The huge obstacle digital stores have to overcome

By Eli Schragenheim and Henry Camp

E-Commerce offers real added value to many different market segments. The value of the new technology has been analyzed in a previous post: “Applying the six questions of technology to digital stores.” This added value changes the whole business of retail.  But, it is not just a disruptive technology; there is a risk of being self-destructive, because digital stores face a huge threat to their own survival.

The main question every single digital stores faces is:

What added value can we offer relative to other digital stores?

The question targets a huge and sinister obstacle, which becomes more and more dangerous with time. From the point of view of potential customers, what is the difference between buying from one digital store and another? As long as delivery logistics are in place, location has no relevance, unlike traditional brick and mortar stores.

Dr. Goldratt coined the term “decisive competitive edge” (DCE), as being superior to any significant competitor in a given market segment. He also defined the conditions for gaining such a DCE.

  • Answering a need that no other competitor is able or willing to.
  • Competitors refuse or are slow to follow, usually because delivering equal value contradicts a common business paradigm, such as operating efficiently or containing costs.
  • In other parameters important to the segment, the company is on par with the competition.

The direct consequence of lacking a strong DCE is that customers are left with no clear means to differentiate, except based on price. The reality of the internet has encouraged services that compare prices between different digital stores.  Thus, it is quick and easy for customers identify the cheapest digital store for any desired product.

Many on-line shoppers make spontaneous purchases once they see a product they fancy and its price. This is where the vast majority digital stores compete, but without truly gaining any advantage over each other.  They commonly offer a broad variety of products at very low prices and send emails in volume to past customers with the hope of capturing or keeping mindshare.  On top of that, artificial intelligence is deployed to speculate what any potential customer desires.  Could this be a DCE?  Yes, if you are far better than your rivals.  The problem is, since competition is so hot, any gaps close very fast.

When the only reliable competitive differentiator is price, then the Throughput percentage (Margin/Sales) drops, forcing the digital store to look for some combination of two alternatives:

One approach is cutting expenses, seeking profitability at current volumes. Unfortunately, the main expenses of digital stores support marketing as well as being quick and reliable in delivery.

If cutting expenses seems like an obviously bad idea, you will understand why most digital stores choose the opposite approach, spending more and slashing prices in the hope of driving sales growth. Driving OE up while cutting Throughput % typically results in current losses but maybe, just maybe, with enough more sales … someday the digital store will gain enough economies of scale to become profitable.  The required relentless increases in the quantities of items sold, becomes more and more difficult to accomplish, because the cost of entry for new competitors flush with investors’ cash is very low.  Should one digital store fail, then the remainder feel like there is no alternative to spending lavishly on marketing to attract the customers who used to buy from their now defunct competitor.  Furthermore, the survivors try to draw in ever more new clients by dropping prices some more.  This is the vicious cycle of the digital marketplace.

How can a digital store gain a Decisive Competitive Edge that is not price?

First let’s state the obvious: currently the only true DCE for digital-stores is being very big!  So, Amazon and AliBaba have already gained that position but how can others become that big?  There are three separate types of added value that big successful stores deliver to their customers:

  1. Confidence that nothing will go wrong
  2. A broad variety of products
  3. The ability to succeed while delivering at low prices

Is there anything that a smaller digital store can do to gain a customer base that loyally buys from them? This is the most critical question for any digital store facing the grim reality of global and open competition on price.

There are several directions where breaking the vicious cycle is possible:

Building a strong loyalty program for customers

It has been proven by the airlines that loyalty programs work! It demonstrates not only the impact of getting things for free, but also that giving special VIP treatment to people makes an impact.  Translating the concept of a loyalty program to digital stores is far from being trivial but it also brings a new opportunity.  The common paradigm is stuck with investing money to give away value to customers who bought something without being certain of future purchases from those customers.  This paradigm makes such a loyalty program tough to imitate, especially in the current environment of lack of profits among digital stores.

