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Getting the vertical game in e-commerce right

08 April, 2013

There has been a proliferation of businesses online focused on niche verticals such as fashion accessories, baby products, home décor, and several others. From an entrepreneur’s perspective, it is imperative that he/she understands what it takes to build a sustainable and profitable business when catering to a niche vertical. I like to use the analogy of a shooting range to illustrate the differences in strategy for horizontal and vertical e-commerce.

In a vertical play, the marksman (entrepreneur) is shooting at a target (market), which is only a small fraction of the horizontal play. However, the requirement for ammunition (funding/resources) may not reduce in the same proportion because the probability of striking a smaller target is also much lower. Therefore, in a niche business the entrepreneur has to be even more judicious in business modeling and customer acquisition. This, by no means implies that horizontal businesses are easier to run, but that they have different challenges relative to niche businesses. Entrepreneurs would be well advised to think carefully about the following when building an online business in a niche industry.

1) Value Proposition

A vertical-focused online business must provide consumers adequate motivation to move their purchasing preference to the web. In other words, if you are contemplating a business, say, selling groceries online, you must enrich the buying experience in a concrete and sustainable manner so that consumers can discern the value in buying from you rather than from a kirana store. I would also caution here that many entrepreneurs think of value as being synonymous with deep discounts. My view is that discounts may not be sustainable in the long run, and so, there must be more to your value proposition than just that (unless you have figured out an ingenious way to offer discounts and still be cash positive in the mid to long term). If you study how Amazon created the book business online, you realise that while discount was a major driver, additional features such as, consumer reviews and recommendations are a significant motivator for consumers to favour buying books on Amazon rather than from bookstores. The value proposition should, therefore, be evident to the consumer by bridging a gap in the buying experience itself.

2) Customer loyalty

Customer loyalty is the holy grail of ecommerce businesses. However, given that competition in niche verticals can be high due to lower barriers to entry, customer loyalty tends to be elusive. Let’s assume a scenario where customer acquisition costs are Rs 800-1,000, average order size is around Rs 1200 @ 20% gross margins after all variable costs. In this example, a consumer must revisit your store organically, at least, three additional times for you to be profitable. In a business where competition is high, acquisition costs can increase further more. Therefore, depending on the category you choose, this math will change. However, the fundamental principal is common – you must ask the question as to how you can increase customer loyalty and lifetime value. Unlike a horizontal play where there is a wide array of products for which a customer can re-visit the online store, a category-focused business must create a strong pull to keep the consumer interested. This requires offering an experience to the customer, which is not only unique but also compelling. Some businesses I have met are attempting to enhance customer lifetime value by bundling product retail with related information, thereby winning the customers’ trust. For instance, companies retailing healthcare products are attempting to create stickiness by including content from healthcare experts on their sites, to keep fitness aficionados interested.

3) Innovative business model

One of the strategies adopted by entrepreneurs to boost customer loyalty is rolling out innovative business models. In a category-focused business, if the model can inherently attract the customer to make frequent visits, and maintain high capital efficiency, then a large part of the battle is won. For example, HomeMint, which is an e-tailer of home décor products, creates personalised catalogues for its customers and also curates its inventory by partnering with experts and celebrities such as Justin Timberlake. This model compels customers to frequently visit them, as their catalogue is updated by iconic personalities on a regular basis. In addition to this, their inventory remains manageable because they focus on fashionable products approved by their experts, rather than on a wide variety. One of the most interesting spins on fortifying customer loyalty through an innovative business model is that of Shoedazzle in the U.S. The company requires women to become members by paying about $40/month. Members fill out a style profile, based on which the company recommends different fashion accessories to them each month. They can purchase one item each month in exchange for their fee, and if they do not wish to, they can simply choose to not pay the fee that month. Such novelty in the business model must be considered depending on the nuances of your product category and target market. The objectives here are to increase lifetime customer value, control working capital requirements and offer a compelling buying experience.

4) Vertical integration

Many categories being sold online have low margin structures. To combat this, entrepreneurs can vertically integrate their business, by bringing design, manufacturing, branding and distribution under one roof. This model popularly referred to as private labels, disintermediates the supply chain thereby improving margins. Vancl, which is in the fashion e-tail business in China, has shown tremendous success through vertical integration. In India, Zovi and PrettySecrets are some examples of companies, which have adopted this approach. This model has its own challenges, of having to own design and creating a brand from scratch. This approach is usually wise to adopt only if the founding team has domain expertise in the sector.

(Gaurav Saraf is the founder and director of Epiphany Ventures, an early stage fund, with investments such as Cartrade.com, Brattle Foods and iLevel Solutions.)

To become a guest contributor with VCCircle, write to shrija@vccircle.com.


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Getting the vertical game in e-commerce right

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