet deal for the retailer, which also drew a major marketing benefit from the perpetual billboard of a storefront. Among all the other things that COVID-19 has upended, that operating model too now might have changed to a large degree, forever.
"Everything that should be happening over a five-, 10-year period is happening now," said Pete Madden, a director with AlixPartners. "It's a rethink, it's expensive, and it's on top of expense that has already happened."
Digital shopping reached new heights last year, pulling forward years of growth and packing it into a matter of months. Under that umbrella of online shopping, consumers flocked to curbside and delivery fulfillment options as they sought to avoid stores. BOPIS, which allows customers to reduce their time in stores, also went through massive growth across the industry during the pandemic. In all of those options, consumers shifted labor they used to do back to the retailer.
What all of these changes mean for retailers depends on numerous factors. What's profitable for one retailer might be a drain on another. All of the primary fulfillment channels have their own cost profiles, upfront investments and bugaboos that add expense.
The omnichannel 'imperative'
Those imperatives grew out of a survey from RILA and McKinsey & Company that found two-thirds of retail executives citing the growth of omnichannel and digital shopping as the most significant trend affecting the industry, and its greatest challenge.
"Online sales are remarkably less profitable than a store sale," Sajal Kohli, senior partner with McKinsey and one of the report's authors, said in an interview. "You have to invest in capability to have better margin structure."
In the U.S., the proportion of online sales supported by physical stores rose to 37% during the 2020 holiday season, up from 32% in 2019, according to GlobalData. Pickup of online orders from stores grew by 103% last year, while retailers shipping orders from stores grew by 80%.
Curbside, which retailers were starting to experiment with in prior years, became a major thing. For some chains forced to close temporarily, curbside was put in place basically overnight and became a crucial revenue lifeline that continued growing well after stores reopened. Many retailers saw their curbside sales grow by triple digits over the year.
At Dick's Sporting Goods, for example, curbside and BOPIS sales grew by 250% year over year, driving a 57% increase in e-commerce for the year. Dick's CEO Lauren Hobart said that during the fourth quarter, the company's stores accounted for 90% of all sales and fulfilled 70% of online sales via the retailer's curbside, pick-up and ship-from-store channels, according to a Seeking Alpha transcript.
Launched in March 2020, Hobart also noted that curbside pickup helped improve the profitability of Dick's online channel overall and that the company expected it to be a big part of its offer going forward.
Breaking down the costs per channel
Whether curbside and BOPIS boost profits on digital sales depends on a lot of things. In many cases, those channels might not lift profits at all.
First and foremost are some of the labor costs involved. "One component [to cost] that matters most is time," said Vishwa Chandra, a partner with McKinsey.
In-store shopping, according to that premise, incurs the least amount of time for the retailer because the customer is going and grabbing products off the shelf and driving them home. With curbside, on the other hand, retailers do the picking, staging and walk it out to a car, Chandra noted.
According to AlixPartners estimates, the profit margin on a $100 sweater, as an example, is significantly less for curbside and BOPIS than either an in-store sale or an online sale that ships from a distribution center. That factors in costs, including running a distribution center, shipping, store costs and channel-specific overhead.
Profit margin on a $100 sweater
|Fulfillment channel||Operating margin|
|Ship from Distribution Center||$36|
|Ship from store||$17|
In a vacuum, the most costly, least profitable fulfillment channel is ship from store, which in Madden's formulation combines the worst of all worlds. It also illustrates the costs of both ship-to-home and omnichannel fulfillment methods.
"You're shipping the product from the distribution center to the store. I have to process it in the backroom and put it on the shelf," Madden said. "Then the online order comes in. I'm adding incremental payroll at this point. I have to do the picking, I have to take it to an area and I have to do the packing. Then I have to incur the incremental costs of shipping."
As it plays out in the real world, labor costs for picking online orders depend on the retailer and maybe even the day. "To some degree, depending on how many orders that you're picking in the store, that's free labor," said Christa Hart, senior managing director with FTI Consulting. "It's time that people had, that they weren't busy servicing customers, or servicing the store — putting out stock or cleaning up. In that instance, the picking and the shipping from a labor perspective is free."
Hart went on to note that as retailers grow in omnichannel sales and devote more resources to in-store picking and fulfillment, a pivot that giants such as Walmart and Target are making, then the labor ceases to be free. That is, the fulfillment tasks are not something to do during downtime and slow traffic periods, but rather they become the primary tasks of many staff members.
The changes to retail workers' jobs have not come without tension. As major retailers have redefined what their stores are, employees have reported to media that extra tasks have been dumped on them without additional resources or time to help manage them.
