Source: Adapted from the Wall Street Journal and Onestop Internet Inc.
Even if they are providing the same goods, conventional retail and e-commerce have very different cost structures. The above cost structure is derived from the sales of high end apparels (jeans). Both the retailer and e-retailer have the same factory costs (cost of the good, often labeled as factory door cost; 30% of retail price) and are assumed to spend a similar amount of resources for marketing purposes (10% of retail price). Outside these basic similarities, their respective cost structures vary significantly:
- Retail cost structure. Payroll (18%) and rent (15%) are the most significant retail costs that are location specific and cannot be effectively mitigated. A good retail location usually commands a high rent and labor costs, which are associated with higher sale volumes. Other retail costs mainly involve utilities and store supplies. Transportation costs account for 3% of retail costs, depending on the origins of the goods.
- E-commerce cost structure. Operating costs (20%) are the most important component of e-commerce costs and include the software and transaction platform, which requires maintenance and updating. Then, shipping costs (7%, often free or highly discounted) are the most significant costs, which also includes returns. Since many e-commerce distribution centers are located in low cost areas, warehousing and fulfillment costs are usually in the range of 3% of the retail price.
Thus, if the same retail price is used, an online retailer can achieve a 30% profit margin compared with 15% for a standard retailer. To further improve their market share, online retailers offer goods at a lower price. In this case, an online retailer could reduce the price by 10-15% while maintaining a similar profit margin. Thus, a $150 piece of apparel sold at a retail store, could be sold online for $130 with the same profit margin.