How much is free shipping really costing retailers?
Through a special arrangement, what follows is an excerpt of an article from Retail Dive, an e-newsletter and website providing a 60-second bird’s eye view of the latest retail news and trends.
E-commerce retailers have lured shoppers with shipping deals that have now become an expectation. To be sure, shipping costs are being paid for by consumers—even if it’s not a line item in their online shopping cart.
But the last several years have seen extreme price pressures that are making it difficult for retailers to pass on those shipping costs to shoppers in their entirety. That’s why many have come to regard some level of absorption of shipping costs as a "marketing expense."
"Free shipping helps us rationalize buying something online instead of going to a store," writes Anna Kegler on e-commerce analytics platform RJMetrics’s blog.
The trouble with retailers’ current attitude toward shipping is that they’re not accurately calculating how much their policies are costing them, Jeremy Bodenhamer, CEO of logistics automation company ShipHawk, told Retail Dive. Especially with the shift by FedEx and UPS to dimensional pricing (charging by package size in addition to weight), shipping costs have risen just as the wiggle room to charge for shipping has narrowed.
Source: Retail Dive
In some cases, he says, even for retailers that have negotiated rates with carriers, they don’t actually know the price of shipping until the goods reach the customer. That makes it hard to know what to charge for shipping, what minimums to set, or, even if the decision is to do without minimums or charge any fees, what the cost of this new type of "marketing" actually is.
The omnichannel approach to retail is also complicating logistics, with many retailers employing stores as mini-warehouses.
Companies can leverage technology to ensure that the smallest (or, more accurately, the least expensive) packaging is used for items, and can choose the best carrier for the job depending on where orders are originating and where they are going.
"In many cases we do this as the order’s being placed," Mr. Bodenhamer says. "The system will then calculate and come back with all the details for that order in real time, starting with the optimal box. We have complex packing and assembly algorithms to figure out the packed weight and dimensions, that this or that is the final size that the carrier should be picking up."
"When the retailer figures out these unknowns and finally knows what these costs are consistently, ahead of time, they can then make that decision about free or subsidized shipping. Then it’s a rational decision."
Discussion Questions
Does it make sense to view free or subsidized shipping for online orders as a marketing expense? Can online retail absorb the current level of free shipping expectations in the long run?
Poll
BrainTrust
Adrian Weidmann
Managing Director, StoreStream Metrics, LLC
Consumers view free shipping as a must-have when shopping online and retailers, in many instances, have accommodated them. Some retailers, even giant Amazon, have minimum order levels to trigger free shipping. As consumers expect free shipping, it’s important for retailers to know the true cost of shipping a package and then diligently work to minimize that cost. I expect that many retailers view free shipping as a marketing cost. And it may be one when the retailer first opens its online store. But over time the model may not be sustainable. If it was, why did Amazon raise its minimum order level for free shipping last year?
Free or subsidized shipping has become the norm. Unless your product is unique, hard to find or priced significantly cheaper than the competitor you will lose. It is far too easy to find what you like and then price check to find the cheapest net cost among competitors.
Increasing efficiency and lowering the cost of shipping will be essential to future success.
Free shipping is a fundamental driver for online shopping. Its cost should be factored into a marketing expense or even a broader cost of doing online business. Apparel shoppers will simply avoid using sites that don’t offer free shipping and a generous return policy.
Over the past year I’ve been working on a sailboat restoration that simply would not have been possible without the Internet. Whenever possible we source and purchase components and supplies from online retailers that offer free shipping over those that don’t.
Online retailers are saving on space, experience and staff. Free shipping is a cost of doing business.
This has also turned some online retailers to the dark side. Over the past several weeks I have received items “Postage Due” because the retailer has tried to bilk the U.S. Postal Service out of its rates by claiming a package weighed less than it actually did. I can only imagine how much of this fraud is NOT caught. To those greedy retailers — stop this practice as it will cost us all in the end!
Ahhh … the playing field is slowly leveling between online and brick-and-mortar retailers. Free shipping isn’t “free” for the online retailer. It’s a cost, no matter where and how you account for it. The race to the bottom always leads to decreasing margins and ultimately failed business concepts. It will be interesting to watch how online retailers balance out the apparent expectations of customers for free shipping and their own needs to actually make money, not just noise.
The future of retail is logistics.
From a consumer perspective, free two-day shipping is now a standard. It is a deciding factor for making a purchase either online on in-store.
From a retailer’s perspective, the question and issues are much larger than “free” shipping. Daphne Howland does a great job of describing the bigger picture of omnichannel. Shipping costs are just a small part of the overall logistics required to support and deliver products to consumers.
Omnichannel is not a choice — it is the new normal. Retailers must be able to compete by offering consumers choices of shipping, as well as click and collect. We are going to see more retailers like Walmart offering their version of “Prime” in order to offset some of the logistics costs.
