Winning in the Third Wave of DTC E-commerce: Positioning cascades and insights flywheels
The surge in e-commerce spending during the pandemic has shown how much more potential for growth there is for DTC. But this immediate effect of the lockdowns is already waning. So brands need to get back to strengthening their DTC growth strategies in a very different market. We’re now well into the Third Wave of DTC disruption and it has been sped up by the pandemic.
There’s the double challenge of intense competition in DTC for FMCG brands, and much less effective digital advertising than just a few years ago. The next 5 years or so will be dominated by companies that use highly focused micro-positioning and positioning cascades to incrementally increase their target market. They also use the biggest advantage of DTC which is the insights flywheel that generates ever stronger customer insights, even stronger positioning and better campaign results. These two strategies will be the only way to avoid the intense competition for consumer attention and ad space.
DTC e-commerce has transformed for the third time around
In the most developed markets for consumer products e-commerce, we are now well into what I call the Third Wave of DTC Disruption. The models that made a number of direct-to-consumer brands highly successful even just a few years ago likely won’t work in the same way anymore now. It helps to look at the higher level development in e-commerce over the last couple of decades to understand the direction the market is heading in.
The First Wave, the foundations of the DTC disruption
Consumer products brands have sold directly to consumers for a long time, of course (catalogues and TV shopping, anyone?). But over the last 20-odd years, the ability to reach more people in a highly targeted way, through online channels, has completely step-changed DTC.
The foundations of this were set by Amazon and eBay, both launched in 1995. While they weren’t brands selling their products directly to consumers but rather brokers or retailers, they would go on to ‘normalise’ e-commerce and eventually put pressure on manufacturers to start selling online through those platforms and, eventually, their own online shops.
In 2000, Google launched its first advertising service based on text searches, which contributed to the fast growth in online sales for those platforms using the ‘long tail model’. It was now possible to buy almost any book on Amazon, and find it very easily through a quick Google search.
But the biggest DTC disruption really started taking off a few years after that.
The Second Wave, cheap ads and the avalanche of capital
Two factors came together in the late 2000s: Firstly, a wave of new DTC-first ventures, staking a claim in specific categories, that were founded during and just after the economic crisis of 2007/2008. Presumably, the crisis encouraged many more smart young people to launch their own ventures, with the financial sector losing a lot of its previous appeal. This coincided with the increased availability of venture capital funding for those DTC ventures, which was previously mostly reserved for tech.
Most of the celebrated examples of this DTC boom were founded at a similar time: for example, Bonobos (2007), Warby Parker and HelloFresh (2010), and Dollar Shave Club (2011).
Secondly, the launch of Facebook Ads in 2011 and the relatively low costs of ad space for the following years enabled those new ventures to acquire customers quite cheaply. Especially given they were often the first or at least the most appealing products in their space.
Of course a lot of their competitors failed to reach the same levels, so this is not to take away from their achievements. But driving this kind of growth wouldn’t be possible anymore today, because of two factors that have completely changed the rules of the game in DTC: much lower effectiveness of digital advertising, and intense competition at the category level.
The new reality of the Third Wave
1) Less effective digital advertising
Since the late 2010s especially, the cost of digital advertising has been soaring, particularly on Facebook and Google. More of the traditional brand advertisers have shifted their budgets towards digital, and a huge percentage of the growing venture capital pool goes straight into those ad platforms. This has been pushing up ad inventory costs.
This effect combines with the (much needed) increase in privacy regulation and best practices, which has lowered the effectiveness of targeting specific audiences. GDPR-type regulation and companies like Apple spearheading privacy have made it harder to directly measure campaign results and online behaviours. Incidentally, this has further increased the power of Facebook and Google, because of the huge amount of primary data on their users they control - further pushing up their ad costs. Other digital ad platforms still fail to provide the same audience reach and sophistication of the algorithms, so those two are still the main routes for most brands.
2) Intense competition at category level
It’s never been easier to start selling a new product. Most of the value chain of a consumer product can be easily outsourced or bought ‘out of a box’: from product sourcing (Alibaba, contract manufacturing), to e-commerce technology (Shopify), and distribution (Fulfilled by Amazon, warehouse providers).
Contrary to when retailers had all the selective power of who to stock, consumers can now find almost any product on a dedicated e-commerce site. And it’s not just new DTC ventures. Increasingly many established brands and manufacturers, even if not particularly well, have launched their own e-commerce shops (e.g. Gillette, Pepsi, Kraft).
