Inflated Expectations   //   August 26, 2022

As inflation crushes growth, DTC brands let go of lofty goals

This story is part of Inflated Expectations, a Modern Retail series about the impact inflation is having on brands and retailers.

This week, Peloton took a left turn and did what only a few years ago would have been unthinkable: it announced plans to sell its products on Amazon.

“We want to meet the consumers where they are, and they are shopping on Amazon.” Peloton’s Chief Commercial Officer Kevin Cornils said in a statement announcing the news.

In many ways, this move is a synecdoche for the DTC industry as a whole. For years, there have been warnings that the pure-play direct-to-consumer model was dying. But it was always saved by a rapidly changing environment.

DTC brands were on the cusp of losing their luster in early 2020, but a pandemic swept the nation causing an unprecedented rise in e-commerce penetration. This helped give some companies a leg to stand on. But in the background, supply chain delays piled up, while customer acquisition costs continued to rise. Now, as rates of online shopping have fallen back to pre-pandemic growth rates, these issues are coming to a head.

In order to survive, many of these brands — like Peloton — are having to make a hard pivot. They are making concessions about where they sell their products, rethinking marketing strategies and pulling back on expensive growth plans.

Jeremy Cai, CEO of the unbranded luxury company Italic said that a couple of years ago, most brands were showcasing lofty expansions — to grow exponentially and take over entire categories. “There was a notion,” he said, “what if we expanded this into a lifestyle brand? I think that notion is over.”

His company specifically has had to make tough decisions to stay afloat. For one, Italic raised its prices three months ago. The company works with manufacturers of high-end brands to sell similar products but without the luxury name attached. But even with a business that worked so closely with manufacturing, Italic still needed to hike prices.

What’s more, it decreased its advertising budget by more than 8x last April, said Cai, mostly in response to the mounting headwinds advertisers are facing from Apple’s iOS14 update along with overall budget cuts the company made. Even with less of a paid digital presence, business has grown. “Our months [since April] have been growing from that base,” said Cai.

Cai also had to do some layoffs; “everyone is doing team reductions,” he said. “We were over-staffed.”

Letting go of lifestyle aspirations

Italic is far from the only company making such moves. Only a few years ago, Glossier was considered one of the most innovative beauty brands on the market. Last February, the company made sweeping layoffs as a result of miscalculating areas of growth. Now, instead of focusing on building a DTC empire, Glossier is working on inking wholesale deals as a result of market changes.

Another industry leader, Casper, has had to completely rethink its company positioning. It rose to prominence as a mattress disrupter — taking older brands like Serta to task by selling affordable beds online. As it grew and raised hundreds of millions of dollars of money, Casper declared itself not just a mattress company but a sleep brand. It introduced dog beds, bedding, pillows, etc. Now, after being acquired by a private equity firm, Casper is winnowing its view.

“The strategy was to be the Nike of sleep,” CEO Emilie Arel said at a recent industry event. “Nobody knows what that means. That sounds very exciting, but hard to execute on. We weren’t making any money.”

She added that the company was, “moving from being a lifestyle brand,” to soundly declaring, “we are a mattress retailer.’”

Put together, these moves are leading to an overall realization industry-wide that buzzy startups that caught investors’ eyes have to move the goalposts of success. Staying afloat while conserving funds is the name of the game. “A bunch of venture-backed guys like us are having to lick our wings,” said Cai. “A lot of us are biding our time and waiting.”

What’s perhaps fueling this change isn’t so much that shoppers have done a 180, but that brands no longer have a financial lifeline. More and more, investors are focusing less on consumer-facing retail companies and trying to find new prospects with better margins. Meanwhile, other modes of financing like debt could become less palatable if interest rates increase.

It could make for a cooling effect for younger brands trying to mimic the business models of their predecessors. “It’s no longer sufficient business model innovation to be direct-to-consumer — that was true 10 years ago, maybe seven years ago, it’s just not true today,” said Jason Bornstein, principal at Forerunner Ventures, recently on the Modern Retail Podcast. His firm, long known for funding the leading DTC brands like Bonobos and Away, is now more focused on companies that provide innovative business models and services to underpin brands.

Peloton gives a glimpse into this crisis. It launched as a buzzy fitness startup with plans to take on the likes of Equinox. It raised nearly $2 billion in capital, went public in 2019 and was thought of by some as the Apple of fitness. But its core business model — selling stationary bikes — started to flatten amid rising prices and other economic constraints. As a result, Peloton has posted slowing growth, raised $720 million in debt earlier this year and is now opting to test out sales channels that were once anathema to its brand image.

For smaller startups looking to raise money, this economic shift has led to more difficult conversations. No longer are investors looking for growth at all costs, financials be damned. “You have to be profitable,” said Mike Duda, managing partner at Bullish. Now, the big question is “do you have a viable business model,” he said. True, this was an issue well before inflation began to pick up, but rising prices have made clear that financial health is now trumping scale.

This has led to tactical brand strategy changes. Retention and loyalty are the primary focus, as brands can no longer assume that they will hoover up endless amounts of new customers. “There’s a gigantic shift across the board going from top-of-funnel to CRM and bottom-of-funnel acquisition,” said Italic’s Cai.

In short, brands are trying to conserve funds and get more from less. “The pre-iOS era was about digital acquisition,” said Duda. “The post-iOS era is about AOV [average order value] and returning customers.”

The real fear is what’s to come if inflation continues. Duda foresees more layoffs across the board along with new types of financing to stay afloat. While the companies get these quick fixes, they may need to retool their overall business models in the name of actual, sustainable growth.

“It will be harder to sell stuff in the next six months,” said Duda.