The real challenge of pursuing this direction is not only the free gifts and price reductions but providing special VIP treatment to loyal customers. It could be a certain top product mix sold only to the members of the club, giving high priority in the shipping, free delivery – like Amazon Prime, free returns – like Zappos or any other generic idea for a DCE.

Still, loyalty programs have been copied. What airline doesn’t have one?  The “D” in DCE stands for decisive.  This means others won’t copy the edge, at least for long enough for the developer to gain enough of an advantage, like accumulated profits, to make another leap ahead of the competition that they can’t or won’t afford – again, at least for many years.  For a digital store’s loyalty program to remain exclusive, it must either address a problem caused by digital stores by their very design or an issue that is unresolved by all stores.

One comment about a neglected market segment: the high socioeconomic sector is not actively sought by digital stores who speak the language of low price. While relatively rich people still hate to pay more just because they can afford to, those people are willing to pay more for higher value.  A loyalty program that treats the members specially is something they look for.  If digital stores are able to find its way into this sector – they’ll become antifragile, and that is worth a lot.

Choosing the right product mix

Regular stores carry and display physical items. Virtual stores can only display a picture of an item.  This allows the digital stores to display and sell very wide variety of similar items, without the need to choose the preferred product mix.  On the other hand, even if offering more is virtually free, studies have confirmed what shoppers already feel – having to sort through the haystack to find the desired needle makes what could be easy and fun a boring chore.

What does it mean that a store shows a picture of a certain product? Actually, it only means that the product is for sale.  There is no implied formal recommendation by the store.  “Some people buy it.  So, we have it.”

What if the store took a stand on what it considers good and worthy products? Consumers are rightfully suspicious that stores recommend those items that bring the store the most margin.  If that expectation for self-serving behavior can be overcome, then truly assisting individual buyers choose well for themselves specifically is a significant added value.  Big retail already relinquished all the responsibility of choice to the customer.  The need for help making the right choice is still real for many buyers of many products.  So, being able to identify the right product mix and then directing the consumer to what truly fits his or her needs while clearly projecting pure intentions is a Decisive Competitive Edge.

Assisting customers can be partially by virtual means, displaying relevant information that helps them realize which needs the product meets or by means of real-time texting or even speaking with a shopper live. Such services add complexity and costs to operations, which is seen as problematic, but could also establish a unique value that makes the specific digital store unique and it attracts high level customers.

Making the delivery a special experience

It is true that customers of digital stores have a somewhat elastic tolerance to the time of the delivery. If they didn’t, they would be forced to buy from a local store that holds stock of those products for which they prefer not to wait.  This does not mean they don’t care how the item finds its way to their home or workplace.  Most digital stores partner with delivery companies to handle shipments.  This means the delivery company treats the item(s) that are delivered just like all other items.  It is enough that they get there reliably.

What if, for the upscale segment, the carrier truly represents the digital store? When this is feasible, the delivery could easily answer a need: allowing the customer to physically check the product and only then decide whether to keep or return it.  It could solve the problem of fitting clothing, by including in the delivery two or three sizes out of which the customer would choose the best fit.  The buyer could decide by actual inspection which of two competing brands is preferred.

Is this too expensive to do?

This is the wrong question, even though this is the most common one managers of digital stores probably ask themselves. The real question is whether some customers are ready to pay for such a service?  If there are customers for whom this service is what they desire, then the price is not the only issue.  What a relief!

The internet created a sea change, the ramifications of which we are still struggling to understand. There are some destructive aspects to the internet economy.  The belief that the number of customers and detailed information about them are enough for making a successful exit are probably over but the damage from making customers expect to getting value for free still exists.  It is time for deep cause-and-effect analysis to outline a way to draw true value, value that answers our needs from the internet.  E-commerce in general and individual digital stores in particular are ripe areas in which to start such an analysis.  Those who do it well and soon will deploy their DCE to earn not just sales but disproportionate profits.

