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Radically Expand Product Assortments With No Inventory Risk

The proverbial free lunch might just be achievable for online retailers. Imagine vastly expanding your product assortment while, at the same time, freeing capital locked up in inventory. Sound impossible? Not for smart retailers embracing drop-ship fulfillment.

The biggest capital expense for a retailer is the combination of owning inventory and operating the fulfillment centers required to house and ship products to customers. Drop-ship fulfillment enables retailers to offer the products of its suppliers without ever taking possession of the items.

Instead of buying bulk quantities of products and holding them in their own warehouse (and balance sheet), the retailer sends individual purchase orders to a supplier when a customer orders a product. The supplier then ships the product directly to the customer from the supplier’s own inventory.

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In theory drop-ship fulfillment is great — unlimited inventory with no capital expense. But in practice it’s very difficult for most retailers to implement and achieve the same levels of customer service and delivery expectations. The biggest risk is that, in an age of rapid delivery from Amazon, a retailer who relies on a supplier for fulfillment is effectively putting their brand in the hand of a third party. Will the supplier ship accurately and on time?

Building A Better Business With Drop-Ship Fulfillment

Thanks to drop-shipping, retailers of all stripes are increasing revenue and delighting their customers with huge product assortments. For startup retailers such as Zappos, Gilt, Fab, and Wayfair, drop-shipping proved to be an effective strategy to ramp-up huge and distinctive product assortments quickly. These retailers were able to rapidly offer their customers large assortments without spending the time, or the money, to purchase and own inventory and build out functioning fulfillment centers.

Before the rising stars of online retail relied on it to fuel their growth, drop-ship fulfillment made a name for itself at some of the largest retailers in North America. The online divisions of traditional big-box retailers like Costco, Walmart, QVC, JC Penney, Kohls, and Staples pioneered the use of drop-shipping as they built out their online presence, starting in the late ‘90s.

These retailers already had significant investment in fulfillment centers. But their warehouses were designed to pack and ship pallets of products in bulk to the retailer’s physical storefronts — a process completely different than what is required for online retailers, where individual products are shipped to consumers.

Today, large retailers will typically fulfill around 25% of their online orders through a drop-ship network. Though, some retailers fulfill close to 90% of their volume through drop-ship suppliers.

Drop-Ship Fulfillment Is The Engine Of E-Commerce Growth

A world of opportunity opens for a retailer when they are able to reduce capital investment in inventory. Many retailers reinvest that money back in the business through marketing and other demand generation activities. Money that was previously sitting in a warehouse is now actively bringing new customers to the storefront. This is a far more capital efficient way to run a business.

Retail executives that evaluate drop-shipping immediately see the benefits — less money wrapped up in inventory, more products available to sell, and more money available to market those products. So why isn’t everyone drop-shipping?

It shouldn’t surprise you to learn that drop-shipping is difficult in practice. You are relying on your suppliers to maintain your brand’s reputation for fast and accurate delivery. Instead of worrying about one or two warehouses you control, you now have to worry about potentially hundreds of suppliers. Some will be great partners, but some won’t.

Even High Performance Engines Need Tuning

Great customer service requires clear visibility in to the status of a customer’s order. For products shipped from your own warehouse, an operations manager can always walk to the warehouse to meet the friendly warehouse foreman face to face to get answers when your internal systems aren’t providing enough visibility in to the status of a customer’s order.

No such visibility exists in the drop-ship world. The fulfillment process is essentially a black box — did the supplier even receive the order you sent? Your CRM can’t see in to the CRMs of your suppliers, and maintaining customer service standards is difficult when a customer can’t get an immediate answer to their question.

When drop-ship networks work effectively the customer never knows that the retailer handed the order off to a supplier for fulfillment. The package received by the customer should look no different than it would if the retailer had shipped the product from its own facility; customer service reps should have the same information in the CRM for drop-shipped orders.

In reality, the difficulties start before the consumer’s order is sent to the supplier. If you think managing and optimizing inventory is hard when you have two warehouses, imagine the difficulties when you’re doing business with a hundred drop-ship suppliers. To avoid accepting an order for a product that is out-of-stock at the supplier, the retailer needs SKU level quantities on every product from every drop-ship supplier. Your warehouse management system can keep your warehouse and online storefront in synch. What happens when you add an inventory file from a drop-shipper? How about a dozen, or even one hundred?

The only way to make drop-shipping scale is through bullet-proof processes in operations, customer support, and new technology competencies.

Best Practices For High Performance Drop-Ship Fulfillment

1. Partner with manufacturers and distributors with a proven history of successful high-volume drop-shipping.

Most large distributors have established drop-ship programs. These companies have experience shipping hundreds of thousands of orders a year, and tens of thousands on busy days. Many newer companies, and niche manufacturers especially, might be new to drop-shipping.

If a supplier needs to start a drop-shipping program to land your account, they might enthusiastically embrace the idea. Be careful—you don’t want your brand in the hand of a novice drop shipper.

2. Integrate system-to-system with your partners electronically.

Emailing purchase orders doesn’t count as integration. If a supplier wants purchase orders emailed, find another source.

Large retailers and suppliers will want to integrate system to system through Electronic Data Interchange (EDI) or by sending purchase orders over the internet through standard protocols like FTP or HTTP.

Formalize the drop-ship process with suppliers before you send your first purchase order. You might want to require the supplier to send you an acknowledgement when they receive your order. In all cases you’ll want the supplier to inform you when they have shipped a product to your customer. That message should include the ship date, carrier-tracking number, and estimated delivery date. You’ll want your technology team to ensure that those messages get automatically imported in to your own storefront and CRM so customers can see the updated order status.

3. Monitor the performance of your suppliers.

There will always be suppliers that can’t meet your standards. That’s a normal course of business for which you need to be prepared. Create a set of metrics, and maintain and review them on an ongoing basis with each supplier.

All retailers track fill rate, which measures the percentage of orders sent to a supplier that are successfully shipped to the customer.

Retailers with the largest and most successful drop-ship programs go above and beyond fill rate. High performance retailers track the time that elapses between sending a message to a supplier, say, a purchase order, and receiving a message back, such as a ship confirmation. Retailers that track the time lapse between these messages can contact suppliers that haven’t responded within an acceptable period of time.

4. Be proactive with customer service —avoid problems before your customer is impacted

High performance retailers will solve issues before they ever affect the customer. By tracking metrics, you will have rich performance data on each supplier. If that data tells you that orders that aren’t shipped to the customer within 24 hours are more likely to result in a missed delivery date, you can proactively contact the supplier when you haven’t received a ship notification from the supplier within 24 hours of sending the purchase order. This kind of follow up keeps shipments on time and customers happy with on-time delivery.

Drop-shipping allows retailers to radically expand their product assortment, deliver to customers faster, and fatten the bottom line through increased sales and higher profits. Those benefits are not instant — they require solid operational competencies and best practices. Effective drop-shipping requires a tuned operation that can integrate directly with suppliers, spot problems before they affect the customer, and allow for the continued monitoring and improvement of the operation.

Frank Poore is the founder and CEO of CommerceHub, a merchandising and fulfillment company. CommerceHub’s cloud-based platform connects the largest retailers in North America to 7,000 pre-integrated manufacturers and distributors who drop-ship products directly to consumers. In 2012 CommerceHub enabled over $5.5 billion in Gross Merchandising Value (GMV) for its 40+ retailer clients, including Costco, Staples, QVC, Koh’ls, Walmart, JC Penney, Best Buy.

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