As a result, customers have come to expect not just a personalised shopping experience (eg targeted product recommendations, offers) but also a product or brand addressing their exact needs.
The opportunity is still enormous, but needs a focused 3-way approach
Contrary to what some analysts believe, this doesn’t mean that consumer products DTC has become less attractive to invest in for existing and new brands. It’s the opposite: the increased availability of relevant products and a personalised shopping experience will continue to shift consumer habits towards e-commerce.
However, to be successful, brands need to work around the intense competition for market share and ad channel visibility. There are three challenges for brands to win in DTC, and two ways to nail them.
The three challenges for brands to win in DTC
Avoid competition within a specific category, but instead work to own a sub-category and very defined customer niche. Grow further by adding more niches over time.
Diversify sources of customer growth beyond digital ads, to build mainly on word-of-mouth, influencers and partnerships.
Feed digital ad platforms with better researched messaging and creative, and use more narrow audience targeting. Most of the research needs to happen before running tests on digital ad platforms, which are now too expensive for unrefined testing.
Brands that will be successful in DTC in the coming years use two key strategies to address these success factors:
Micro-positioning & positioning cascades
Insights flywheels.
Micro-positioning cascades: The journey from specialist to mainstream brand
Contrary to ten years ago, all FMCG and consumer goods categories now have more or less established DTC e-commerce offerings. Consumers have got used to finding exactly the right product for them, in terms of pricing, functionality or style. While it used to be a competitive advantage for a brand to sell directly to consumers, now this isn’t enough anymore. Personalisation is key, both in terms of product offering and brand messaging.
While there are many ways to position a brand, what drives lasting growth in DTC is to position based either on a very specific audience segment or a very specific audience need. Only then can brands perfect their product offering, messaging and campaign targeting, to stand out in such a crowded market. Relying on the personality of the brand or even the geographic targeting is not going to provide enough of a competitive moat.
Every DTC business, whether it’s a native DTC company or a DTC offering of an established brand, should start with the most narrow positioning: providing a solution for one need of one consumer group. Usually this would be too small an opportunity to justify the investment for the parent company or for venture investors. But the goal is to systematically expand this through what I call ‘positioning cascades’ to drive profitable growth: continuously solve more needs of the same audience, or solve the same need of more audiences. This strategy directly solves all three challenges of personalisation, diversifying growth drivers and running better advertising campaigns.
This can be illustrated on the following chart: there are two possible routes to build out a large sustainable business, either specialising in a consumer need or a specific audience group. Each of these routes can eventually lead to being the biggest brand in the entire category or even across multiple categories. But the only way to get there is to ‘stack’ several very tight positioning options.
This has always been the only profitable way to build major brands (Nike started selling one Japanese-made trainer at sports events). But with today’s digital and distribution technology, it’s possible to target very narrowly defined groups of consumers based on interests and needs, instead of just their location.
Just to be absolutely sure, the positioning for a product or the entire brand is not something to decide upfront and then move on - it’s crucial to continuously refine the specific positioning over time, to reach more relevant customers, in a more targeted way. Some of the readers might decide to re-position now, or identify where on the journey they are to be more specific going forward. What are the positioning routes to scaling?
Starting the cascade on a narrow positioning
Both routes start by defining a specific target audience and audience need. This could also be described as a sub-category.
While new categories are very rare (e.g. the explosion of plant-based milk alternatives), most successful FMCG brands achieve growth by initially picking and owning a very specific segment of the category. A very successful example of this strategy is Native Deodorants, who found a niche of health-conscious shoppers looking for aluminium free deodorants, which turned out to be a huge growth market, leading to their acquisition by P&G for over $100m two years after founding.
Choosing a specific audience segment is the foundation for creating highly relevant marketing messaging. This is absolutely necessary to work against the general trend of decreased ad effectiveness. But it also significantly contributes to the most fundamental drivers of profitable growth: word of mouth, influencers and partnerships.
Word of mouth increases the clearer the customer understands the value they’re getting from a product. This can be influenced by brands with very clear and personalised messaging. Once a brand gets a certain level of awareness within a specific group of consumers, referrals will become much more effective - it becomes a standard within a group of like-minded people.