Others are redefining roles at the same time as they pare down staffing. Best Buy, for example, is reducing full-time employees in stores in favor of part timers. At the same time, the electronics retailer, whose digital sales have skyrocketed since the pandemic, is expanding the range of tasks that employees are responsible for.
A single Best Buy worker might fulfill curbside orders, take customer support calls from a national hotline, be a virtual expert through the retailer's app, or take on a supply chain role that can be done remotely, Best Buy's CEO told analysts.
'Returns are absolutely a killer'
In the early days of e-commerce, it seemed to many observers a straightforward proposition that it could be a more profitable way to sell products.
You cut out hundreds of store leases, thousands of store employees and heaps of other costs, and instead ship products all over the country from a single distribution center or several.
"Think of the DTC retailer that never had a physical store network to begin with, and think about the cost that they've avoided by not having it and the low barriers to entry of just having a single point of distribution," Madden said. "As long as you have that single path … with never a return, it's a beautiful business model."
Plenty of factors complicate that equation, including the steep expenses of digital marketing, last-mile costs and returns. The product itself matters, too. "There's a very wide range in terms of what it costs to pick an e-commerce order," said Matt Garfield, managing director with FTI.
Varying rates of returns by category also complicate e-commerce costs. Garfield noted that apparel and footwear as having the higher distribution costs "just because returns tend to be so high." He pointed to one large footwear retailer whose online returns amounted to two or three pairs of shoes per every pair kept by customers.
Returns, as wary retailers know well by now, confound the entire cost picture through all channels. "Returns are absolutely a killer," Madden said. "It's a give-back on the sale, it's a give-back on the margin, you're just absorbing the cost."
On that hypothetical $100 sweater, the hit on margin is $8 for a return via shipping back to a distribution center, versus $2 for returning to a store, according to AlixPartners estimates.
In other words, the channel matters all the more when returns enter the picture.
"That's where the omnichannel idea really has favored the people with stores, because stores can be a good place to take returns," Hart said. "It's very economical to take a return in the store. They are able to reprice it, chances are they have a sale section, so ... they can clear it out in a in a reasonable way. And they don't have to repackage."
Spending money to save money
Along with variable costs for labor, there is also intense outlay for omnichannel capabilities — technology, processes, automation, all that eat into profits but can boost them over the long run.
"Over the past year, that's only accelerated," Garfield said of investment expenses. "Massive growth in the e-commerce sector wasn't in anybody's five-year plan."
Many of the upfront technological investments go toward making omnichannel operations more efficient in the long-run.
"Once those capabilities are enabled, it really has positive impacts on reducing costs, improving your inventory productivity," Garfield said. "Inventory is not productive in a warehouse. But in the store, it's very productive. I can sell it across multiple channels."
Order and inventory management are among the most important capabilities.
"Anytime you go online and do a pickup from store, it always says wait for the email to confirm we have your product — a lot of customers don't, and they just start driving to the stores," Garfield said. "And if there's any sort of an inventory mismatch, that leads to guest dissatisfaction."
For old-fashioned sales at the cash register, the point-of-sale and inventory systems are "very hard and very mature, so it's cheap," Madden said. "When you start doing buy online, pick up in store, all of a sudden now I have to have get my associates handheld devices. And now they have to have scanning capability. And that scanning capability needs to have almost real-time inventory … that's where the costs come in."
Multitasking can save retailers money in multiple channels. Picking multiple baskets at the same time can save time, McKinsey's Chandra noted.
In shipping out of a distribution center, Garfield said that picking multiple items at once can improve profitability by reducing "idle walking."
In all channels, automation can also save money by reducing returns, reducing pick times and labor hours. And of course, anything a retailer can do to reduce returns helps the profit on a sale.
The calculus on store channels go beyond simple margin breakdown and cost of goods sold. Having multiple sales and fulfillment channels can drive customers to a retailer to begin with.
Target, whose curbside, BOPIS and same-day delivery sales skyrocketed, aims to be "America's easiest place to shop" based on its omnichannel capabilities. After making massive outlays in recent years, Target is planning another $4 billion investment in its business that includes beefing up its online fulfillment capabilities even more.
As pandemic concerns ease, getting customers inside stores to shop not only can reduce shipping and labor costs, it can trigger other sales. Perhaps more importantly in the long run, having a store can trigger sales online.
Madden and FTI's Hart both brought up the potential hidden costs of closing stores while pivoting to digital.
"People who think they can close stores and exit geographies … are underestimating the halo effect of stores," Hart said.
Article top image credit: Adeline Kon/Retail Dive