How Product Managers Can Innovate By Understanding Market Dynamics
Case study: Shopify Fulfillment Network
I’ve observed that product managers tend to get hyper-focused on day-to-day execution and delivery which means that they don’t pay sufficient attention to the macro trends in their industry. When that happens, the product managers and even leaders miss opportunities for the big win, the proverbial missing the forest with the trees.
The best product managers are entirely in tune with not only the competitive dynamics in their industry but are also sensitive to the competitive dynamics in their customers’ industry.
In this article, I plan to cover this topic and use the recent announcement of Shopify Fulfillment Network to describe how strategic thinking leads to its development and launch.
Case Study: Shopify Fulfillment Network
To understand why Shopify’s recent announcement of their fulfillment network is a game-changer. Let’s begin by looking the consumers user experience and expectations.
Focussing on the Consumer Experience
Today’s consumers have come to expect free shipping and overnight delivery, courtesy of Amazon. Due to Amazon’s product selection, aggressive pricing, free shipping via Amazon Prime and overnight delivery, customers have become accustomed to buying products and receiving them quickly. The fact that almost 47% of the product searches start on Amazon in 2018 (compared to 35% on Google) signifies the big shift in the marketplace.
Think about that for a moment!
If you are a merchant, you are compelled to have a presence on Amazon.
While having an Amazon storefront generates sales for a merchant, it has its downsides.
- If you select ‘auto-pricing’ on Amazon (which Amazon heavily recommends), Amazon controls pricing for your products. For merchants, this could mean losing pricing power.
- Amazon does not share the customer’s contact information with the merchant. For merchants, the loss of this contact information hurts their ability to market to the consumers directly and build brand loyalty.
- Amazon collects and places the customer reviews on Amazon.com, which becomes their property and attracts more customers to their site.
- The rules and features that Amazon makes available in their marketplace limit the Merchant’s ability to differentiate its brand from its competitors (based on end-user experience).
All these aspects create an enduring loyalty and business for Amazon, within which the merchant plays a small and replaceable role.
Direct to Consumer Opportunities and Problems
To combat these disadvantages, merchants complement their Amazon channel with a direct to customer channel, which is typically an online store and a retail shop.
Here merchants have direct control of all aspects of the end-user experience, including pricing (though they must ensure that they don’t run afoul of Amazon’s competitive pricing policy).
However, merchants are responsible for finding solutions to store their products and have them shipped to the customer (options include using Amazon Fulfillment Services).
Understanding the Investment Behind Order Fulfillment
To deliver products to end consumers, larger merchants such as Jet.com, Overstock.com, Wayfair, Ikea, etc. typically build their supply chain network that includes fulfillment centers that receive, store and ship products. These massive investments allow these merchants to spread the cost over a large customer base. As a result, these companies can ship products at low cost and offer fast delivery times, and pass those savings to their customers.
The long tail of merchants can’t afford to make such investments. They hire companies that build and operate fulfillment centers, which offer services such as storage, pick-n-pack, and shipping. These for-profit companies don’t pass their economies of scale to their customers, capturing that value themselves.
Merchants who pay for fulfillment services pass these expenses to their customers in the form of shipping fees or high minimum order value required to qualify for free shipping.
As a result of these dynamics, we can expect that there will be a demand for companies offering fulfillment services whose business model allows them to provide these services and pass the cost savings from economies of scale to their customers.
Enter Shopify.
But to understand why getting into the fulfillment industry makes sense for Shopify, we first have to look at the topic of Network Effects.
What Are Network Effects?
Network effects are defined as the phenomena when every new participant increases the value of the ecosystem for everyone else.
We typically think of network effects in terms of viral product features and more recently in terms of the collected data that allows companies to learn and build predictive features. However, network effects have existed in business for as long as businesses have existed.
Spreading Fixed Costs and the resulting Economies of Scale are types of network effects where companies can spread their fixed cost over an ever-increasing customer base. Companies can transfer these savings onto their customers, which brings more customers on board, and so on.
To find success stories like these, you have to look no further than Amazon. Two of their offerings exemplify this: Amazon Web Services(AWS) and Fulfillment By Amazon (FBA).
Network Effects in B2B SaaS
Up until the announcement of the Shopify Fulfillment Network, Shopify and the other players in the commerce technology industry such as Volusion, BigCommerce, Magento and WooCommerce competed primarily based on the following: ease of use, features, and pricing. The typical business model is subscription and some aspect of per-transaction revenue.
This industry has been a relatively mature industry, with all companies offering similar product features, pricing, and business models.
The competitive advantage for these companies is derived from reducing costs that come from the investment needed to set up on a competitor website. More recently, these companies have started using aggregated data from their customer base to provide intelligence that the merchants would miss if they go a competitor technology.
That explains why Shopify Fulfillment Network is a game changer in this industry.
Shopify is in a position to enter the fulfillment space for two main reasons:
- They have a pre-existing customer base of hundreds of thousands of merchants. This customer base allows them to launch their offering with favorable unit economics.
- Unlike companies that offer fulfillment services only, Shopify derives its revenues from subscription fees and transaction charges. These multiple sources of revenues would allow Shopify to provide their fulfillment services at a lower profit margin.
My Conclusions
- Overnight Free shipping by Amazon Prime has changed consumer expectations for delivery times and shipping costs.
- These benefits puts pressure on merchants selling direct to consumers and technology companies supporting those merchants.
- Merchants selling direct must find a way to for their products to compete by offering overnight shipping at a reasonable cost.
- Very few merchants can offer free shipping as that as it comes with significant fixed investments.
- Shopify, with its large customer base and a revenue model based on transaction fees and subscription selling, can invest in a fulfillment network and defray those costs over an increasingly large number of merchants.
- Shopify’s ability to offer national fulfillment services at prices that are lower than traditional fulfillment providers, makes their existing customers sticky and attracts new customers to the Shopify ecosystem.
- These network effects are a significant threat to other eCommerce technology providers who have so far been competing on purely product features.
- The existing players in the fulfillment technology and operations a players in the eCommerce technology space will need to react to this move by Shopify. Expect a series of strategic mergers and acquisitions in this space.
My intention with this article was to illustrate, using a concrete example, that when product managers are aware of the dynamics in their industry, they can innovate in a macro sense. These innovations arise with new products in their existing business model, but sometimes significant advances occur by re-examining the business model and tweaking it. If you want to geek-out on this, I suggest reading Innovator’s Dilemma by Clayton Christensen.
DISCLAIMER: These thoughts above reflect my understanding of the eCommerce ecosystem. These do not reflect any knowledge of the strategy within Shopify or its partners.
About Me: Aditya Rustgi is a product leader with over 15 years of product and technology leadership experience in Multi-sided Marketplaces and B2B Saas business models in eCommerce and Travel Industry. Most recently, he was a director of product management at VRBO, an Expedia Company.
