Internet & Catalog Retailers
Date February 2019
- E-commerce holiday sales increased 19.1% in 2018 (November 1–December 24)
- Cyber Monday was the biggest retail sales day of 2018 with online revenues of $7.9 billion
- In the United States alone, more than one billion items shipped for free during holiday 2018 with Amazon Prime
- The disparity between stores’ brick-and-mortar and e-commerce holiday performance was significant, with digital outperforming stores
- As of the third quarter of 2018, online sales as a percentage of total retail sales were 9.8%; from late 1999 through 2018 there has not been a quarterly decrease in online sales as a percentage of total retail sales, indicating a continuing growth market
By the numbers
No signs of slowing: Twenty years ago e-commerce sales comprised just over 0.5 percent of total retail sales. As of the third quarter of 2018, that figure had almost topped 10 percent, and there has never been a quarterly decrease during that span of time. Those who grew up with an online presence are more likely to be familiar with, and take advantage of, the ease of online shopping. As they now range in age from 18 to 34, millennials have become the target consumer group for many retailers, especially for men’s and women’s apparel. Holiday 2018 benefited from another significant increase in online sales activity, with e-commerce sales increasing just over 19 percent year over year, as compared to a 5.1 percent increase for the total season. Although overall 2018 holiday sales had their strongest growth in six years, the online channel clearly outperformed brick-and-mortar stores. However, contributing to the push to get customers into stores was a significant increase in buy online, pick up in store (BOPIS) orders, which as one example, were up 73 percent from Thanksgiving to Black Friday.
With traditional shopping malls posting their highest vacancy rates in seven years, retailers with brick-and-mortar stores have had to come up with fresh and creative marketing strategies to get customers back into their stores. Some have been successful in this endeavor including a totally re-branded Abercrombie & Fitch and solid holiday performer Kohl’s, but services offered online have also expanded. Given the fierce competition in the current retail marketplace, the majority of brand and retail marketing plans include essential focus on consumers and what they need to stay engaged. Whether that is a generous loyalty program, free delivery, tailoring and other services, or an in-store café, varies by retailer. Retail Dive notes that “understanding what your customer wants before they do is now a necessity to stay afloat in an increasingly competitive market.” In late 2017, the international data corporation predicted a 42 percent increase in digital transformation spending globally with brands’ and businesses’ spending projected to exceed $1.7 trillion by the end of 2019. If anyone needed further evidence of just how popular e-commerce is, Cyber Monday was the biggest sales day of 2018 with online revenues of $7.9 billion, an increase of 19.3 percent over 2017. Additionally, over half of website visits (54.3 percent) originated from mobile devices, a year-over-year increase of 55.6 percent based on data from Adobe Analytics. To compete in this environment, retailers with brick-and-mortar locations must continue to develop their omnichannel strategies, including sophisticated shopping apps and BOPIS capabilities, or risk being outperformed by their competitors.
Amazon’s domination: It’s no secret that Amazon has been dominating the world of retail and is projected to continue to do so for the foreseeable future. According to Fortune, Amazon will make up 50 percent of all e-commerce sales by 2021. For the quarter ended September 30, 2018, the company’s sales were up 29 percent to $56.6 billion. The success of Amazon Prime, which guarantees free, two-day delivery when subscribers pay a yearly fee of $99, has left competitors at a huge disadvantage. Per Amazon, one billion items were shipped in the United States using Prime during the holiday 2018 season. Although the company did not release exact sales figures, Amazon noted that it sold more items on Cyber Monday 2018 than any other day in its history including the most recent Prime Day.
Amazon could also benefit from the July 2018 Supreme Court ruling on e-commerce sales tax, which overturned the 1992 Quill decision that effectively provided online sellers with a perceived price advantage over brick-and-mortar-based retailers. According to the Wall Street Journal, “By a 5-4 vote, the Court closed a loophole that helped fuel the early growth of Internet sales.” The prior ruling gave online sellers that did not maintain a physical presence in a given state an advantage over sellers that did have a location in the state, and therefore were required to charge state sales tax. The advantage to Amazon may come in the form of fees for tax collection services for some of its smaller online sellers who do not have the technical infrastructure to manage the task of calculating and collecting taxes for customers in thousands of state-level tax brackets across the United States.
Recognizing returns: Return rates are an important indicator of the success and quality of a particular SKU and help gauge customer confidence in products. A company’s normal course return rate has a direct impact on sales capacity projections; a return rate in excess of 20 percent can indicate that a reserve may be needed to mitigate risk associated with a loss of customer confidence in the retailer.
A returns allowance off of gross sales is important when planning disposition strategies, especially for Internet retailers. In a traditional brick-and-mortar GOB sales event, a “No Returns/All Sales Final” policy is commonplace. However, the rate of returns from e-commerce sales tends to be higher than in-store purchases, meaning customers may expect the option to return merchandise in spite of an “All Sales Final” policy. Discussions on how returns are considered are a key component of an exit strategy. Depending on the nature of the business, the disposition agent may permit them for a period of time; however, that may not always be possible or practical. Lenders should be aware that in situations where returns are not allowed, higher discounting may be needed.
Consider effects of promotional pricing on final value: Asset-based lenders and borrowers should work to develop a clear understanding of the incentives needed to drive sales while remaining mindful of the potential impacts of various discounting options. Free shipping promotions, for example, may be something that customers are accustomed to. While continuing the promotion may be important to consumers, it also increases the expense burden. It is not uncommon for free shipping to average $4.00 to $10.00 per transaction. As GOB sales multipliers for Internet retailers are typically closer to normal course selling rates (or lower) for brick-and-mortar retailers, a free shipping offer has the potential to represent a significant expense based on the level of inventory, number of units, and average transaction size. Lenders should look to qualified appraisers to help understand shipping expense assumptions in valuation reports. .
Secure agreements to utilize available third-party services: In cases where a third party manages e-commerce functions, lenders should examine all related legal agreements to ensure inventory can be sold through all relevant channels. The ability to utilize third-party services to maintain normal course sales and fulfillment operations is essential. As an example, contract agreements may dictate that certain payment thresholds be met, even in the case of a total liquidation of assets. While appraisals typically assume the ongoing use of third-party services, this could pose a major stumbling block if overlooked.
Digital infrastructure is crucial: Maintaining a strong connection to existing customers and a reliable platform for servicing orders is essential to maximizing value in a disposition. Intangibles such as websites, customer email lists, social media presence, brand equity, customer goodwill, and sales generated through referral networks and attendant economics have an important bearing on recovery values. They can also indicate a retailer’s strength in the marketplace. It is imperative for lenders to work with legal counsel to gain and retain the rights to use all associated digital assets to market the inventory of a company. Lenders should work in advance to develop a clear understanding of any terms governing ownership, control, or usage of critical intellectual property (IP) in a GOB sale scenario.
Beyond its critical role in executing Internet sales, IP can also add value to Internet retailers. Increasingly, brands, domains, customer lists, and other intangible assets are marketed separately from the inventory. It may be worthwhile to independently appraise the expected value these assets could bring in a sale. There may be an opportunity to partner with a secondary finance company that is comfortable lending against IP, which could add value to a loan.