Earlier this year, the Interactive Advertising Bureau (IAB) released a report titled: The Rise of the 21st Century Brand Economy, which examined the sputtering growth of traditional retail and CPG brands versus the rise of direct brands over the past decade.
To delve deeper into the findings of the report, Retail TouchPoints recently sat down with Randall Rothenberg, CEO of IAB, a trade association for interactive marketing representing more than 600 leading media, marketing and technology companies.
Retail TouchPoints (RTP): The report has some interesting data showing how classic CPG and brands — which focused on supply chain dominance — are showing low to no growth, while boutique direct brands are exploding across categories. What do you see as the factors driving this trend?
Rothenberg: The central finding is that growth in the U.S. consumer economy is both slowing across virtually all categories, and shifting across virtually all categories a fraction of a share point — from the longtime incumbent “indirect brands” to an aggregation of tiny disruptors, which we call “direct brands.”
While a lot of this is known, people tended to view it on a sector-by-sector basis. But what we found is that it’s really a series of transcendent shifts in the structure of the industry supply chain itself that are the root cause both for the slowdown and for the shift — which is, to us, even more important than the slowdown.
RTP: It brings up an interesting point because while we have covered a lot of the different emerging brands that are really disrupting traditional categories, this really points to a bigger trend with some common underlying characteristics.
Rothenberg: The world at large is very familiar with Warby Parker in eyewear and Casper in mattresses, and you may have a 14-year-old daughter who’s got some Glossier cosmetics, but the tendency is to view these companies as interesting curiosities in individual segments or sectors.
What we’re showing is that they actually exist for exactly the same reasons — not analogous reasons, but exactly the same reasons, whatever the sector. What we’re actually looking at is a very large set of changes, end to end, across consumer-facing industries, that are affecting each one of those industries pretty much in exactly the same way.
Another way to look at it is that for the better part of 140 years, really since 1879 to relatively recently across all consumer-facing segments, the basis of value creation was largely the same. It was a company’s ownership and operation of a high barrier to entry capital-intensive supply chain — meaning that you had to either own outright, or have significant control over, every major function of your supply chain, pretty much end to end, in order to create value. That value extraction, by those indirect brands, was done through a series of third-party hand-offs.
First, the brand would go to an advertising agency, because advertising agencies owned all the competitive pricing information for the media. And the media — now in today’s Internet world we call them generically “publishers” — owned virtually the entire access to the consumer. There was no efficient way to reach the consumer other than by going through this third party. Then, once the publisher got to the consumer, the publisher had to drive the consumer to yet a third third-party handoff, and that’s the physical retail store.
As recently as 1992, somewhere between 96% and 97% of all retail sales in the U.S. took place in third-party physical retail stores, and only 3% to 4% of a $2 trillion retail economy took place in non-store environments.
What happens is that value creation in the consumer-facing industry starts shifting, again a fraction of a share point at a time, from the high-barrier entry, capital-intensive, owned and operated supply chains to low-barrier, capital-flexible, leased or rented supply chains.
This is such a powerful shift that to some degree you can even argue that the singular advantage that the long-standing incumbents had — which is owning the top of the mountain in terms of supply chain dominance — had become a bit of an albatross, because it reduced their flexibility. In this shift from owned and operated to leased and rented supply chains, companies, newcomers, disruptors could come in with very little capital and rent off the shelf everything they needed to create a new set of products and a new brand. Then value extraction, instead of happening through these series of indirect third-party hand-offs, increasingly starts happening through the direct connection between the company and the consumer. Something that was almost literally physically impossible 20 years ago now becomes the standard by which companies have to operate.
RTP: So while the direct-to-consumer category had traditionally been about direct distribution and fulfillment, it’s really more about the direct connection with the end consumer?
Rothenberg: It’s more broadly about the direct relationship between the company and the consumer. You couldn’t do that 25 years ago; now, it’s standard. Because that direct relationship throws off reams and reams of first-party data, and that first-party data, especially when you begin to get a degree of scale in it, begins to inform every other function of the enterprise. It informs product development. It informs pricing. It informs pricing mechanics. It informs customer-value analysis and value segmentation. So that if one company in a sector starts gaining leadership in that kind of enriched data, it’s an asset that gives remarkable advantages over anyone else in the category that doesn’t have that.
