“We launched the business as direct-to-consumer as we want to build a relationship with customers” ©Love Cocoa
“We launched the business as direct-to-consumer as we want to build a relationship with customers” ©Love Cocoa

Does the direct-to-consumer sales model work?

1 December 2017

A growing number of companies are selling direct to consumers. But do the supply chain challenges outweigh the benefits?

What does a bottle of Johnnie Walker have in common with Nespresso capsules, Tide laundry pods and a box of white fudge- covered Oreo cookies? They are all big brands consumers can buy directly from major manufacturers, part of a rising direct-to-consumer trend.

The lines between B2B and B2C are blurring, as large manufacturers of food and drink, household goods and beauty products jump on the bandwagon and launch direct-to-consumer businesses. The likes of Mondelez, Nestlé and Procter & Gamble all have high hopes of growing significant revenue streams through direct-to-consumer sales, which is why retail analysts predict significant growth for this market. Research from LCP Consulting and The Centre for Supply Chain Management found 48% of manufacturers are racing to build direct-to-consumer models and expect the channel to grow at an annual rate of 5% over the next five years.

The model makes perfect sense for a start-up, given how challenging and costly it is to get a listing with a retailer at a time many are reducing the range of items they stock, but it is less clear how it works for large, established manufacturers. Despite the potentially lucrative upsides associated with direct selling, it is fraught with difficulties – particularly when it comes to actually delivering those products to consumers.

So, given these challenges, why are so many large manufacturers launching direct-to-consumer platforms? And what are the main supply chain obstacles that need to be overcome to ensure these operations are profitable?

Right here, right now

Direct-to-consumer selling isn’t a new thing for many of the established food, drink and FMCG brands. A number of manufacturers have dabbled in this area to a lesser or greater extent over the years. Usually this direct selling activity has been restricted to limited edition items, such as the personalised soup cans Heinz started offering in 2011 and personalised Jaffa Cake packs launched by United Biscuits in 2015.

There are also examples of large manufacturers launching pure-play direct-to-consumer products, such as Nespresso by Nestlé, which is widely recognised as being one of the most successful direct-to-consumer brands. Nestlé says that today e-commerce accounts for 5% of its sales – up from 2.9% in 2012 – and that figure includes online sales through grocery retailers and pure-play e-commerce operators like Amazon, plus direct-to-consumer sales of Nespresso capsules and other items.

The company is targeting further growth in this area in the future, as is Mondelez, which created a dedicated in-house e-commerce team last year, partly to manage its Oreo Christmas gifting website, and is aiming to generate $1bn in revenue through e-commerce sales by 2020. 

Procter & Gamble also operates an online subscription service selling health and beauty and baby products direct to consumers in some global territories. And Unilever recently made a splash in this area through the acquisition of e-commerce razor blade business Dollar Shave Club.

So, why the aggressive push by so many manufacturers into direct-to-consumer selling, and why now? Richard Wilding, professor of supply chain strategy at Cranfield School of Management, thinks he knows the answer.

“Organisations are starting to realise that the link with the customer is one of the critical things their business needs to create value,” he says. “If you manage the direct-to-consumer channel, what you’re able to do is get very good customer insight because you’re dealing directly with the consumer.”

It’s a view shared by Steve Wilson, vice president at Capgemini Consulting. “This is not necessarily about making an operating profit,” says Wilson. “It’s about engaging with the end consumer and getting data, and then using that data to develop their wider proposition, to develop loyalty and enhanced products. I wouldn’t go as far as to say it could be a loss leader, but it doesn’t have to have the same profitability metrics as would a normal business.”

An added complication

While profitability may not be the ultimate end game, manufacturers are not prepared to continue pouring resources into operations that are not delivering. Pernod Ricard pulled its Sipstor drinks e-boutique in 2015 around two years after launch and in 2017 Diageo shut down its Alexander & James website, which launched in 2013. Talking about the decision, Diageo general manager Charles Ireland said: “There are consumer goods companies doing it quite successfully, but we haven’t quite hit a successful formula yet.”

It’s highly likely that we will see other casualties in the coming months because direct-to-consumer selling creates a major supply chain headache for manufacturers, says Will Shepherd, a director at LCP Consulting.

“Most of the consumer product manufacturers have got warehouses that are set up for supplying high volumes of pallets and cases into grocers and they’re not designed for single-pick items,” says Shepherd. “Direct-to-consumer selling screws up the channel economics because the cost of handling and logistics for single-pick items goes through the roof.”

The problem is that selling single-digit items requires the creation of a completely new packing and shipping system as these orders can’t be fulfilled using manufacturers’ existing operational structures. One potential workaround is to use one of the growing number of third party logistics providers that ship items at competitive rates. 