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Published by

Eli Schragenheim

My love for challenges makes my life interesting. I'm concerned when I see organizations ignore uncertainty and I cannot understand people blindly following their leader.

17 thoughts on “The huge obstacle digital stores have to overcome”

  1. A couple of things, Eli and Henry

    This post focuses on what we might call digital ‘general’ stores. In other words, stores that sell products from multiple manufacturers.

    But, I think, where smaller businesses are concerned, a more interesting case is the digital store that sells only its own brand. Bonobo’s is a shining example of success in this category. As is Warby Parker.

    Interestingly, Bonobos has it’s own ‘guide-stores’ where you can try stuff on, but you can’t leave with anything — all fulfilment is via ecommerce. (Walmart is in the process of acquiring Bonobos). Another interesting point with Bonobos is that all shipments contain a postage-paid return label. And they accept returns for up to three months — even if you’ve washed and worn the garments.

    I doubt that Bonobos or Warby Parker or other single-brand retailers (Dell) would even consider themselves to be digital stores. They are in the clothing or eyewear or computer business and they happen to exploit ecommerce as the distribution channel.

    Maybe that’s the answer to your question. Rather than looking for an edge as a digital store, maybe the answer is to look for an edge as ‘a business’. The digital thing is a distraction. Table-stakes in the long run.

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    1. Justin, thank you very much. This is a valid, even inspiring, approach to the problem. As I do not live in the US I wasn’t aware of Bonobos and their specific solution of using guide-stores and e-commerce together as one solution that gives high value.

      This is one valid approach of gaining a DCE, and there could be more. When we speak of different type of products, the need for guidance could be still relevant, and Bonobos example could inspire different solution that achieve similar value.

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    2. Good one, Justin. That is the problem with old guys writing. We aren’t up on anything hip!

      One thing is that jeans are $108. That does solve the problem with occasional returns, if you charge enough to always be able to afford it. I think my old fashioned Levi’s 513 slim fit straight legs are about $70 less per pair. I’m stupid (lucky?) enough not to know the stylistic advantage the extra $70 buys me!

      I certainly didn’t expect that people would be willing to go to a dis-aggregated on-line store, pay triple, plus a trip into town to the guideshop to make sure they fit and to check out the actual colors and feel the textures. Clearly, people do and Bonobos has a DCE. If it is lasting, that spoils Eli’s and my predicted effect that low costs drive digital stores to compete on price. Still, many of them do go out of business.

      Interesting.

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  2. I agree that they should look for an edge as a business. I don’t agree that the “digital thing” is a distraction. The “digital” is one of the key components of their competitive edge. They have figured out how to exploit all the advantages of digital, and trim all the negatives.

    When Amazon got started, it was a new way of doing retail. The key benefit was incredible product selection that no physical retail store could match. The downsides were lack of trust in the new model (people reluctant to try this kind of shopping, not sure how to handle returns, etc.), and the friction and delays resulting from shipping.

    Amazon addressed both of those things directly and with great success. They provided for free returns no-questions-asked, and they provided free shipping with speedy, reliable fulfillment.

    As other retailers moved into the same space and tried to duplicate Amazon’s success, Amazon stayed several steps ahead. They have countless initiatives based on A/B testing to see what actually drives sales and customer loyalty. This has resulted in Amazon entering new product categories — some of them completely new, like Amazon Web Services (data hosting), which is now a bigger part of their business than retail.

    On the retail side, they have found a fantastic DCE that creates a positive feedback loop to keep their customers coming back: Amazon Prime. They introduced this at the same time they cancelled the free shipping. At first, it was a $79/year fee that gave you 2-day shipping for all your orders. This turned their cancellation of free shipping into a *benefit* for their customers, rather than a disappointment. Their free shipping was previously ground shipping, meaning orders could take a week or more to arrive. You could always pay for 2-day shipping but it was expensive. Now, with Amazon Prime, they gave an affordable way to get 2-day shipping.

