E-Commerce And CPG: Will Consumers Buy Products Online?

 

Intro


Retailing is at an inflection point; for brick-and-mortar retailers, it is a time of immense change and new competition. The competition is no longer the store in the same town but it could be any store with an online presence. For brands and brand-owners, it is a time to consider expansion into business models like direct to consumer and forging relationships with online retailers.  The time is also ripe for a new crop of online-only players and private labels to expand into areas traditionally hindered by distribution challenges and access to markets. Offline growth in retail is hovering around 1-3% for many categories while online growth is an order of magnitude higher. Consumer-focused companies with an omni-channel approach will benefit greatly as consumers shift their spending to more online sources.


In this report we model the adoption of ecommerce in CPG by considering the interplay between a number of factors that influence the consumer decision to buy online as well as the supplier economics. We systematically assess multiple CPG categories and project the market share and growth over the next 10 years.  

 

E-commerce is Growing

 

Ecommerce has come a long way in the last 15 years. Many categories have had phenomenal success in transitioning from physical to digital – e.g. books, music and videos. Categories like electronics, computers and apparel are still on a strong growth trajectory, Exhibit 1. Many CPG categories (e.g. health and personal care, beauty and cosmetics, food and beverage) have under 10% online penetration; of these food and beverage has the lowest online penetration (under 3%). 

 

While CPG has some of the least online penetration in retail, it has the most opportunity to grow. Some of the fastest e-commerce growth in CPG products includes detergents, OTC medicines, personal care and cosmetics, Exhibit 2. This has been partly enabled by subscription services introduced by Amazon and other retailers.  The fastest growing category is laundry detergent, which is growing at a staggering 85% - but its base is small (under $100M per annum). Leading brands in this category are Tide, Gain, and Seventh Generation.    

 

Similarly product categories like beauty and personal care are fast growing, but they don’t have a large online base yet. Categories like health supplements and cosmetics have a large online base and are fast growing, Exhibit 3. 

Retailers that will be affected in upcoming years include Sam’s Club and Costco – they are becoming overshadowed by their e-commerce counterpart, Amazon Prime. Almost 40% of households had Amazon Prime subscriptions. Costco and Sam’s Club households accounted for ~30%. Costco has had great membership renewals recently, reporting as high as 93% renewal rate in the United States for 2015. Though renewal rates are high, it will continue to struggle gathering new customers because of the competition from Amazon Prime. Growth in Prime memberships far outpaces the growth in brick-and-mortar retail warehouse clubs.  

 

Outlook for CPG E-commerce

 

We have modeled growth and adoption of CPG in ecommerce by considering multiple consumer-side and supply-side factors, Exhibit 5.

 

Consumer factors:
•    Brand awareness – is brand-awareness important for the category (e.g. beauty). If this is not an important factor, there is potential for higher online penetration and in addition online private brands will have a larger market share.
•    Touch and feel – consumers are used to a higher touch and feel for categories like groceries, and this will result in a slower online adoption than categories like personal care.
•    Pricing – many CPG categories are highly price elastic and thus price will be a driving factor in making online purchases.
•    Convenience – for categories where brick-and-mortar stores are too inconvenient, ecommerce solves a burning issue – especially for categories where specific items are needed and are tough to find in stores (e.g. hair care, facial care).
•    Shipping – free shipping continued to be a primary driver for online shoppers. Speed of shipping is an important factor as well.
•    Ease of returns – free and easy returns as well as omni-channel initiatives will be important for many categories to take off. 
 

Supplier trends:
•    Margins – considering the cost of shipping and inventory management, there will be significant margin pressure for a number of heavy CPG items like detergents; lighter items like cosmetics and OTC health are better suited for margin maintenance when offering free shipping and returns.
•    Supply chain – whether new supply chains are needed for a particular category (e.g. online-only grocers) or can existing infrastructure be leveraged. 
•    Packaging innovations – whether new packaging formats could further enhance adoption – e.g. detergent pods, flex packaging.
•    Business models – subscription models enable the retailer to forecast needs and save on inventory and shipping costs. On the other hand, models like Amazon Prime are classic loss leaders and the retailer is profitable only in certain scenarios (e.g. high margin goods, high volumes)
•    Industry structure – high competition and inefficient price setting could drive some segments into the red – making it unsustainable in the long run to operate in these segments.
•    Omni-channel – a true omni-channel retailer is one that is able to serve customers irrespective of which channel they use, making it a seamless experience to switch channels. Pricing and promotion are more consistent between the channels, making the customers more comfortable with switching channels based on convenience. 

 

Based on the consumer- and supplier-factors, we model the online adoption and growth of various CPG categories. The projections are shown in Exhibit 6.

 


The highest online-penetration areas are projected to be health OTC, health supplements and cosmetics; medium-adoption categories include personal care products as well as baby products. We don’t expect a high adoption in ecommerce for drinks and detergents – because of a combination of consumer behavior, and supply-side economics (esp. for heavy items). The growth rate is expected to be high for categories like cosmetics because of the quick adoption driven by subscription models, easy availability (in terms of choices and free shipping), and cost competitiveness. For consumables like toilet paper, kitchen towels and laundry detergent, Amazon has introduced Dash buttons: with a click of the button, users can have these items automatically ordered and delivered.  Such initiatives will further enhance growth rate.

 
Though food and beverage was one of the first CPG categories available through e-commerce (e.g. Peapod) the online penetration is still very low, and is expected to remain low through 2025. Emerging services like click and collect, used by retailers like Kroger and Walmart will result in a small uptick. E-commerce-only services like Amazon Fresh will continue to expand their services to multiple cities. In addition, new formats are being experimented with – companies like Blue Apron offer meal kits (ordering meal ingredients to be “assembled” at home). There is also increasing use of subscription “snack boxes” (e.g. Nature Box) that assembles an array of consumables per user preference. 
 

For health and personal care, we expect online sales to be ~40% of that category by 2025. For beauty and cosmetics, this is projected to be ~32%. Both these categories have the supply-side economics and consumer preferences working for them. Discount warehouse clubs like Costco and Sam’s Club can be expected to experience a decline in members in the coming years but since they have established a loyal consumer base, Amazon Prime will have to work harder to get them.  Some features of Prime that have been winning over customers are: free two day shipping, same day delivery (in select areas), membership sharing, and the discounts available through Prime Pantry. This doesn’t even cover the e-commerce based exclusives that Costco and Sam’s Club can’t compete with, like Amazon Media Services (Music, Video) and Kindle. 

 

We can expect to see an expansion of direct to consumer efforts by brands – especially in cosmetics and personal care. Retailers will have to work extra hard to keep their market share with brands, via superior execution and customer reach. In addition, a new crop of online retailers will rise in addition to Amazon, using business models such as subscriptions. Brands will have learn how to optimally work with these online players, in terms of product variety, pricing, and supply chain. We can also expect to see a rise in private labels, especially for non-food and non-beauty items.

 

There will be many winning and losing companies in this shift. Brick and mortar stores without a good onmi-channel presence will see a decreasing market share, while medium and large online stores will see an increasing share.  Knowing which categories will likely have a higher online adoption will allow retailers and D2C brands to be better prepared for the shift, and stage their efforts to optimally match the online consumer adoption of these categories.

 

Sources

[1] The U.S. Online Retail Forecast, FTI Consulting

[2] E-commerce and the Future of Retail, Business Insider Intelligence

[3] Beauty and Personal Care in the US, Euromonitor

[4] CPG Killed it in E-Commerce in 2015, 1010Data

[5] Proprietary Consumer Tracking Survey, Cowen & Co.

 


 

(c) 2018 Thorro LLC