“Manufacturers could even use Amazon Logistics,” says Wilding. “They would effectively set themselves up as an Amazon marketplace and then use Amazon’s logistics capability rather than their own.” Ireland has said that Diageo is hoping to foster closer relationships with Amazon.

But outsourcing logistics to another provider creates other issues. “If you’re not careful the only person your customer will see is the delivery driver or the location where they’re picking it up from,” says Wilding. “If you’ve got a premium brand, will that logistics network support that brand or are customers going to end up with a delivery driver who is throwing packages over the fence?”

Then there’s the returns, which you have to deal with. “If you’re looking at clothing and the like, up to 40% of the product you send out will come back to you,” says Wilding. “Before you know it your return supply chain is your biggest supplier.”

When you start to factor returns into the equation, the economics of direct-to-consumer sales begin to look a little shaky. Wilding says the typical cost of home delivery is roughly 20% of the sales value, but for returns it’s around three times that. 

“If you’re looking at selling something for £20 it will probably cost £4 to get it shipped and posted to the customer, taking into account picking costs. But if that customer returns the item it is then going to cost another £6, so what margin are you making on these products?” he adds.

The final hurdle is customer service. If companies offer direct selling, customers will want to be able to contact them directly. “For an FMCG company delivering into a large grocer, that’s not something they need to worry about, but if you’re dealing with many small orders, customers are going to call at all times of day and night and you need to be able to respond otherwise your brand is in peril,” says Wilson. That means putting in place call centre operations and live chat capability.

Learn from the small guys

These challenges are not insurmountable. Indeed, those large manufacturers looking for inspiration might want to take a leaf out of the book of some of the smaller producers, who have developed profitable direct-to-consumer models.  

One such brand is Love Cocoa, a ‘contemporary’ chocolate company founded by James Cadbury (yes, the great, great, great grandson of Cadbury’s founder John Cadbury).

“We launched the business as direct-to-consumer as we want to build a relationship with customers,” he says. “It also meant we could test the product out with small quantities and gain feedback. We also get a better gross profit, as we do not need to pay distributors and retailers a cut of the profits.”

The company decided to outsource order fulfilment from the outset. “We use a third party warehouse and they receive all orders on a spreadsheet daily including both consumer orders and corporate orders,” says Cadbury. “We ensure all goods and packaging are correctly barcoded at the point of manufacture prior to going to the storage warehouse. We only recently implemented this system and it has been really important in cutting out any errors.”

It’s also possible for companies large or small with global aspirations to create a profitable direct selling model, according to Birgitta Hedin-Curtin, owner/manager of the Burren Smokehouse in County Clare, Ireland. The company ships its smoked fish to customers around the world via UPS. The ordering system it invested in around a year ago works well, says Hedin-Curtin.

“Once an order is generated, it is picked up from the order fulfilment floor by our staff,” she explains. “It then goes to accounts where it is labelled for one of the two shipping options we have. If the order is picked up at 4pm it can be in London for 10-11am the next morning.”

These companies may have made direct selling work, but it’s not going to be right for every business. Tim Waters, managing director and supply chain lead (Europe) at global professional services company Alvarez and Marsal, says that for many brands the figures just don’t add up.

“If you’re selling razors, which is a classic consumer product, that works in an online model,” says Waters. “The razors will fit into a jiffy bag that can be posted through the letter box. If you’ve got a niche product that consumers will buy online and will want delivering direct, the model can work well and be profitable, but if you’re selling frozen fish fingers or detergent I can’t see it working.”

However, if manufacturers can create a direct selling business model that works, it’s a potentially lucrative revenue stream because a significant number of consumers are open to this option. According to a survey undertaken for grocery trade magazine The Grocer by Harris Interactive last year, around 35% of UK consumers are prepared to buy food, drink and household items straight from the manufacturer. It’s a sizeable opportunity that gives manufacturers – and their supply chain executives – plenty of food for thought.

Competitive pick-and-pack: Piccolo

Baby food brand Piccolo launched in 2016 and uses a third-party logistics provider to supply large retailers, medium sized distributors, small independent businesses, and directly to consumers.

This leads to increased supply chain complexity, according to Piccolo’s head of operations, Luca Morrone, who has introduced measures to ensure things run smoothly.

“As we supply big retailers and small end consumers, it is important to set up a minimum order quantity for each type of business, which in turn enables easier warehousing operations,” says Morrone.

“Having a competitive pick-and-pack rate helps, especially when it comes to small orders, where only a few units are despatched.” He has also devised an approach for tackling the issue of returns.

“At the beginning, it is advisable to avoid arranging customer returns until a bigger size is achieved,” says Morrone. “Instead, try to send new stock with an apology note to keep customers happy.”

The supply chain strategy is clearly working, with the company already generating turnover of £4m.

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