    As a customer, it was an easy decision for me to purchase Amazon Prime as soon as it was introduced. It would definitely pay for itself, and it would make my overall experience with Amazon even more positive. As I started using it, I also started to realize the friction of making purchases was almost completely eliminated. Previously, I had always compared in my mind, should I buy this locally to save shipping, or should I buy it on Amazon? That mental conversation stopped happening. I would just click “Buy”, knowing I’d have it in two days, and knowing it was easy to return if there was a problem.

    Nobody else could offer this, and make it such a profitable positive feedback loop.

    Eventually other companies started offering free shipping options also, but paying an annual fee like Amazon charges for Amazon Prime doesn’t make any sense for niche retailers like clothing or hardware or whatever. Most people don’t purchase enough volume from those niche retailers to justify an annual fee for shipping.

    In other words, this is an example of Amazon leveraging their size and scale and product selection to their advantage, in a way that their competition finds very difficult to copy. If that’s not a DCE, I don’t know what is! 🙂

    By the way, Amazon uses many TOC concepts in their A/B testing, DevOps initiatives, and other parts of their business. I would not be surprised if a lot of their success is directly attributable to the conscious application of TOC.

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  3. I agree that Amazon are doing a good job. They have an important DCE of being very large and thus more reliable, and then they earned their size buy their delivery policies.

    What should all the other digital stores, online-stores, do? Imitate Amazon Prime?

    Justin just brought to my knowledge the way Bonobos have developed a unique DCE of their own. Others should be inspired to come up with more ideas.

    Do we want that Amazon would become the ONE store for everything, without any competition? All the concerns about Google, Facebook and even Microsoft, gaining too much power that eventually would be used against me as a captured client, are going to be seem very small relative to the future power of Amazon. I like Amazon to succeed even more, but also to have enough competition to force it to continue thinking how to give more value to all of us.
    That competition has to come up with different DCEs than what Amazon offers.

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    1. Eli, I have the greatest respect for you and for this article, but I disagree with your statement: <>

      I think Amazon has a different, and more substantial DCE than merely being very big.

      And I also disagree with Justin’s statement: <>

      I think Amazon has figured out exactly what advantages they can get from being digital, and has exploited those advantages. Amazon has also figured out the negative branches of being digital, and has trimmed those negative branches. This focus on what differentiates a digital business is key to their success. So “the digital thing” is an integral part of their DCE.

      I am not saying Amazon’s DCE is permanent and we should all just become happy customers of Amazon. I am not saying the situation is hopeless for all the other retailers. Dr Goldratt said (or at least strongly implied) it’s *always* possible to come up with a DCE. But don’t you think it’s important to have a clear understanding of what Amazon has done? Of how they have achieved such a dominant position in retail, and how they continue to maintain it with their DCE? That understanding will certainly help others come up with their own DCE.

      Just like in It’s Not Luck, with the printing company, they figured out how to turn their smaller printing presses into a DCE. Maybe there’s a way for a small local retailer to use their small local situation to create their own DCE. I’m sure there are lots of other ways. None of that is new. Small and local retailers have been forced to adjust to the reality of Walmart, Home Depot, Lowes, Best Buy, and all the other huge retail brands.

      Ace Hardware, for example, has a very interesting story to tell, with their very successful local franchising model. http://entreleadershippodcast.entreleadership.libsynpro.com/183-john-venhuizendifferentiating-yourself-from-the-competition

      (Sidebar: it is a very interesting Cloud to look at two competitors both using TOC each deriving their own DCE in the same market!)

      Like

      1. Hm, my two quotations did not come through, and I don’t see a way to edit or correct my post.

        Here is how the first three paragraphs in my last post were supposed to read:

        Eli, I have the greatest respect for you and for this article, but I disagree with your statement: “First let’s state the obvious: currently the only true DCE for digital-stores is being very big! So, Amazon and AliBaba have already gained that position but how can others become that big?”

