This is an article by Michael Maher. He is a visionary entrepreneur with an insatiable curiosity for knowledge and new ideas. He has successfully run an ecommerce company for the past 7 years and is a consultant for other businesses. Feel free to check out his blog and to follow him on Instagram and FB @mattersofthecart.
Is drop shipping too good to be true? In my experience, anything that seems too good to be true always is. And this scenario is no different.
Let me be clear. Drop shipping is a great way to add a new revenue stream on top of your existing business structure. Will you get rich quick? No. Is it great for people just getting in the game? Eh. If it’s your only source of income to start with, will your business be viable? Probably not.
Drop shipping is essentially about items shipped from a warehouse that is not yours. You list the item, customer buys the item, you send an email to the warehouse, they bill you and ship the item. Basically, you get to sell an item without physically having the item in your hands, you just have to monitor it by utilizing a fleet management software.
Probably the biggest attraction to drop shipping is the ability to sell a product without buying it outright. Inventory is typically your main expense when running an e-commerce product driven business. Sitting on inventory that doesn’t turn over quickly, ideally every 2-3 months, can wreak havoc on your budget, especially with high dollar items.
If you drop ship, you don’t have to worry about it being on your shelves for too long, hence the great curb appeal of the concept. After shipping costs, labor can start to add up and when drop shipping you don’t have to pay someone to package up your product or for the materials.
Margins create your money
How do you make money with products? Let me guess, you said sales right? Wrong. It’s your margins. If you sales are high but your costs are also high your, take-home money with be slim to none. I know these are seemingly basic principles, and I in no way am trying to condescend you, but this type of bigger picture thinking is how you stay focused throughout all the minutiae of running your own ship.
Why inventory matters
Inventory can be tricky with drop shipping but most manufacturers send out weekly, or even daily, inventory lists, allowing you to update your listed quantities accordingly. In that case, the only real negative is cost; and it’s in bright red. You pay the cost for the item, which could be cheaper if you stocked and bought in bulk, and then there is shipping.
You’ve lost control over your rates, unless you have negotiated rates and are allowed to use your own account, so now you’re at the will of the warehouse. You can’t be sure if there is a markup but it’s very possible. After all that cost, there is usually some kind of fee charged per order. Yes, a fee per order. It may not make a difference if your product costs $2000 and your Net take away is higher, but on a $15 product you will more than likely lose money. Seems like a lose-lose situation right?
To boot, there can be additional delays in shipment since your email, containing said order, can take several days to make its way from your email onto the actual dispatched truck. Say the orders email receives your message; they forward to an account rep; the account rep gets approval from purchasing and they send you out an invoice with shipping rate; they may ask for your approval and follow-up with purchasing to charge you.
Now purchasing gives the rep the go ahead to process the order and it’s then forwarded to the warehouse. The warehouse, depending upon their workload, will package the item for shipment and set aside for pickup. To manage the distribution in the warehouse, a warehouse management system is used to support and optimize warehouse functionality and distribution center management. It could go out same day but if pickups have already occurred, it’ll be another business day until it gets picked up. This entire process could be anywhere from 2 – 5 business days. Remember that after all this, the item is just now leaving the warehouse. It could take up to two weeks, depending upon size and shipping method, to actually reach your customer. This isn’t looking pretty. In fact, it’s looking pretty ugly.
There are certain instances where drop shipping can work in your favor or it very well might tip the scales towards a loss. I want to walk you through some products so you get an idea of what types of products will work best with this fulfillment method.
Large, expensive, and heavy items will have a higher cost but also a higher retail value. If your space is small, these can be cumbersome to stock and it’ll most likely eat away at your cash flow. For instance, imagine a dresser drawer unit costing you $300 but selling at $600. Let’s say 10% of the purchase goes to selling fees, $75 to shipping, and there is a $15 drop shipping fee. Your take home is $150 or a margin of 25%. Drop shipping makes sense here.
With a smaller item you’ll undoubtedly have less cost involved, but even if your margin is high, the shipping and drop shipping fee will eat away at any potential profitability. Say you sell a small reindeer figurine that costs you $10 and you can sell it for $40. At first glance your prospects look good. But with the 10% fee, $7 to ship, and the $15 drop ship fee, you take home is $4 or 10%. You would need to sell 3 of these in order to make enough to buy another one. You’re now on the scenic route to draining your bank account.
What should you do?
My recommendation; add this form of revenue to an already health bottom line but exercise caution. I’m not saying do it in moderation. You must put in the hard work to build a solid and successful business, and then when your cash flow is up, add drop shipping in as a tool to increase revenue and Net profit. If this is your first revenue stream for your business, step away and fast. Healthy margins are what truly drive businesses and with small margins you have little opportunity for growth.