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The Basics of Retail and Starting an E-Commerce Site

07.12.2012, Business, by .

To the casual outside observer, AKA me, entering into small-scale retail sales is an intriguing opportunity.  We all live in a retail world where getting 20% off MSRP is a good deal, and 30% off is considered a steal.  I have one friend in particular who has purchased countless items that he didn’t need, or in some cases even want, just because the deal seemed so “unbelievable” at 40, 50, or 60% off.  So you can see why the prospect of getting “wholesale prices” can appeal to a retail business lay-person like myself.  This post will cover the fundamentals of how commerce works and include some ideas on finding products.  If you’re looking for instructions on how to setup an e-commerce website then I might throw together a more comprehensive post on that in the future (just go down to the comments and ask), but for now I would suggest that you just pick the most painless option and use Shopify.  I did: http://jeffjason.com/2012/07/why-im-doing-the-shopify-build-a-business-competition/ (and I’m a developer who already runs multiple websites).

How the System Works

Long ago when a person needed something they would either produce it themselves, or produce something that could be used to trade for that item.  They would head on down to a local market or trading post, bringing along excess goods that they didn’t really need, and exchange those goods for some other item or service that they did need.  Fast forward a few thousand years and this system has evolved into a much more complex and in some ways efficient version of the original, with the production and distribution goods and services being handled by highly specialized entities, and items “changing hands” multiple times on their way between the producers and the consumers.

While it is certainly still possible to produce an item and sell it directly to consumers, as is the case with things like custom built furniture and cabinetry that one might get from a local carpenter, these days that is more the exception than the rule.  Chances are that the desk at which you are sitting or the table at which you ate dinner last night was created by one entity, sold to another, sold to yet another, and then finally sold to you before making its way into your home.  How this works is that the initial producer, called a manufacturer, creates an item like a refrigerator or a television and then, rather than sell each individual item to a consumer, signs deals with wholesalers/distributors for the wholesalers to purchase large quantities of the the item for distribution.  The producer does not have the network needed to distribute the good so in order to get around the limitation of only being able to sell to his limited network he, for the most part, opts to pass on making high margin/low volume sales in exchange for getting the product in front of more people by using this distribution partner.  This of course means that in order for the producer to get the distributor to do distribution for them, the producer is only going to be able to charge the wholesaler a small fraction of what the item would fetch on the open consumer market.  This is of course done with the expectation of making more money overall by moving enough units to make up for the lower profit per item.

On top of that there is still another layer of indirection, however, as the wholesalers don’t typically own the shops where the actual consumer sales take place.  Their core competencies are more centered around signing deals (with producers and retailers), supply chain management, and these days importing/exporting of goods from asia than they are around attracting consumers and selling individual products.  That last part is taken care of by the retailers.  Now this 3 tiered system isn’t necessary in all cases, Home Depot for example combines the wholesale competencies with the retail competencies by essentially opening the doors of a warehouse to consumers and sticking dozens of brightly colored sales staff at strategic points throughout the “store”.  They deal direct with manufacturers because they can support the sort of volumes necessary to strike the same deals that the wholesalers would normally get from the manufacturer, and they deal directly with the consumers because they have built thousands of brick and mortar store fronts in the US and internationally. Fun fact from wikipedia: Home Depot’s largest store, located in Union, New Jersey is nearly the length of three football fields feet long, the length of one football field wide, and comes in at a massive 225,000 ft².

The Dynamics

As is the case with any set of business relationships, there are certain dynamics that spring up when you have businesses of different sizes interacting with each other.  Traditional producers/manufacturers generally don’t want to deal with the hassle of small fish like consumers or retailers and instead  want to focus on their core competency of producing a good quality product.  They don’t want to partake in chasing down 1500 retailers for payment of their invoice and they don’t want to have to develop the skills needed for running marketing campaigns, executing consumer sales, maintaining the operational staff necessary to own traditional brick-and-mortar retail stores, and they don’t own the regional distribution centers that make it easier for distributors to distribute their products.  Unless of course you’re one of the behemoths like Home Depot/Walmart/etc, where they own the entire supply chain.  The advent of the web has reduced some of the operational issues, and there are some manufacturers who have setup online store fronts, but for the most part they still only want to sell their goods in bulk to people who can move large volumes of products.  Similarly the wholesalers would rather not deal with the little guys who don’t account for much of their revenue because each additional retailer you have presumably adds additional support costs that is not proportional to their purchasing.  A wholesaler with 1000 customers who each average $100/month in revenue is much worse off than one with 100 customers who each average $1000/month in revenue.

To give an example from The 4-Hour Workweek, the author Tim Ferris ran a manufacturing operation (actually he outsourced it all, but in effect he was the manufacturer here) where he produced a particular athletic supplement.  He had about 100 – 120 customers (the wholesalers) and after spending a few years running around like a chicken with his head cut off trying to react to every support request he gave up on the idea of working 80 hour weeks and figured out how to automate the business.  Step one was determining what percentage of the business (revenue) could be attributed to what percentage of the customer base.  It turned out that more than 80% of his revenue came from less than 20% of the customers (the Pareto principle is a theme throughout the book), and that most of his revenue came from the same 5 – 10 wholesalers.  So why then was he running around responding to support requests from the other 110 customers?  This line of thinking is what keeps wholesalers and manufacturers from selling to Joe Six Pack who only wants 1 or 2 units of some item per month, and leads to minimum quantities and other qualification requirements to do business with them.

