We’ve been powering hundreds of the world's best consumer DTC brands for the past 2 years at Blueprint, so have had the chance to see what they're up against, what’s working, and how we can ultimately gain insights into how we can support them better.
Coincidently, during the same period we’ve lived through unprecedented eCommerce growth and penetration into traditional retail. However, times are changing. As the world balances on the edge of a recession and the hundreds of thousands of eCommerce brands who were born from the pandemic, and only know a world where revenue was up and to the right, now have to adjust to the harsh reality of decreasing growth rates, lack of consumer spending, and ambiguity of the long-term viability of the DTC business model.
The Twittersphere, as usual, is acting as a megaphone for the doom and gloom of what’s (likely) to come in DTC. However, having had a front-row seat over the last 2 years supporting DTC brands, it’s important to not get lost in the noise and instead break apart the data in a way that’s useful and actionable for DTC brands. Before we can adapt and find a solution, we need to know what we’re up against. Here’s our deep dive on the drivers and impact behind spiraling CAC, slowing of VC funding, and unpredictable supply chains.
We all know CAC has been on the rise for what feels like forever, however, we’ve recently increased pace towards the unsustainable with higher-than-ever competition and iOS changes. These twin factors have created a big dent in DTC brands’ ability to acquire customers in 2022. 2.5m new stores were minted on Shopify from March 2020 to January 2022 alone, representing a 200% increase. This creates hyper-pressure to stand-out and acquire customers, when you’re simply going to battle with double the amount of competition you did before.
Not only is competition making things challenging, but the changes to iOS 14 decimated many marketers' strategies to acquire customers (here’s a good breakdown from Shopify). This was a catalyst for a whole host of problems. The changes in early 2021 required apps to get user permission before tracking their data across apps or websites owned by other companies (the data that’s used to personalize advertising). This essentially meant that where users previously only had to opt out, now they have to opt in. By July 2021, only 17% of users had chosen to opt in.
Because of these changes, CAC is rapidly accelerating to levels that make basic unit economics unsustainable, and call into question the DTC model itself. Data from Adspresso shows that because of the increase in competition, Facebook CPC (Cost per click) increased from ~ $0.29 at the start of 2021, to $0.50 towards the back end of the year (representing a 72% increase). We’ve got to take this with a pinch of salt as advertising costs always increase towards the end of year and holiday season, but there is little to suggest this increase is going to change.
So, what is the practical impact here for DTC brands? If we make some basic assumptions on AOV, margin, and CAC, we can start to gauge the impact and how we can tackle it...
The above model shows that in 2022, with a CAC increase of 50% on a $40 AOV product with 60% margins, you’d be underwater on a customer's first order and thus require to sell them the equivalent of $52 of product to turn even a $1 profit. This represents a fundamentally different story to the year prior. Cuts Clothing CEO, Stevan Borelli, recently wrote this thread on the impact of this CAC increase for DTC brands and how to navigate it.
This analysis makes for a very black and white view of what’s required to combat this problem - either decreasing CAC or increasing LTV (or both!). Of course, increasing margin could also be a lever here, but as we’ll see as we move down through the other factors at play in this article, that may not be possible. To decrease CAC, the focus must be well and truly on experimenting (cheaply) and optimizing rapidly. Here’s a great thread from Obvi Co-Founder & CMO Ashvin Melwanii, whose faced these problems head on and experimented with how to continue to grow profitably.
Additionally, this shows the critical need to drive repeat revenue from existing customers - as fundamentally the unit economics of acquisition don’t add up. One of the most effective ways to insulate your DTC brand and mitigate the impact of these changes on your business is to have a solid strategy and understanding on how to increase the value of a one-time customer overtime and continue to grow without having to invest in paid advertising. This has always been a lever to pull, yet perhaps hasn’t been in the spotlight quite as much as right now when cheap paid advertising took center stage.
Getting customers to reorder from your DTC brand is hard work, check out our blog on how to increase your post purchase flows.
As DTC’s unit economics become increasingly scrutinized, investors are distributing capital with greater frugality to the few that have mastered the profitable customer journey despite their CAC challenges. As Modern Retail wrote about back in January, investors are now much less tolerant of DTC brands running at a loss for long periods of time. The recession is forcing VC’s and angels to scrutinize where they’ll receive their returns if the DTC bear market doesn’t change over the next 18-months. We can see from Pitchbook data that the funding deployment for eCommerce deals over past few years is returning back to “normal” levels after the 2018 boom:
However, despite this slow-down in VC funding, this pessimism doesn’t mean there isn’t a way to grow rapidly or attract funding as a DTC brand - we just need to isolate the key ways for DTC brands to navigate the tide.
