Applying sophisticated assortment strategies is common within traditional retailing but sometimes neglected by ecommerce businesses. However, refined and proven methods for applying assortment strategies may increase ROI and other KPI:s, not only in traditional retailing but also by businesses that focus on ecommerce.
In this article I will explain some of the benefits of working with assortment strategies from an ecommerce perspective. Even if your business model is focusing on dropshipping you should benefit from reading this article.
What is assortment strategy?
An assortment strategy, sometimes referred to as “Product strategy” is essentially a strategic tool used by retailers in order to determine what products to include in their assortment in order to optimize sales, turnover or other KPI. The strategy may be comprised into two main components:
- The depth of a particular product a retailer offers (within a certain category). (E.g. how many different kinds of screwdrivers a hardware retailer offers in the assortment).
- The width of product categories, or how many different kinds of products or product-categories in the assortment, offered by a reseller. (E.g. except screwdrivers a retailer may offer: hammers, saws and clamps.)
The benefits of working with a refined strategy for your assortment
You may ask yourself why a strategy for your assortment is needed for your ecommerce business in the first place? It may seem as the most obvious assortment strategy would be to simply include products in the assortment with high sales while excluding products with low sales. However, having worked with assortment strategies and ecommerce for many years, I can assure that it is not that simple. Let me explain more clearly what I mean by this.
From an economists point of view, all articles within your assortment come with an alternative cost (“opportunity cost”). Meaning, that just because a product sells good, it doesn’t mean that it is the best option for you to promote and sell through your ecommerce store.
Every product comes with some kind of cost related to promoting and selling it (even with dropshipping). The “opportunity cost” could be the lost sales of a product in favor of the sales of another product with less margins.
Easily explained, at a certain point you should not keep adding products to your assortment without taking away products that give your e-commerce business a less value than the one you add.
The idea of applying an assortment strategy is based upon that each product in the assortment comes with a cost. This means that adding new products to the assortment also results in increased costs (associated with the new product).
Here is a simplified example. You can sell Product X (a Screwdriver with a blue handle) that generates a return of 6%. In the assortment you also have Product Y (a Screwdriver with a yellow handle) that generates 4% in return when you sell it. This means that when a customer buys Product Y instead of buying Product X (the alternative) you actually lose money since you lost the opportunity of selling the product with the highest ROI. The opportunity cost here is -2% (You earned 4 % but you could have earned 6 % = 4%-6%= -2%)
Working with assortment strategies as a tool to optimize the revenue of the assortment is common within traditional retailing. For instance, since traditional retailers use physical stores, the limitations of products in the assortment are more obvious (rather than with e-commerce that don’t have any limits since the products are only exposed on a digital page rather than on a physical store-shelf).
For businesses with physical stores it is simply not possible to add more products in the assortment at a certain point. Physical stores come with a limit in store space and consequently with a limit of articles in the stores assortments.
Traditional retailers also tend to stock their own goods in-house and use dropshipping less than modern e-commerce businesses. This may explain the necessity of keeping the amount of different products in the assortment limited for traditional retailers.
Does this mean that assortment strategies should be neglected by e-commerce businesses?
The answer is no!
But till this day, there are many e-commerce businesses that don’t know how to work with an efficient strategy in order to optimize their assortment. Even e-commerce business owners who built up their whole business model around dropshipping may benefit from having a refined strategy for their assortment.
Let us take a closer look on how a smart assortment strategy could be applied to your e-commerce business.
The theories behind an efficient assortment
Assuming that each product in your assortment comes with some kind of “opportunity cost” is the first step in building an assortment strategy for your business.
Let’s say one of your potential customers that enters your website or e-commerce store has a specific need. Maybe the prospect needs a screwdriver for some specific purpose.
In the example above we looked at two different products (X and Y). One product (X) gives you a higher return than the other (Y). So theoretically, you should only keep Product X in the assortment. However, this would not be a realistic assortment strategy. If you only offer one product (X) in your range of screwdrivers, the prospect is likely to leave your e-commerce store and look for other shops that offer a wider range of screwdrivers.
The prospect simply needs to be presented with a certain amount of options of different products in order to make a purchase decision. You need to offer a wider product range – not only to assure an assortment that appeals to different customers (within different market segments). But for the purpose of giving the prospect the chance to understand (or define) what kind of product that he/she actually needs.
With this information, we are already getting closer to understanding how an assortment strategy can be used.
We have now concluded that each product within the assortment has an “opportunity cost”. We should therefore be restrictive with adding too many “cannibalizing” products within a certain range or “category”. (Since offering similar articles could result in losing sales from the articles with the highest ROI).
