In the dynamic landscape of Direct-to-Consumer (DTC) business models, success hinges on a strategic approach that overcomes the absence of intermediaries. Companies like Warby Parker, Casper, Blue Apron, and Smile Direct have demonstrated the potential of this model, but achieving profitability requires a thoughtful blend of managerial acumen, customer-centric practices, and financial foresight.
We believe that there are four aspects that are key to having a successful DTC business.
All of these 4 key ingredients need to work in sync to achieve profitability in a reasonable amount of time or at least to have a reasonable path that support additional investments. Road to profitability means that the management team have develop specific plans to adjust KPIs over time for the business model to make money in 3 to 5 years from start-up.
The foundation of a successful DTC business lies in assembling a competent and visionary management team. Leaders should be adept at navigating the intricacies of online sales, customer relationship management, and agile decision-making. Striking a balance between revenue growth and cost optimization is crucial, emphasizing the need for a team that prioritizes sustainable growth over mere expansion.
If the management team only believes in achieving revenue growth at-all-cost then this is just the wrong team leading the company. Focusing on vanity metrics is another common mistake that we see. For example, focusing exclusively on achieving customer growth without regards of the cost of acquisition of these customers or without regards of churn is a mistake.
A critical factor influencing the road to profitability is the optimization of Customer Acquisition Costs (CAC). While initial high CAC is expected, it should decrease as the company scales.
Smile Direct Club was a DTC dentistry and orthodontist company that sold teeth aligners. The company raised $1.3 billion in 2019 when the company went public with a valuation of $8.9 billion. Fast forward four years, the company filed for bankruptcy in Sept 2023 with a valuation of $100 million and subsequently it closed in Nov 2023.
On average they had a CAC of $1,100 and revenue per aligner at $1,900. This ratio of 1.7x might have made sense at the beginning but continuing at this level for 4 years is probably one of the reasons for eventually running out of money. Management should have been able to present a compelling argument that shows how a CAC of $1,100 could have been reduced to let’s say $500 to achieve profitability over a short period of time.
In the absence of a physical store, delivering a seamless and memorable Customer Experience (CX) becomes paramount for DTC success. Companies often fall short on several steps of the customer journey, sometimes not following up at the beginning of the funnel or sometimes not even receiving the right product. The cost savings of not having a retail store means that those resources need to be redeployed in the back office to provide the appropriate CX level. Those companies that do not believe or create the right CX get quickly penalized with churn.
Blue Apron, a meal kit delivery business that delivers ingredients for customers to prepare their own meals. The company went public in 2017 at a price of $10/share and a valuation of $1.9 billion. By December 2018, shares went below $1.0/share. The company finally got sold in Sept 2023 at a valuation of about $100 million.
At the time that Blue Apron went public in 2017 it had over 1,000 customers. This number decreased consistently over the next 25 quarters to about 250 customers. From its inception as a publicly traded company, management struggled to effectively mitigate customer churn. This persistent challenge became a significant hurdle, ultimately preventing the business from meeting Wall Street expectations.
Long-term success in DTC businesses hinges on the ability to evolve with customer needs. Listening to customer feedback and incorporating it into the New Product Development (NPD) process is vital.
Warby Parker a DTC company the provides eyeglasses is an example of how their innovation has resulted in a significant customer retention. Typically, customers purchase new glasses once a year, in the case of Warby Parker, 25% of their customers return after the first purchase. After 2 years, 50% of their customers are returning customers. After 4 years they have a retention of 100%!!
Despite this level of customer loyalty success, Warby Parker hasn’t performed at all in the capital market. The company had an IPO in 2021 at $40 and is currently struggling at $12/share. Why? One of the interesting things about their business model is that they started as a pure DTC business and subsequently they started opening physical stores. Obviously, this requires fixed expenses that perhaps investors are not too frown upon. Currently they operate 200 stores across the US with intentions of opening many more.
A Direct-to-Consumer business model offers substantial advantages, but success demands meticulous attention to key aspects. Beyond the allure of avoiding long-term leases for retail spaces, the right management, optimized CAC, exceptional CX, and a continuous NPD mentality are pivotal for profitability. Striking this balance positions a DTC business for sustained growth, customer loyalty, and resilience in a competitive market.