To put it in real-world terms, if you’re a cosmetics company and you’ve specialized over the past 90 years in selling your cosmetics through department stores, you don’t have any idea who’s buying it, who your end consumer is. You’ve got research, you’ve done surveys so you can segment demographically and psychographically, but you don’t have names, ranks, serial numbers, addresses, credit card numbers. The department store has all that stuff. If that’s the case, you’re at a disadvantage to these new disruptors who are coming up who have name, rank, serial number, addresses, credit cards of every single person who’s buying from them.
These relationships allow you to gather more data, which allows you to improve your products, and because you’ve got a more flexible supply chain, you can bring those products to the market much, much more quickly — in a period of weeks rather than a period of half-year or year-long cycles that are required if you were moving the product entirely through third-party retail relationships.
RTP: The grocery category has been one of the last verticals where there is still some debate about how e-Commerce and direct-to-consumer models will disrupt traditional behavior. What is your view of how grocery will be impacted?
Rothenberg: It’s already happening. It was happening even before Amazon bought Whole Foods. Take a look at the menu box category. That’s one of my favorites, because for the past five or more years, it’s been sort of fun to make fun of menu boxes, because another 20 startups come online every year with venture capital funding, and another 10 go out of business each year because they can’t make a go of it. As I said, it’s sport to just trash them and say, “None of these companies are making any money. It’s all kind of a fantasy.”
I like to point out to people that each one of these companies, every one of them, whether they succeed or fail, is training another 10,000, to 20,000, to 50,000 consumers how not to shop at Kroger, how not to shop at Shop Rite. I think that’s the net impact. You’ve got a grocery category that’s averaging about 1% to 2% margins. When you start shifting just a handful of thousands of consumers — but across 20, 30, 40 or 50 companies — that adds up. So you’re hearing this gradual acculturation of the consumer to buy packaged goods, including groceries, through these alternative mechanisms.
Then again, it’s not just about delivery to the home. To me, one of the most striking statistics that we uncovered during this was that there was a 25-percentage-point shift in retail sales from large CPG companies to small and mid-sized CPG companies, in one year.
So what that showed, irrespective of what the last mile is, whether it’s delivery of a menu box to the home or whether people are going to the store to get it, is how easy it is now for disruptor companies to come into the marketplace and take sales and take share away from the large food manufacturers and other grocery-facing companies that dominated for decades. So what I’d say is don’t focus obsessively on the last mile. You’ve actually got to look at the entire supply chain, both from ideation and sourcing at the front end all the way through to distribution and sales at the backend.
RTP: Let me ask you about the last mile. In part of the study, you talk about “three last miles.” Can you expand upon what you mean there?
Rothenberg: When we think about the last mile, we actually think about it in terms of the movement of physical goods, from the factory or the warehouse or the distribution center to the consumers’ homes. But as we say in the study, that’s only one of several last miles that have to be traversed.
Two other central ones that in fact are necessary even before you get to a physical last mile are what we call the last mile to the head and the last mile to the heart. After you ideate a product or a category, after you source the raw materials, after you create the manufactured product, you then have to create awareness for it, desire for it, and you have to create a compelling offer for it, which sometimes won’t be about emotion and desire alone, but sometimes it would be about rational fact.
Our point in the study is to show that all these last miles are collapsing at the same time and for exactly the same reasons, which is really about the prevalence of cloud computing. What cloud computing allows you to do is create offers, communicate those offers to individuals based on all kinds of characteristics and data that can be sucked up from many different places. Those offers can be packaged rationally, in other words to the head. They can be packaged emotionally, that is to the heart. They can be customized. They can be semi-customized. They can be brought to the consumer, and if the consumer reacts to those offers, then, also instantaneously through cloud computing, the company can determine what specific offer to make to this specific consumer based on these specific characteristics.
Then when the consumer reacts, the company can also, again instantaneously via the cloud, say, “Okay. Where is that product in this exact configuration in the supply chain, and how can I move that product as quickly as possible to this person, and what’s the offer that I’m going to make at what price?” To be able to do that thousands and thousands and thousands of times a second is what the nature of this industrial revolution is about. So that when we talk about the three last miles, it’s about the combination of all these things: the combination of the product offering, the packaging of the offering, the understanding of how the offering can and should be customized down to the individual, and, then, finally, once the individual reacts, the ability to locate that offering and get it to the person as quickly as possible.