E-retailers offer discounts and free shipping despite the effect on profits

Posted: Friday, August 02, 2002

NEW YORK (AP) -- They're back, those offers of free shipping and deep discounts that wooed shoppers to the Web during the dot-com boom.

While it's sure good news for consumers, it's a risky move for e-retailers that just started getting their businesses on a profitable track.

Gimmicks destroyed dot-coms in the past, and now success is hinged on whether cybershops can use the deals to convince shoppers to buy more pricey goods and then return to the online store again and again.

''I hope that companies learned their lesson from prior days that you can't make it for long giving it away,'' said Derek Brown, an analyst at the investment firm WR Hambrecht & Co. in San Francisco. ''They have to spur sales and retain customers to make this work.''

It's been a tough road for Web merchants in their quest for profits. During the booming 1990s, many relied heavily on promotions to woo customers to their stores. Shoppers came, but didn't stay for long, quickly moving on to the next e-retailer that offered a deal.

The discounting came with a hefty price tag that many online retailers couldn't afford. It pushed many out of business for good, and those that survived had to rethink whether it was the right tactic to take.

Their effort to clamp down on promotions and other expenses have paid off. About 56 percent of the 109 largest Web merchants reported profitable online operations in 2001, up from 43 percent in 2000, according to a survey by the Boston Consulting Group and Forrester Research.

''What we have seen in the last 18 months is a very tight focus on profitability,'' said Peter Stanger, vice president and director at BCG. ''Everyone now knows that discounting at the end of the day doesn't improve customer loyalty.''

So why then are some online merchants setting aside those lessons learned and going back to the bad habits born in the booming 1990s?

Leading the charge is Buy.com, which sells everything from computers to music to video games. Last month, it started offering free shipping and selling all its books at 10 percent less than Amazon.com.

Buy.com founder and chief executive Scott Blum defends the tactics.

He said he can afford to be promotional, thanks to extreme cost-cutting implemented since he bought back the company in November and took it private. Among expenses slashed: all but 100 of 650 jobs.

''We have a lean organization and can make a profit this way,'' said Blum, who added that average daily sales at Buy.com have grown from $800,000 when he bought the company to $1.2 million.

Other Web merchants have stepped up their promotions. Barnes & Noble.com is slashing 30 percent off the price of all books published since Jan. 1, while BestBuy.com is offering free shipping on everything.

Amazon.com also has jumped into the fray. In January, the Seattle-based company began offering free shipping on any orders above $99, and then in June it lowered that to $49.

While promotional gimmicks can woo shoppers at least temporarily, it is questionable if they will actually help achieve long-term profitability.

If a company sells a book for $20 and has a gross margin of 25 percent, then it has $5 left after product costs, said Ken Cassar, an analyst at online consulting firm Jupiter Research. That means it can't spend more than $5 on such things as customer service, executive pay and shipping, he said.

''You are really stretching the limits of $5, which doesn't leave much in the bank,'' Cassar said.

The success of such deals hinges on whether e-retailers can translate promotional sales into more expensive purchases that generally have higher profit margins and can manage to retain some customers, too. That, in turn, will defray the costs associated with offering discounts.

Some have already seen some positive results. Amazon said last week that its second-quarter losses were trimmed as its price cuts on books and shipping drove in customers.

Additionally, Web merchants need to limit the duration of their offers. The last thing they want is for free shipping and discounting to become commonplace again.

''Right now is the slower part of the year, so they can take steps to drive sales,'' said Carrie Johnson, a retail analyst at Forrester Research in Boston. ''But they can't let this go on forever. That would make me worried.''


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