Drop-Shipping

Drop-Shipping

Finally, the retailers have the competing goal of all wanting to get as close to the manufacturer as possible because each additional person in the chain between them and the producer takes an additional cut.  This of course and adds overhead which makes the items they are looking to sell necessarily cost more.  To give a hypothetical example with completely fake numbers, a manufacturer might produce a product for $10 of cost to them and sell 1000 unitis of it to a distributor for an average price of $40 per item.  That distributor might turn around and sell that item to a retail store owner in quantities of 20 items for $80 per item, and the retailer will turn around and list that item for $124.99 for a single one.  The retailer would love to buy his 20 item lots from the manufacturer for $10 instead of $80, but the manufacturer has no interest in selling 20 item lots for the same price that they would sell 1,000 items.  Recently, with the advent of online e-commerce and in some cases “ebay retailers” there have been a ton of noobs throwing their hat into the mix (I would unfortunately have to count myself in that category right now).  This has caused the advent of a new layer of faux wholesalers who are providing no service other than marking up products and making sure that their “wholesale” membership websites show up high on google search results.  Ohh, and finally there is drop-shipping, which is usually done by the wholesalers.  This is basically outsourced inventory and shipping management for businesses who are looking to be totally virtual and strictly deal with advertising and making the end sale, but don’t want to handle anything between the sale and the producer.  This is obviously the lowest margin option, but it makes some things that might otherwise not be possible (like running an online e-commerce site when you have multiple kids and a fulltime job), possible.

So what’s a new retailer to do?

Something else maybe, lol.  In my case I’m not going to do something else, I’m just going to solve the problem.  As I mentioned in a previous post I just entered the  Shopify Build-A-Business competition, for a number of reasons, and I’m not about to back out of that just because of not yet having something to sell.  The rest of this post is going to be centered around ideas that I am brainstorming for how to get products to fill the virtual shelves and do so at the lowest prices with the least amount of inventory.  I will then write a subsequent post with the result of having attempted the ideas mentioned or the reason for why I decided not to attempt an idea.  (For example, see the mention of World Wide Brands below.)

So, finally, here is my not-so-comprehensive list of ideas for obtaining products.

  • Google – So the first step in just about any information gathering exercise these days is to throw a few words/phrases into google and see what she spits back out.  In this case I’m thinking of searching for things like “finding wholesalers”, “buy direct from manufacturer”, “wholesale pricing”,   “purchasing inventory”, “starting up an e-commerce site”, “starting up an ebay store”, “getting started on shopify”, “getting started with e-commerce”, and anything else that comes to mind.  One thing to note is that this exercise will inevitably result in me finding a bunch of non-wholesalers who buy from wholesalers and re-sell at a marked up price that they are call wholesale.  I’ll have to determine whether someone is a real distributer/wholesaler of one of these faux wholesalers.  This activity will probably also supplement my list of ideas, but you have to be weary of what you find on the first page of google results for things like “finding wholesalers”… because it’s information that is available to everyone.  Due to supply and demand, it’s generally not a good idea to do what everyone else is doing.
  • Contact the manufacturer.  Products that I want to sell are invariably for sale elsewhere on the internet.  In most cases I should be able to use Google Shopping and Amazon to find retail listings for these products and the listings should have the name of the manufacturer on them.  You can then google the manufacturer, find their website, and get their contact info.  In most cases they will shoot you down if you are looking for them to sell directly to you at a small e-commerce site’s volume, but they are generally more than happy to give you contact info for one or more of their distributors.
  • Find a distributor first.  Since it can be hard to get a distributor to give you a good price, or even work with you, if you don’t have high volumes (you know, like when when you’re first starting out), you might need to expend significant effort to find a distributor who is willing to work with you.  I’m thinking that I might be able to find a distributor first, and then shape my retail offering based on what they distribute.  The idea being that, you don’t have the volume to support only buying one product from them, but if you sell ten of the products they distribute you might be a big enough fish for them to invite you to dinner.
  • Go to ebay and see what products ebay sellers are selling. Since ebay is the wild-west of online retail it makes some sense to take a look at what ebay sellers are selling.  These people will be half pros and half amateurs, but if the amateurs can make a buck then you and I should be able to as well.
  • Find trade publications.  Like anything else I’m sure there are some sorts of publications aimed at retailers and wholesalers that can be leveraged to find the resources these people need.  Not sure what they are just yet, but this will likely be part of my search.
  • Find tradeshows.  Same reasoning as above, just with “expos” that might be swinging by my area that I can drive out to and peruse.
  • Find message boards and other online wholesale/retail communities.  Once again same as the last two, but this time in electronic form.
  • Wholesale pre-screeners (like worldwidebrands) – I’ve heard mixed things about this route.  Online bloggers love to suggest them (and of course provide you with affiliate links), but if you research what people’s opinion is of them it’s hit or miss, mostly miss.  They common complaint is that there isn’t enough supply of good wholesalers through worldwidebrands to meet the demand from retailers who use them, so you end up with essentially a watered down list of wholesalers who are going to give you inflated “wholesale” prices.  On the other side of the isle is the fact that it’s not exactly easy to put together a list of distributors who are all willing to do drop-shipping and will les you buy in reduced quantities.  Do I want to drop $300 on joining this club?  Probably not, but it’s at least worth researching.
  • Find bargin-bin items at places that you already know are cheap, or cost $0. Yard sales, things you own but don’t use, flea markets, consignment, things owned by friends of yours, etc. can all be stuck online and sold in a “bargin-bin” type area to make a quick buck.  Don’t sell junk though, you don’t want to get bad word of mouth going.

OK, that’s all I got for now, I’ll determine the success of these tactics and writeup a future post about it.