Ecommerce post-Covid-19: Few winners and many losers

Churchill once said: ‘Never let a good crisis go to waste,’ and Covid-19 was the perfect crisis for ecommerce. Once suffering from slow growth and weak economics, the industry witnessed a sudden spike in popularity, as governments around the globe instituted stay-at-home orders forcing people to go online to buy their essentials.

Investors took notice and allocated a lot of capital to this space. Shopify, the ecommerce platform that helps brands sell products online, saw explosive growth in its market cap, closing April at 55% up on the year, all while the S&P500 is down 13%.

Shopify emerges as a clear winner.

Suddenly, the number of solutions addressing the online economy skyrocketed:

  • Retailers rushed to upgrade their ecommerce capabilities and open virtual stores online (on their own or through a collaboration with marketplace platforms).
  • F&B startups adapted their operating model and incorporated the delivery of groceries and essentials in their models
  • New companies/ players emerged across the fulfillment value chain, to enable the significant growth of the on-demand economy.

Unfortunately, most of these initiatives will end up destroying value for shareholders once Covid subsides, as investors realize, a bit too late, that in the absence of a clear competitive edge, ecommerce economics are not very attractive, especially so when the space is too crowded.

This is partly why most ecommerce companies (Amazon, Wayfair, and others) saw a surge in sales during the pandemic, but their net losses widened.

Ecommerce economics

For all its complexity, ecommerce profitability can be distilled into a simple formula that calculates profits per customer using seven simple metrics. Getting visibility on and understanding each metric is critical for a startup’s ability to succeed in this space.

Here’s what the formula looks like:

Unit economics in ecommerce

The first three metrics constitute the core of an order’s profitability:

[1] The average value of the order. Straight forward

[2] Gross margins, or percentage of profits that remain after removing manufacturing costs, inbound logistics costs, and adjusted to include product discounts and returns.

[3] Net costs of processing & fulfillment. Warehousing and shipping fees, processing fees (ecommerce platform and payment provider), and average return fees. We use net costs, given companies might elect to charge for delivery under a particular order value.

Tip: Shopify recently released an app called ‘Order Metrics’ that helps you track the various components of the above metrics.

[4] The fourth metric tackles customer’s lifetime value (LTV). For simplicity, we like to look at the average number of orders a customer makes over one year because it’s easier to understand and more realistic.

As the business matures, maximizing LTV becomes one of the most critical components of a company’s strategy. Great marketeers pay special attention to this metric, regularly running cohort-specific analyses to understand the impact different products/ actions/ discounts have on LTV multipliers across different customer cohorts. Such visibility unlocks the team’s ability to optimize return on marketing spend and maximize revenues.

[5] The fifth metric is your customer acquisition cost. Put simply, this is the average amount of money you spend on marketing, digital ads, PR efforts to acquire and onboard customers.

[6] / [7] The last two metrics calculate the average fixed cost per customer, by dividing the fixed expenses (payroll, office rent, legal and regulatory expenses, etc.) by the total number of customers.

Ecommerce economics: Pre, during and post-Covid

Pre-Covid, companies faced a lot of difficulties turning in profits in ecommerce. Driven by high fulfillment costs and high competitive pressures (leading to lower margins and higher customer acquisition costs), returns were razor-thin, and growth was expensive.

Covid-19 dramatically changed things, significantly boosting unit-economics of all ecommerce players, specifically those selling essential products:

  • Average order values (AOV) increased, as customers bought most of their items online.
  • The number of customers increased as customers moved online, thus decreasing average fixed costs per customer.
  • LTV multipliers spiked, as infrequent buyers started making online purchases on a weekly basis.
  • Customer acquisition costs decreased, as Facebook CPMs and CPCs dropped by 30 to 50%, as large companies scaled back their ad spend.

What happens after Covid?

Ecommerce will emerge as a net winner post-Covid, with the channel capturing a larger share of consumer demand. Yet, this share will not be as significant as people expect, simply because ecommerce and physical commerce satisfy entirely different needs: The former offers convenience while the latter provides experience. Consumers need both, and will eventually return to shopping in retail stores and malls.

The reduction in ecommerce demand (compared today’s levels) will weigh heavily on profitability:

1) Lower AOV and LTV multipliers: As offline retail gradually claims back market share from ecommerce, AOVs and orders per customer will drop from their Covid-19 highs.

2) Lower margins: As we embark on the expected recession post-Covid, overall consumer spending will contract post-Covid, leading buyers to ‘trade down’ and look for ways to get more from their buck. This, coupled with price transparency in ecommerce will drive a drop in margins.

3) Higher customer acquisition costs: Large conglomerates will gradually resume their digital marketing spending, which will increase CPMs and CPCs to their pre-Covid levels, leading to higher customer acquisition costs.

4) More competitors (so fewer orders per platform): Low barriers to entry (especially in basics and essentials), coupled with low switching costs and the proliferation of service providers across the value chain, make setting up an ecommerce platform relatively easy. Don’t take my word for it; check how many players are doing a form of grocery delivery in the UAE. As more players enter the space, gross margins drop (given limited differentiation), customer acquisition costs increase, and the number of orders per customer per platform drop.

Online Grocery Retail in UAE, analysis by Wamda


I am not implying that ecommerce won’t significantly benefit from the crisis or that the business model is not a successful one. On the contrary, I remain very bullish on this channel and believe it has a lot of room to grow and will play a significant role in our economy over the next decade.

It’s just that we won’t have room for everyone, and the ecommerce business model will eventually evolve towards:

For commoditized products (i.e. essentials, basics, groceries), a winner-take-all model will emerge, where 1–2 players grow through a low-margin/ high volume model, while others are forced out (in a similar fashion to UberEats exiting from multiple markets earlier this week).

In specialty retail (i.e. fashion), ecommerce becomes a core component of an omnichannel strategy, where offline and online channels complement each other to optimize the customer experience.

Direct-to-Consumer (DTC) companies will flourish as long as they manage to carve a clear differentiated position in the market and maintain lean operations. But in a similar fashion to specialty retailers, they eventually need to complement their online efforts with offline presence (through collaborations or pop-up store concepts) to efficiently grow in the space.

Investors in this space should look for the following characteristics to identify winners:

1) A clear and defensible value proposition, built through innovating on four aspects (product, brand, distribution, and price). I discussed this at length in a separate post.

2) Relentless focus on optimizing the customer journey, through focused efforts to find customers, talk to them, serve them, and engage them post-purchase, and eventually turn them into brand evangelists. These efforts create a powerful brand affinity and high emotional switching costs, leading to higher LTV multipliers and lower customer acquisition costs.

3) Growth through experimentation, continuously testing and implementing new strategies to generate higher traffic to your website, increase your website’s conversion rate, maximize your customer’s average order value, and increase your LTV multiplier. Multiple growth hacking tactics/ initiatives are available online to improve each one of these. Create a backlog of ideas and start experimenting.

4) Frugal approach to cost management. Contribution margins are generally low in ecommerce (driven by high fulfillment costs), therefore knowing where every dollar goes is critical to turning profits. Look for ways to reduce your manufacturing costs, renegotiate your contracts (payment processing, fulfillment, contract manufacturing) at every milestone and maintain a very lean infrastructure (low headcount, small office, etc.). Being frugal allows one to offer incredible value to their customers: every dollar saved is a dollar passed along to customers in terms of lower prices.

If you’re a founder in this space, or someone as excited about eCommerce and its potential as I am, please reach out. I’m always happy to connect!

Imad El Fay
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