Store-based systems were not originally designed for tracking all logistics costs along multiple paths to purchase. They need to be updated dramatically — and soon. Flying blind on logistics costs will kill the retailer’s bottom line.
Sure they can. Free “processing your SKU through my distribution center” or free “delivering the goods from my DC to my store so you can go shopping” have been the norm for quite some time now. How about those free cost of production samples, or paying the credit card processor for accepting your card? Free shipping is a customer convenience and it’s just another COGS.
Putting shipping expense in one box when it is a logistics issue, a promotion issue, a customer expectation issue and a profit/loss issue is the real cause of the problem. Unless the issue is viewed from the perspective of all areas, a reasonable decision can not be made. Competitors and the company’s mission need to come into consideration.
For e-tailers, shipping is part of the cost of goods — at least as far as the consumer is concerned. That’s why e-tailers are being forced to eliminate shipping and handling as an expected add-on charge and incorporate it into the base price via free shipping offers or otherwise. In effect, this is the reverse of the “component pricing” the airlines, rental car companies and even hotels have migrated to. It’s what happens when the e-tailer wants to stop being “a catalog order” for special goods only and to replace your corner grocer as your place to buy cereal. It’s also why Amazon was incredibly smart to introduce Prime — securing at least a partial offset of eventual shipping costs in the upfront membership fee.
This is a huge question for retailers and it’s not just about the cost of using a carrier. It’s also an issue of operations when merchandise is being shipped from stores. Who picks? Who packs? Where are items set aside? Put them near the front of the store, or near the rear so customers have to walk past impulse items to get their shipment?
It’s going to take time and tribal wisdom to figure this out.
I don’t have an analysis of the financials, but in general I think retailers help themselves with no- or low-cost shipping and free returns. Big shipping charges are a fast track to cart abandonment, but consumers expect to pay something for the convenience of not having to drive. In my own experience, retailers that don’t give free shipping on returns/exchanges make it highly unlikely I will order from them again.
As mentioned by Mr. Charness and a few others, this is no different than the other logistics and operating costs in the supply chain. The temptation to post it to marketing sounds a bit like denial. Marketing is a forward-reaching activity. Supply chain functions based on history, even when you consider the forecasting of inventory requirements. What’s new is that the time cycle is approaching real time, sort of.
The supply chain is more like the branches of a tree, not a straight line connection of links. Maybe we need a new analogy for the logistical network that supports omnichannel.
The shopper will continue to demand free shipping for most orders. Merchants need to consider this as a cost of doing business. That can typically be slid into the retail price of goods. However many merchants, including some of the biggest, do in fact spend more on shipping than they are taking in, which is not a sustainable business model of course. More collaboration is required between shipping agents and merchants to leverage economies of scale even better than they are today. This can work long term, however it will not with most merchants’ processes in place as they are today.
Controlling costs, especially shipping costs, remains a major problem for e-tailers. While many view (I believe appropriately) free shipping as a “marketing expense,” the inability to predict and therefore manage shipping costs is a major liability.
Another angle to this story is that consumers are going to ultimately “pay” for free shipping as e-tailers raise product prices to offset these costs. “Free shipping”? Not really.
I’m not a fan of viewing free shipping as a marketing expense. Free shipping is obviously a major driver of online (and phone/catalog) purchases, and many retailers are addicted to the predictable spike in sales they get when they run shipping promotions. The irony is that merchants rarely talk about all the sales they are missing out on when they don’t offer free shipping.
58 percent of all e-commerce sales include free shipping (and it’s much higher in Q4). Most top e-commerce sites (Amazon, Apple, Best Buy, Dell, Staples, Nordstrom, etc … ) ship 99 percent of their orders with free shipping.
Shoppers have a powerful psychological aversion to shipping fees (the aversion is much stronger than just the economical value of the shipping costs). Retailers who offer free shipping as a promotion rather than offering free shipping consistently are simply taking themselves out of the consideration set for many consumers. Why is a shopper going to make you their primary shopping destination if they have to hope you are going to offer a promotion?
All that being said, shipping is a significant (and growing) e-commerce expense for all retailers. Retailers need to be smart about managing that cost. The good news is that there are more than 40 different ways to offer free shipping (Threshold, BOPIS, etc.) and many of them have quite manageable costs. It’s true that the actual shipping costs for any given order are often not-known until the time of shipping, but it’s equally true that brick-and-mortar retailers don’t know the transaction time (and therefore labor cost) or the customer service costs for individual transactions. E-commerce and brick-and-mortar retailers are able to quite accurately predict their costs in the aggregate.
In the consumer’s mind, free shipping has only grown in importance. The Prosper Monthly Consumer Studies have tracked online purchasing points of consumer interest for the past 10 years. Ranked from top to bottom, the most important attributes in the consumer’s mind are: Low prices, free shipping, flexible return policy, website ease of use, pick-up/return to store availability and live customer service support.
Over the past eight years, free shipping, flexible return policy and website ease of use have grown in importance. Low prices, pick-up/return to store and live customer service have declined, although they are still important.