        I think Amazon has a different, and more substantial DCE than merely being very big.

        And I also disagree with Justin’s statement: “The digital thing is a distraction.”

        Like

    2. Eli wrote:
      “Justin just brought to my knowledge the way Bonobos have developed a unique DCE of their own. Others should be inspired to come up with more ideas.”

      Yes, I completely agree with you there! 🙂

      Like

  4. Also, Eli wrote:
    “What should all the other digital stores, online-stores, do? Imitate Amazon Prime?”

    Unfortunately, that’s exactly what many of the other digital stores tried to do! They have their own “free shipping” models:
    – “Free shipping for all purchases over $50”
    – “Free shipping if you join our paid membership thing”
    – “Free shipping if you fill out this survey”

    All these are anemic attempts to imitate Amazon Prime.

    They don’t work.

    All they do is reduce those stores’ profit margins.

    I think they should figure out their own DCE so that Amazon Prime becomes a non-issue since their own DCE will create so much value in some other way that they don’t need to worry about reinventing Amazon Prime.

    Like

  5. From https://www.linkedin.com/pulse/20130925133311-291225-amazon-ceo-jeff-bezos-had-his-top-execs-read-these-three-books :

    [Bezos] hosted three all-day book clubs with Amazon’s top executives, capped by nice dinners at the end. Bezos said he used the books as frameworks for sketching out the future of the company. Which books? Bezos was kind enough to share the titles.

    The Effective Executive by Peter Drucker
    The Innovator’s Solution by Clayton Christensen
    The Goal by Eliyahu Goldratt

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    1. Dear Seraphim37 (sorry I don’t know your real name), if you got the impression that I do not appreciate Amazon and Jeff Bezos then it is my failing. Amazon is doing very good job and they are creative and develop more and more value to their customers. My concern is that is the smaller online stores won’t find other DCEs to compete with and then Amazon will become bigger and turn to be too powerful.

      I agree with you that smaller stores should take advantage of their location. This is just one way. There are more possibilities and I hope that some, or even many, would find different DCEs where they are able to give unique value to many customers.

      I also urge the big retail chains to actively look for new ways to run their stores emphasizing the value they are able to generate that digital stores are not able to answer in full.

      Like

  6. Eli , I believe that one of a big and important obstacle that most , though not all, digital stores face is goal changing. In their intial years their goal is “achieving and maintaining high growth rate” because most of them are funded by capital from VCs. At some point of time , it will have to change its goal from”growth ” to ” making money”. This will require an organization level change and a new DCE as DCE achieved when goal is “growth” will no longer be useful when goal is ” making money”. For example one of the digital stores of India name Flipkart was leader in online retail in India. However, with recent funding crunch in Venture capital it was forced to change its goal from growth to profit and in process of this change lost its leadership to amazon which still has same goal of high growth as amazon’s India business is funded by parent in US not by VCs. Another Indian digital store named Snapdeal which was just one year ago a major player has now been reduced to irrelevancy for same reason as flipkart and is going to be merged to filpkart.
    Hence, if a digital store forms a DCE which satisfys both the criteria of profit and growth in long run this will be the winning formula. Further I believe that even amazon still suffers from this same obstacle.

    Like

    1. This is a very interesting comment. It applies not only to digital stores but to the Internet as a whole. Too many initiatives started by offering value for free with the one objective of becoming BIG enough and this would lead to a profitable exit, because a big organization would buy it in order to get hold of the clients data. The notion that so much value can be found on the Internet for free caused many devastating effects.
      So, I’m glad that this objective is partially over, but we still struggle with its ramifications. I agree with you, Vedant, that only a DCE would be able to pull many digital stores from their current situation. First, they need to realize that it is a ‘must’ and in order to reach a DCE they should open their mind to what customers need and do not get a good answer to that need. Thinking from the perspective of the customer is not all that common in technological oriented organizations.

      Like

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