We have also concluded that, too few options within the product range, will decrease the chances of selling the product with the highest ROI products to the customer. (Since it will be difficult for the prospect/customer to make a purchase decision).
But what if more articles get added within a product range – shouldn’t that result in more sales?
You may argue that with more articles in the assortment, it is more likely that you can reach out to more customers and target different kinds (different segments) of customers.
The answer here is “Yes” and “No”.
For example, if you offer a range of 1000 different screwdrivers in your assortment for the sake of reaching out to a wider group of customers.
Then you are likely to not only have a high opportunity cost (meaning that you are selling products with lower return than the potential selling of products with a higher return.) Assuming that you are an ecommerce business, you are also likely to actually lose sales from making it hard for the potential customer to make a purchase decision.
(Further, there are obviously a bunch of other costs that come with a wider range of products, that is not taken into consideration here. Costs related to the supply chain, such as warehouse cost or time spent on each product. Or cost related to delivering a product/service to a customer, for instance: compensation, payroll taxes, and employee benefits.)
Common problems within retailing and ecommerce
Difficulties in converting customers due to a too complex range of assortment and losing money from selling products that do not give the best returns are common problems typically encountered by businesses that don’t work with refined strategies for their assortments.
For instance, even if you built your whole business model upon sourcing through dropshipping (with low related costs per unit) you are likely to actually lose money (from a sales perspective).
By offering too many substitute products within a product range there is a big risk that you will confuse the potential customer; resulting in lost sales from unmade buying decisions. (This is also a part of the “opportunity cost” explained above).
With other words, even if you (on a theoretical level) won’t have any costs associated with the amounts of products offered through your assortment, you will still lose money from not making it easy for your prospects to choose the product that you make the most money on. Let’s see how this works.
The benefits of a “product hierarchy”
Retailers that successfully conduct and apply an assortment strategy, do not only work with the width of their assortment, (which I believe is the most basic part of the assortment strategy.) The width defines what market you are operating in.
For instance, many e-commerce businesses have a defined strategy for what markets they are operating in. With other words, selling toothbrushes, sofas, gear shifts for cars and steel bars for construction work is a bad idea. The width of the assortment here is simply too wide.
More refined assortment strategies typically address the depth of the assortment. The depth of the assortment defines how many different kinds of products within the same category (“range”) you should offer your customers.
One way to apply a strategy for the depth of the assortment is through a “product hierarchy”. Each category within the assortment typically gets divided into 3-5 different levels.
The lowest level which may be characterized by products with the lowest out price as well as the product-s that have the least customer benefits (in the category).
The highest level in the “product hierarchy” are products that are characterized by the highest price but also with more customer benefits than the lower levels (in the category).
Now, by applying this sort of hierarchy and categorizing each product within the assortment. It will not only be easier for you to see what products within your assortment that are internally competing or “cannibalizing” with similar products within each level of the hierarchy.
By applying this sort of categorization you may also create a strategy that stimulates the sales of the products that generate the highest return in the hierarchy. Let me exemplify how this works below.
Imagine that you want to repair your kitchen table. There is a PH3 screw that holds together the table legs with the upper board that needs to be tightened up in order for your table to not fall apart. To solve the problem, you search on the internet for a PH3-screwdriver. You find an Ecommerce website that draws your attention since they have different kinds of screwdrivers and probably, at least one of them should fit your needs.
By giving you a hierarchy of products with 3 different options within different levels in the hierarchy, the retailer can in some sense encourage you to make a decision of buying the item that gives the retailer the highest return. Below is a simplified example showing how this strategy can be applied.
Simplified product hierarchy with 3 levels
- Product A = (Cheap Screwdriver with PH3 dimension)
This article is sometimes referred to as an “entry-level product”. This is typically a “no-name”. This kind of product is characterized by being the cheapest in the range of products within the hierarchy. Anyone that glances at this product can see that the quality is low.
- Product B (Affordable/reasonably priced – Screwdriver with PH3 dimension)
This is a Private-label product. The quality and the design is decent. The price may be described as “affordable”. The product is only slightly more expensive than Product A (above).
- Product C (Expensive Screwdriver with PH3 dimension)
This is a product of a famous brand or an own-labeled product with outstanding customer benefits (usually combined with high aesthetic benefits or design). This level is the “Ferrari of Screwdrivers”. The product is significantly more expensive than Product A and B (above). This kind of product is used by the professional or luxury market segments.
In the case above, the reseller has high margins on Product A and B. These are purchased at low price and with high margins. (Private-label products and No-names generally generate the highest profit margins).
