The e commerce industry has undergone great change since it’s rise in popularity during the 90’s and early 2000’s. As the separation between offline and online has nearly disappeared, most companies adopt some sort of hybrid or omni-channel approach.
Given the wide range of business models and approaches, we’ve created this guide to help you quickly understand the various approaches, and think about how to best setup your own business, or financially evaluate an e-commerce business using a financial model.
Below is an illustration of the main types of e commerce business models. The three highlighted in gold will be discussed in more detail.
The first main category in the top left of the diagram is marketplaces. These are places where sellers can list their products or services, and the marketplace operator provides a platform that connects buyers and sellers. The marketplace charges a transaction fee for it’s service. Classic examples include eBay (B2C and C2C), Amazon (B2C), Alibaba (B2B), fiverr and [name some other freelance]. Marketplaces can sell both goods and services.
When building a financial model (there are various types of financial models) for a marketplace it’s important to build the model starting with Gross Merchandise Value (GMV) which is the total value of goods and services transacting on the platform. From there the commission structure determines revenue and cost can vary widely depending on the business.
In most cases the sellers handle fulfillment (whether they pay for it themselves or charge the customer), but in some cases like Fulfilled By Amazon (FBA) the marketplace will also take care of delivery.
From a financial modeling perspective, it’s important to clearly map out the revenue model and expenses in a logical and easy follow way.
In the direct model, retailers are responsible for finding their own customers, and have full control over the customer experience. The direct business model typically requires a significant marketing spend and means of driving traffic to the website. Unlike marketplaces, which are highly transactions, retailers often try to provide a curated experience for their customers, and help them through a unique discovery process.
Retailers typically don’t own their own brands, and instead sell other companies’ brands. Given the pressure online retailers are feeling on both sides of them (marketplaces achieving the best prices, and brands now going direct) they are probably in the most challenging position of the e commerce business models outlined in our diagram.
Brands are now using their own websites and social media to sell directly to customers. A classic example of this is Nike, which has made their direct channel (website) a top business priority and expects it to be one of their largest segments in 2020.
Brands are on the other end of the spectrum from marketplaces, where they have the most focused selection, highest level of customized experience, and strongest connection with the customer. They also have the most limited selection and bear full responsibility for marketing and fulfilment of their products and services.
There are pros and cons to the various business models, and while the size of the total e commerce pie is growing there will still be a massive divergence of winner and losers.
Marketplaces and brands are best positioned to be winners while retailers are most likely to be squeezed as they sit in the middle of the other two.
At the end of the day, it all comes down to the customer lifetime value versus customer acquisition cost, to determine if the e commerce business model makes sense.
The ratio of lifetime value to acquisition cost will largely be a function of Return On Ad Spend (ROAS).
The focus from marketplaces will be: price, service, execution, selection etc. The focus from brands will be: connection with the customer, exclusivity, and experience.
From a financial modelling perspective, it’s important to think how about the e-commerce business you’re modeling will benefit or struggle from the issues described above.
As you think about the various business models, and which is right for you company, or the company you’re trying to value, these resources will be a helpful guide.