As followers of Milton Friedman know, free isn’t always “free.” However, it would not surprise me if we don’t see free shipping edge past low price in the not-to-distant future.
Retailers will do well to continuously polish up the website and make it easier to use. They can also expect that more and more consumers will be insisting upon flexible return policies. The latter works effectively for Zappos (Amazon), but it can be problematic for other logistics areas for some retailers.
Adding free shipping to the sale will force e-commerce sales to reduce margins yet again. Further complicating matters is the transportation industry charging more to their customers as a result of additional fixed costs burdens from shrinking sales and nowhere left to cut costs.
What retailers are seeing is spiraling landed cost prices combined with increases for free shipping to maintain sales levels. Brick-and-mortar stores are refining the way they handle less-than-truckload deliveries by focusing on slightly expanding inventory levels to increase replenishment time periods while reducing shipping costs and at the same time stabilizing margin levels. The inevitable consequence of this sales plan will be more large, medium and small business closures.
Looking to stave off this result can be found in controlling the shipping costs themselves through the use of presorted terminal deliveries from the store/warehouse to the delivery company. Another recovery method would be to separate and charge for packaging and handling with itemized customer-selected alternatives. Sensitive and delicate merchandise should have disclaimers relative to returns resulting from shipment damage. Customers willing to take chances should be compelled to keep the results. Finding a way to surcharge for unlimited return rights might need to be planned and executed as an addition to service/replacement plans. Creative cost increases that can be selected by consumers is a means of allowing the market to identify areas of opportunity and concern. Retailers that continue selling price should be allowed to simply go away as a result of their philanthropic market plans. For the retailer seeking stability and growth the use of differentiation should be the recognition of quality and services as the needs which are most attractive to the market. Differentiation is a sizzle and never a price.
Customers paying a separate, additional charge for shipping is like a store charging a customer an extra fee at checkout to pay the cashier’s salary. When online or television retailers boast of a low price, only to add a shipping charge which raises the real cost to the consumer, they are being disingenuous, to say the least. Shipping and handling is a simple business expense that should be factored into the initial price offered.
It’s a cost of doing business, not marketing at all. Brick and mortar stores have lots of expenses too. If you’re not figuring your cost of doing business online or in-store, you’re going to be out of business shortly.
The (sort-of) 50/50 split in the response to the poll shows the break between the “marketing types” and the “numbers guys (and gals)”, with the latter accusing the former of using “marketing” to cover ineffective and poorly executed ideas.
But this is all a semantic quibble: what matters is profit, which is money in, less money out…however you label the outflows. When I see a statement like “In some cases… they don’t actually know the price of shipping until the goods reach the customer. That makes it hard to know what to charge for shipping,” I don’t see a semantics issue, I see a basic issue of competence.
Following this logic, brick and mortar retailers would be calling part of their freight costs as marketing costs? How’s that work?
Nothing is free. Sounds nice, but it doesn’t exist. So, the question really is, can online retailers build the margin into their retails and retain business? I think they can.
Amazon isn’t where they are now simply because they are cheaper. They aren’t. Do online retailers need to be competitive in price? Sure. However, the consumer isn’t looking for only price in going online, just like they aren’t looking only for price when going bricks and mortar.
Just because conventional wisdom says retailers today can only compete at the lowest common denominator doesn’t mean that it’s true. If that were the case, Whole Foods, Nordstrom, and retailers like Costco wouldn’t be having he success they have through other factors besides price.
I think it makes a bit of sense to consider free shipping a marketing expense, because it draws many customers in. Without it, it might make more sense for shoppers to go to a store and pick up the product instead.
I think retail can absorb the cost of free shipping in the long run if it is done strategically. Amazon’s Prime unlimited free shipping seems somewhat unsustainable, but other retailers can put measures in place to minimize the sting. Require a higher than average minimum order value and drop the cost of shipping based on how long a shopper is willing to wait for an item.
You can call it whatever expense you want, it is still an expense. If you are unwilling to build it into your price and offer free shipping, you will not last long, as profits will disappear. You simply cannot be the lowest price online and offer free shipping, as it simply doesn’t work.
Amazon is in a completely different category of online, as they are the innovators, and everyone else just follows with me-too programs.
Shipping is going to cost more every year with inflation, and the big boys leading the way with their new shipping formula. Customers expect free, but most of them know it really isn’t, as it is all in how you package a deal.
Free shipping … Is it really free? It either costs the consumer or the retailer. Someone is paying for it. It’s part of the cost of doing business. In the end, it really is the consumer that pays. I’m not complaining. It is just a fact. Free really isn’t free. It’s just part of the cost.
Online retail has fewer expenses than a brick-and-mortar store. If the online retailer chooses to offer “free shipping” then they are just adding it to their cost basis. They are not “absorbing” the costs. They are just choosing to add it to their costs and will price accordingly.