Sign-up discounts: Bad strategy for eCommerce firms

A lot of eCommerce players in the Indian eCommerce industry offer  up to 25% discount coupons on sign-up which give discounts up to Rs. 2000 (~$35). These include Jabong, Myntra, and fashionara, among others.

The logic that these players might be using for this strategy may be:
1) The discount coupons allow them to acquire new customers, that may remain loyal after the initial discounts are over.
2) They operate mainly in the apparel category where regular gross margins are 30-40% to begin with. So a 25% discount would not lead to a negative gross margin on each sale.

I think this is not a good long-term strategy because:
1) Based on chatting with a few young friends, I feel that most have figured out that they can use multiple email addresses to get multiple coupons. They don't use the same email address to purchase after the discount coupons are exhausted. This also leads to a problem of customer duplicates in the database of the eCommerce retailer.

2) A 25% discount on an item which had an initial gross margin of 35% may not sound like unprofitable business. However that calculation ignores the free shipping given to the customer and the cost-per-action commissions (up to 10% of the sale!) given by the website. This implies that the items purchased by these 'acquired customers' are often being sold at a negative margin. The terms of the discount coupons (e.g., 'Cannot be combined with other offers') mean that most signups occur for fully-priced merchandise during the regular season. This is clearly a double whammy.

3) Most of these online apparel retailers are getting into accessory businesses. The discount coupons are often valid on accessories. This converts what should be a regular, high-margin, attachment business into a money loser.

4) I imagine there would be a significant sales backlash when the sign-up discounts are eventually withdrawn.

My advice: The industry needs to move from rewarding customer sign-up to rewarding long-term customer loyalty.

Retail discounts and the illusion of success

I came across a blog post for a retail software product (which I will not name here), which said the following: "We have achieved great success with our product implementation at a European online auto parts retailer. Our product was able to deliver a 15% sales lift with an effective discounting of only 2.17%..."

I thought that sounded very good.

But then I indulged myself in a thought experiment: 'What sales lift does a retailer need to breakeven on an initiative which discounts the price by 2.17% below the regular price?'. Stop for a moment and answer that question within 5 seconds without pen and paper....

Now let's look at the math behind a 'successful' promotion

If you are an online retailer with gross margins of 20%, average CPA commission of 1% and net shipping costs (shipping costs less shipping charges to customers) of 6% of revenue, then your 'effective' margin is 13% of revenue.

To breakeven on a 2.17% discount, you would require a sales lift of 20% (!!!).

Here is a What-if scenario table which calculates breakeven sales lift for various levels of effective margin and discount:

Said in another way, to breakeven on a 2.17% discount with a sales lift of 15%, the European retailer would need an 'effective' margin of 16.7%. With 1% average CPA commissions and 6% net shipping costs, they would need a gross margin higher than 23.7%.

I doubt whether the European retailer broke even on the discount, because my thought experiment doesn't even include the cost of the software (which claimed 'great success').

The thought experiment is an eye-opener for eCommerce and retail companies who are willing to spend a lot on discount programs. Remember that even a harmless looking 5% discount requires a sales lift of 63% if your 'effective' margin is 13% (refer to the table above).

So that set off another thought in my mind: "What long-term strategic reasons would merit making an apparent loss on a discount program?"

Here's what I think are potentially valid strategic reasons for any retailer:

1) It is a short life-cycle/ shelf-life product (clothes, shoes, books, mobile phones, cameras, laptops, perishables) which is approaching the end of its season/life-cycle/ shelf life. As a retailer you are taking a strategic call that the cost and the risk of carrying inventory beyond the end of the season/life-cycle/ shelf life would be too high. However it is critical to distinguish long life-cycle products in short-life cycle categories (e.g., plain blue jeans, basic dress shoes, text books, reference books, etc) and ensure that you are not discounting those as much as the short-life cycle products.


2) Competition is discounting the same product heavily and you assess that you will not be able to sell the product at a 'regular price' later. This reason may often play along with reason 1. However it makes sense to use price comparison frequently (at least daily) to ensure that you are not pricing well below competition.

3) By discounting the product and taking a short-term loss, you estimate that you will be able to acquire new customers who will be loyal beyond the short-term. Many eCommerce companies seem to be thinking this way. My good wishes for pulling this strategy off :-)

Would love to hear your thoughts. If you need a copy of the spreadsheet behind the breakeven table (which has a more detailed working based on gross margin, CPA commissions, and shipping costs), please email me at raj AT knowledgefoundry.net

Amazon launches as Junglee.com in India! Is it a big deal?

Amazon launched as Junglee in India earlier this week. It is a price comparison site for various merchants to list their products and provide prices. Already quite a few significant Indian vendors (homeshop18, indiaplaza, healthkart, uRead, bookadda, etc) have listed their products on the website.

So, with the brand name of Amazon, one would think this will be a major development in the Indian online market. Right?

Well I don't think so.

Amazon has launched this price comparison site (and not an ecommerce website) only because Indian law prohibits 100% foreign direct investment (FDI) in multi-brand retail. Foreign investors who want to own Indian retail operations (e.g., international private equity firms, foreign internet retailers) have typically invested in the 'supply chain back-end' operations of retailers or in 'wholesale cash-and-carry' operations. Amazon apparently is not interested in playing such games.However let's be clear that Amazon will launch its own store-front in India the very day that Indian government allows FDI in multi-brand retail.

Given that scenario, it is likely that Junglee is only an attempt by Amazon to learn about the Indian ecommerce market and understand the price sensitivities of the Indian consumer. They are also getting pricing information freely from their competitors !! I assume many of the sellers listed would only be too happy to be acquired by Amazon when the time is right.

However some of the bigger players in the Indian market (flipkart, snapdeal, dealsandyou, fashionandyou, yebhi, myntra, etc) seem to be staying away from Junglee. They seem to understand the threat of giving structured pricing data to their future competitor.That is why, Junglee is unlikely to be a great force in the Indian e-commerce landscape.

Current Alexa rankings for India:
snapdeal 26
flipkart 30
homeshop18 124
Myntra 153
koovs 186

infibeam 208
indiaplaza 284
Junglee 533

While these rankings are based on 3 month averages and Junglee is likely to rise in rankings over the next 3 months, there is also a honeymoon effect which is likely to wane (also as buyers see lot of items with only 1-2 sellers).

My bet is that Junglee will make it to top 200 within the next 3 months, but will not generate as much traffic as the leading Indian e-commerce sites.