Free Shipping Spurs E-Commerce, May Harm Online Margins

Free shipping has begun to draw more and more customers to online retail sites. The surge of consumers could continue into 2011 and next holiday season. Large store chains like Best Buy (NYSE: BBY), already bloodied by a drop in foot traffic, have more to fear.

ComScore reports “Free Shipping Day (Friday, December 17) achieved a 61 percent increase to $942 million versus the corresponding shopping day last year, highlighting the appeal and success of the promotion in which more than 1,500 merchants offered free shipping.”

For the holiday season-to-date, $27.46 billion has been spent online, marking a 12-percent increase versus the corresponding days last year.

Free shipping may have brought a very large number of additional consumers online. Or it may have simply caused people to shift the day that they bought items at e-commerce sites. This second possibility would do little for overall online holiday sales. The cost to support free shipping for one day is probably into the tens of million of dollars based on the comScore data, to make matters worse.

E-commerce faces a significant challenge because of popularity of free shipping. Amazon.com (NASDAQ: AMZN) was criticized in years past for the high cost of shipping and marketing which cut into margins. Wall St. continues to believe that these costs could be an Achille’s Heel for all large online stores. And, matters are more complicated for online stores because they do not know and may not  for awhile whether Free Shipping Days bring more business from the bricks-and-mortar world, or instead simply give an incentive to people who already shop to do most of their shopping on a single day

The next year or two may involve an unexpected investment by e-commerce companies if they want to rapidly take market share from bricks-and-mortar operation. Free shipping is likely to become a larger portion of the cost of e-commerce businesses. It could be the primary weapon, other than convenience, that sites like Amazon use to drive their market share of total US retail sales higher.  The investment may work, which would pressure traditional store margins. That may force them to offer deeper discounts to  to keep customers.

A battle has begun to shape up between two trends which could erode overall margins in the retail industry–both online and in stores. Free shipping may end up as a loss leader to attract more consumers to e-commerce. Retail stores may have no other choice that to drop prices to defend their turf.

Douglas A. McIntyre