July 2, 2012, 10:47 AM

Striving To Be Free

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With so much focus on free and discounted shipping programs, many retailers say they have no choice but to at least test it.

Crunching the numbers

But as Sanders and other retailers have found, deciding if, when and how to offer free or low-cost shipping—and determining whether it's affordable and worth the expense—can take a lot of time and work testing different levels of service and crunching numbers on costs and benefits. While shying away from offering and advertising shipping deals can cause a retailer to lose out on traffic and order volumes, being overly aggressive with it can cut too far into profits. "Profit margins pay shipping bills, not order volume," says David Redlich, co-founder and co-CEO of ReStockIt LLC, a seller of products ranging from desk chairs and desktop computers to refrigerators and restaurant supplies.

ReStockIt, which does about $25 million a year in sales but competes against retailers who sell in the billions, uses a mix of technology and staff expertise to constantly review the cost impact of offering free shipping. It uses web-crawling software to research the prices and shipping deals of similar products sold on other sites, and it maintains a staff of analytics experts who review inventory prices and sales data to check that the retailer is working within its expected profit margins.

With most of its 200,000 SKUs shipped from about 25 drop shippers, it also uses a home-grown post-order processing software application that determines the best drop shipper to use for individual orders. ReStockIt has multiple suppliers for many of its hottest-selling items to ensure product availability.

"Having visibility is key to making sure you're making your margins while also offering shipping deals," he says. "The real question is not getting the data, but what to do with the data."

ReStockIt's strategy is to offer free shipping where it best suits its marketing goals, such as to acquire new customers or to persuade newer customers to shop a second time. In nearly all cases, the e-retailer covers the cost of shipping by either figuring how to include the cost within its gross margins or getting a better shipping rate from carriers UPS, FedEx Corp. or the U.S. Postal Service. "We're not losing money on 95% of our free-shipping orders," Redlich says.

But the retailer shies away from offering free shipping too frequently on all products, so as not to raise expectations among shoppers. It routinely offers some form of free shipping, but not always on the same products or for the same minimum order values. "We don't want customers to just wait for the next free-shipping offer," Redlich says.

Absorbing the costs

Sorting With Style realized an increase in conversion rates and sales during the 2011 holiday shopping season when it offered $2.95 shipping for orders weighing a pound or less, and $4.95 for larger orders. It wasn't too difficult to absorb shipping costs for the lightweight products, because the retailer ships many of them for low fees with the U. S. Postal Service. But when the e-retailer recently changed its shipping strategy to offer free shipping on all orders in a move to boost sales, it became more difficult to make the financial numbers work.

For products that are lightweight and have relatively high profit margins, a free shipping offer can generate enough additional sales to cover shipping costs without raising product prices, Pezeshki says. But for heavier, costlier items, raising the retail price by 10% to 20% to cover at least part of the cost of free shipping led to a drop in sales.

For any particular order, whether free shipping works out well financially for the retailer can depend on how many items a customer orders, and whether the items are all low-margin items or mixed with higher margin items. "When someone just orders one item and we have to absorb all shipping costs, it's at best break-even for us," Pezeshki says. "But if a lot of people have a lot of items in their orders, we're better able to absorb the shipping costs."

Sorting With Style may move to a hybrid system of offering free shipping on all lightweight items, and charging either $2.95 or $4.95 on larger items. It ships items of up to three pounds through the U.S. Postal Service, and heavier items through FedEx. In the meantime, however, it will continue to test free shipping as it promotes it throughout its web pages and on Twitter. "The more people know about free shipping, the more we see spikes in sales," Pezeshki says.

Although MyBabyClothes ultimately decided to offer free shipping only on orders of $49 or more, it spread word of its earlier unconditional free shipping offer with "Free Shipping" banners on its web pages, mentions in its weekly newsletters, promotional giveaways, exposure on "mommy" blogs, and paid search campaigns.

Beyond breaking even

At the outset, Sanders estimated shipping would typically cost about 12% of an average order. At that level MyBabyClothes would be able to absorb at least part of the cost of shipping while benefitting from increased conversion rates and sales. "Our initial goal was to at least break even for free shipping to not be an expense," he says.

But getting the word out about site-wide free shipping made customers realize that they could place more orders for fewer items, often low-price, low-margin ones. That ran up the retailer's average shipping cost per order well past 12% without increasing sales revenue, Sanders says. "Conversions increased by 9.75%, but the average order dropped by almost 20%," he says.

After MyBabyClothes changed its shipping strategy to require a $49 purchase to qualify for free shipping, the average order value rose by a third as many shoppers added items to hit or surpass that threshold.

Like other retailers that have explored free shipping, doing his homework to determine the optimal free shipping threshold paid off for Sanders.


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