However, without the Famous Brand/Own-labeled premium Brand (Product C) it becomes difficult for you as a potential customer to define what product you need to make a decision which product to go with and to finalize your purchase.
In this specific case with the kitchen table that needs to be repaired, you probably know that you don’t need the best screwdriver (Product C) on the market. It becomes even more evident now when you compare the price differences, that both product A or B are probably more suitable for your needs.
The extra functionality or customer benefits that comes with Product C are not necessary for you. You would probably consider Product A (the cheapest) since you only want to repair your kitchen table.
However, since the price of Product B is just slightly higher but with a higher customer value, you are likely to go for Product B.
At the same time, it is difficult for you, as a customer, to grade the products and conclude that Product B is the best option for you, unless the other options (Product A and Product C) are not available to choose from (compare with).
You see, retailers that work with assortment strategies typically use hierarchy for the purpose of making it easy for the customers to grade the product within a product category in order to make a purchase decision. The strategy here is essentially about guiding the customers to the products that generate the highest profit margins (Product A & B above).
On the contrary, an assortment that is loaded with different screwdrivers of different prices and brands might confuse the customer. The customer might simply leave the ecommerce store since they can not make a purchase decision (if there are too many products of similar price and customer benefits to choose from, or too many products of different prices but with similar customer benefits or the other way around; the customer gets confused and do not make a decision).
Integrate the use of dropshipping in your assortment strategy
You may argue that by applying this sort of assortment strategy which actually includes products with low sales (Product C in the hierarchy above) in order to drive sales of other products (Product B in the hierarchy above) would be an inefficient way that actually goes against the theory of “Opportunity cost” (stated above).
By promoting Product C, you are actually promoting a product that potentially gives less return than Product A and B (No-names and Private-labels). On the contrary, the theory about “opportunity cost” suggests that you should promote and sell the product that generates the highest return. (By promoting products with less return or margins you could actually lose money from potential sales of the product with higher return).
Other arguments that could support such arguments are the relatively high purchasing price for Product C (Famous brand or Private-labeled products designed for the professional or luxury market segments.) At the same time the sales and margins of Product C are typically low. So why purchase expensive products for the sake of marketing other products with better ROI?
Well, first of all Products C drives the sales of Product A & B, so the “alternative cost” of not using Product C is high. However, is it worth buying and putting product C on stock in your warehouse, just for the sake of driving the sales of product A and B?
Maybe not but this is where Dropshipping can be used in an efficient way.
Easily explained Product A and B are products that are worth keeping in stock. The purchasing price is low while the margins are high. Equally, the price of product C is high and with low returns. So buying and keeping Product C in your warehouse could be a bad idea.
To solve this problem you could simply apply dropshipping for product C. Meaning that you can offer Product C in your assortment only for the sake of driving sales to the products that you have higher margins on. If someone would buy Product C the order is simply carried through by the supplier.
There are obviously other benefits of including products aiming for different market segments in your assortment that are not taken into consideration in this article. (E.g. famous brands and products for the professional or luxury market may contribute to higher trust and confidence etc.) .
- By applying a sophisticated assortment strategy for your ecommerce business you can encourage and stimulate sales of products that give you a higher ROI rather than just offering products without any strategic purpose.
- Including too many products within a product range can cause confusion by your customers and results in lower purchase decisions. Further, the cost of having too many products in the assortment is high and you are likely to lose money in terms of high “opportunity costs” (“alternative cost”).
- Your assortment strategy should focus on sales on the products with the highest return. This is done by excluding products that have similar customer benefits as the products with higher ROI.
- By using a “product hierarchy” for your assortment range you can define what products that are “cannibalizing” with each other (in terms of pricing, customer benefits and branding). By making sure you don’t have too many products within each level of the hierarchy you can make it easier for your customers to make a purchase decision. You can also choose to only keep the products with the highest return within each level to increase ROI.
- By offering a complete range (all levels of the product hierarchy are covered by at least one product in your assortment) you can make it easy for your customers to grade the best product for their needs. By applying sourcing through dropshipping on some of the articles in the range you can avoid high costs for products with low ROI but that are needed within your assortment to drive sales of more profitable products.
- By applying strategic pricing for each product or set of products within each level of the product hierarchy you can drive sales to the products within the range that gives you the highest ROI.
This is a post from Webshopsguiden.se. Please visit our website to read more about e-commerce platforms and dropshipping in Sweden. On the blog, we also share tips and advice on how to set up e-commerce and how to start selling goods in the Nordics through dropshipping.