No overhead and no inventory, but plenty of profit potential. Dropshipping offers a powerful business model for individuals looking to start an ecommerce business or add to the inventory their ecommerce business sells cheaply without investing in logistics or storage.
It’s not a perfect approach to e-commerce, however. Both potential business owners and current merchants looking to take advantage of dropshipping should be aware of the pros and cons of this approach.
What is dropshipping?
Dropshipping is a business model where the retailer does not own or stock the items they sell. Instead, a network of suppliers provides the items and sends them directly to the dealer’s customers if required.
The retailer only maintains an online storefront, prepares the orders and takes care of customer service on the front line, acting as a link between customers and suppliers.
The approach enables business owners to run an e-commerce business without having to own a warehouse, manage logistics, or manufacture products. It also enables existing companies to expand their range without investing in additional storage space or logistics capacities.
Benefits of dropshipping
1. Low entry barrier
A dropshipping business requires very little initial capital. The merchant doesn’t have to worry about buying inventory or making products or shipping costs. Some writers estimate that potential owners can start a new dropshipping business for next to nothing – only $ 150.
Finding suppliers is often the hardest part of getting started – and tools like supplier directory dropshipping can easily solve this problem. While the merchant still has to spend on marketing, a website, and an ecommerce platform, the barrier to entry for dropshipping is much lower than most ecommerce companies.
2. No inventory management
Since the dealer’s shipping partners handle the inventory from manufacture to delivery, the owner doesn’t have to worry about warehousing or shipping the inventory.
That means they can start the business without investing in storage space or having in-depth knowledge of e-commerce logistics. It also means the owner can ship products that require special storage without investing in refrigerators or similar storage technology.
3. Low shipping and storage costs
As a dropshipping company, the dropshipping retailer spends very little on the storage and shipping of goods. A typical e-commerce company must invest in equipment that enables it to package, label, ship, and track every single item.
Shipping partners do this for the retailer who offers dropshipping. The dropshipper only has to intervene if a customer complains or has a question that cannot be answered with the information provided by the shipping partner.
Storage costs are also not a problem. Dealers will very rarely, if at all, handle goods in-house. The retailer does not have to worry about stocking up on customer demand either. This means that the dropshipper is not in a position to hold onto out of date inventory or overlay due to items that are not selling.
Undersupply is also less likely. If a shipping partner runs out of a particular item, the dropshipping retailer may be able to partner with another company that has inventory left and offer the same or a similar product to their customer base.
4. High scalability
The easy scalability of the business model is one of the most important advantages of dropshipping. Dropshipping companies can easily scale up or down to meet customer demand right where it is. With the dropshipper only doing order management, the parts of an ecommerce business that are most difficult to scale – inventory and logistics – are outsourced.
If the retailer needs to deliver more items to customers, they can simply contact a new dropshipping partner or send additional orders to a current partner.
This means that the company is able to quickly scale up and down based on customer demand.
5. No direct management required
First of all, the owner of a new dropshipping business doesn’t have to manage employees directly. It is usually possible for an individual to manage a dropshipping business entirely by himself and to communicate with customers and shipping partners when necessary.
As his own boss and the only employee, the owner has full control over the office equipment, management style and working hours.
1. Dependence on shipping partners
If a shipping partner makes a mistake, there may not be much the dropshipper can do. Shipping partners may have their own refund and return procedures, may not provide tracking information, and may not offer a wide range of shipping options.
Dropshipping is mostly low-risk, but the dropshipper still relies on shipping partners to handle sourcing, manufacturing, storage and shipping. A lot can go wrong in the time between making a product and reaching the customer – and the dropshipping retailer has very little control over how this step is handled.
If a customer has a problem or wants a replacement for their item, the retailer can fall into the trap: they are responsible for customer service but have little control over actually solving the problem.
2. Low returns
Dropshipping overheads are extremely low, but so are profits. While an owner can make money from dropshipping, profit margins are usually not as high as if the owner were taking a higher risk.
The bottom line for new dropshipping businesses is also typically small due to a small customer base. New businesses typically build their traffic stream from the ground up. Since traffic and profit are directly related to dropshipping, this means that profits tend to start small.
A new trader may need to reduce their profit to keep prices competitive. Marketing, advertising, web design, and shop window development are also not free – which can further reduce profit margins.
3. Big competition
The low barrier to entry for dropshipping means that the current market is somewhat saturated. Most niche markets have a large number of new and existing dropshipping companies. Popular markets are even more crowded than others.
Smaller, newer companies may have difficulty competing with existing companies, who can typically lower prices further than their competitors, do better deals with suppliers, and offer cheaper prices on most products.
Often times, newer companies are in a race to the bottom. With no existing audience or a unique value proposition to differentiate themselves with, they focus on becoming price leaders. In order for a small business to sell goods at the lowest possible price, profits need to be kept as low as possible. Without caution, it is easy to make accounting mistakes and put the business in the red.
4. Fewer customer service options
Customer service options available to ecommerce businesses handling their own fulfillment may not be available to a dropshipper.
For example, the company may not be able to ship products with custom packages with custom branding. The company may not be able to add personalized “thank you” notes, coupons, or advertisements.
This is not always true. Many dropshipping partner companies offer white label or private label agreements. With one of these agreements, the company’s product is matched with the company’s branding. With one of these offers – or a similar one – it may also be possible to add a personal touch to each order.
However, this may require a special agreement with a shipping partner – and not every company offers this option.
The Allure of Dropshipping for Ecommerce Businesses
Dropshipping offers an accessible business model to owners without a lot of start-up capital. It enables a new business owner to start without storage space, logistics experience, or an existing audience. However, dropshipping profits can be small, competition is fierce, and building an audience from scratch can be a serious challenge.
The benefits of dropshipping – potential profit without overheads or storage – are attractive, but the cost of running a dropshipping business can be too high for many.