The core outcome is really two-fold. Firstly, less companies will get funded as a result of less available capital in the market. Of these companies, the ones that do receive funding will have exemplary unit economics vs their VC funded counterparts of yesteryear. These DTC brands that receive funding will have mastered CAC:LTV ratios, have significant profit margin and a huge TAM to go and acquire as a result. After all, DTC as a business model started as a result of the promise of a huge global TAM that had a requirement to access products easily. Furthermore, this change will actually benefit many of the DTC brands operating that previously were labeled as “unsexy” or “boring” because they focused on positive unit economics over pastel branding - as they’ll have the lion's share of investors' capital.
Secondly, this change will force DTC brands into focusing on building their business without the requirement of funding. Much of the modern narrative around DTC brands has been that it requires vast amounts of funding to grow and become profitable - with that narrative now being called into question. Examples such as Ridge Wallet and Cuts Clothing have thrown out the VC-funded playbook and built category defining DTC brands without the life-support of their next funding round.
Regardless, if you’re a DTC brand looking at raising a funding round or focusing on profitability and bootstrapping, the strategy to achieve both is essentially the same and links directly to the first problem we raised in this article. Optimize CAC and focus on repeat revenue. By making your customer journey from acquisition through to retention profitable, you’ll fundamentally be in control of your destiny and decide whether you want to pull the lever of raising capital and increasing growth of that profitable funnel, or continuing to bootstrap and spit out profits. If we expand on the model from earlier, even a small increase of repeat revenue (LTV) can have huge impact on profitability almost immediately.
Worried about your repeat revenue rates? Discover how you stack up against the competition with our benchmarking tool that analyses key DTC metrics such as churn, LTV & AOV.
Whilst there is an element of control over CAC increases and funding availability in the DTC market, there is much less control over the physical creation and movement of goods that underpin entire markets, categories and businesses. Whilst shipping prices are (slowly) starting to settle, in June of 2021 the cost of shipping goods from China to the West Coast of the US hit record highs of $10,522, representing an increase of almost 547% from the average across the prior 5 years. Over the last 12-months we’ve seen glimpses of hope as prices decreased, with the Drewry Index showing a slightly more palatable $7,625 in June 2022:
Not only have shipping costs spiraled, there has also been an increase on timeframe of moving goods from A to B. Drewry reports that a sea container can now take up to 60-days to move from China to New York or the West Coast (vs < 20 days in 2019). This change is down to a number of far-reaching macro factors that impact cost and time of shipping, such as lack of truck drivers, increased demand, and even the war in Ukraine (amongst others). It’s also impossible for DTC brands to predict what will happen, as there is such variability of time and cost that forecasting is guess-work at best.
The struggle for DTC brands to adapt to changing supply chain conditions feels a little more “real” than the impacts of CAC and funding landscape that are behind the veil of a laptop. However, this makes them uniquely tricky to deal with. If we assume that with correct planning DTC brands can overcome the delays in container shipment, the focus then moves to dealing with the price increases. The main impact to shipping price increases is that it eats into a DTC brands profit margin, which has knock on effects of affordability of CAC.
To conquer these price hikes, a DTC brand essentially has 3 levers to pull. Without sounding like a broken record, 75% of the levers are prominent throughout this piece to combat the other macro changes:
It’s likely that a combination of all 3 of these is required to maintain a profitable equilibrium. For example, if a price increase is not met with a clear strategy to decrease CAC and increase LTV, the impact will be superficial. Much like many of the other problems faced throughout this piece, going back to the fundamentals of how you generate demand and increase value of customers overtime as a DTC brand are the best ways to insulate from the choppy seas ahead.
Not only are all of these problems all appearing at a similar time, they are also interlinked and impact each other in varying degrees. Increases in competition drives CAC through the roof, which is compounded by shipping price hikes, which leads to unsustainable unit economics without additional funding, which worries investors and causes them to pull the reins back on deployment of capital - and around again we go.
It’s in times like these that it’s important to go back to the basics of unit economics of how you acquire a customer (CAC) and how much revenue they are worth to your business (LTV). There is no silver bullet to mitigate these factors other than a core focus on what’s really important for long term survival. The difference between operating a DTC brand over the past 5 years has changed dramatically, and thus the operating principles behind these brands need to adjust as a result.
The need to build a resilient DTC brand that is built on great repeat revenue and sustainable CAC has never been greater. We’ve been working with Klaviyo for the past 6-months to help support our customers with repeat revenue tooling to keep afloat during these times, check out the beta here.
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