Targeting a specific audience segment usually opens up opportunities to strike deals with relevant influencers or other brands and publications who are targeting that particular target market. The more an influencer or partner feels ‘spoken to’ by the product and brand, the more likely they’ll provide a genuine recommendation to their audiences.
Two routes of cascading positioning
Starting from one audience and one need, the first route involves moving onto additional customer needs to solve, but for the same audience. For example, one of our clients, a menswear brand choosing to target senior business executives, sells highly technical but stylish outerwear. Eventually, it could choose to also make accessories or bags serving that particular audience. This usually involves selling in many different countries quite quickly, to be able to reach a big enough market and still be highly focused on an audience niche. It’s an approach more driven by product, as opposed to growth marketing.
The second route involves focusing on a very specific need but increasingly targeting more audience segments who might have that need. In the previous example, the menswear brand could start making jackets for young professionals or amateur athletes but stick with the strength in knowing their product well. In DTC, this cascade mainly means changing the focus of growth campaigns to target those additional audiences with the right messaging, in the right places.
Both routes can lead toward the same final scenario of becoming the leading brand across the category, or even several categories. The strong positioning in that case is exactly that: being objectively the leading brand in that space. Nike or Patagonia got there, but by gradually expanding their positioning to the point where they’re just hard to compete with on brand, availability and product variety.
Now we can get to the second strategy to succeed, which is to continuously generate the insights to keep refining the positioning strategy.
Building an insights flywheel in DTC
The biggest advantage, in my opinion, of a DTC business is the ability to continue understanding its customers better and to use those insights immediately. As I’ve argued, developing a strong positioning is the key to being successful in DTC these days. Using the right insights will be crucial before choosing the initial positioning, and afterwards, to continue refining it.
The company starts by doing initial research on their potential market and customer segment to develop the first positioning. This should include the big picture (market analysis, researching growth and product trends), the cultural level (customer interviews within the target segment) and at the individual level (search data, surveys).
With a good positioning this will lead to more relevant products, a higher customer retention rate, and better growth campaigns - all driving increased sales & customer growth. In turn, more sales generate more data through website and campaign analytics, as well as any other interactions with customers. With the right process of using this data, companies can then narrow down their positioning ever more - kicking off the flywheel effect.
This should be repeated for each new positioning, ie. when expanding to an additional audience segment or need.
It’s crucial to find the right level of data & insights generation. I’ve seen many companies putting in place complex data functions and refusing to do anything that can’t be immediately measured and analysed. This significantly limits their ability to make long-term strategic bets, and usually functions more as a way to try to avoid the uncertainty that’s inevitable in growing a business. It’s an important journey to learn to be comfortable with this and use data insights where they’re appropriate.
At the same time, many companies wait far too long to generate solid insights and create a systematic process of getting more. Especially in the early days there might be a fear that the assumptions of the entrepreneur or manager aren’t proven right. In other cases the day to day takes over from putting in place a longer term process to drive that flywheel.
A final concern about creating insights is that more detailed understanding of customers adds complexity to the marketing, and the need to create a large web of personalised campaigns or customer journeys. It would be desirable to progress to this in the long-term. But even a very simple messaging & creative strategy is hugely improved by understanding the most important customer characteristics and desires. More insights doesn’t necessarily mean more granular customer segmentation, but rather a more detailed understanding of whichever segment you’re choosing to address. And we can only get this from the combination of regularly talking with customers and analysing behaviours online.
What to do now?
The game in DTC e-commerce has radically shifted over the last few years, and the pandemic has even sped this up more. Competition online in consumer goods is as intense as never before, and the most reliable digital ad channels of the last twenty years have become much less affordable without the most advanced research work.
Both digital native brands as well as more traditional wholesale brands wanting to scale their DTC business need to really focus on refining and strengthening their positioning - no matter at which stage of growth they are. The most reliable and profitable way to do this is by crafting their insights flywheel, to use the data and insights they generate to refine their positioning and provide a more personalised offering.
The results of these efforts? Customers will appreciate the highly relevant product and marketing messaging; brands will be able to use much more cost-effective growth channels, mainly word-of-mouth, influencers and partnerships to diversify beyond paid ads; and finally, those remaining paid advertising campaigns will regain their effectiveness with much more tailored messaging, creative and targeting. This is the time to focus on the foundational strategies for lasting DTC e-commerce success.