‘Retail is the only growth channel left’: Digitally native brands are investing in, and changing, the store

The founders of these digitally native brands are setting up physical shops as they face the reality of online retail: There are limitations around how much one digital brand can actually grow.

“The internet had this promise of exponential growth, which persisted for a long time. It’s this idea of no-boundaries retail. These brands thought, ‘Why would I spend money on a store when I can reach the entire world online?” said Richie Siegel, the founder of Loose Threads. “Meanwhile, retail is now the biggest and really only growth channel left for these companies, and brands are realizing that.”

Over 6,700 retail stores in the U.S. closed or announced plans to close in 2017, more than any other year to date. But more and more, digitally native brands are spending investor capital that would have once been funneled into expensive marketing and customer acquisition efforts on the most traditional retail format there is.

‘We’re optimizing for profitability, not growth’
In an increasingly crowded market of niche digitally native brands, raising a lot of venture capital is risky. Investor expectations force young brands to buy their customer sets using borrowed money, driving a growth strategy that’s based on momentum rather than sustainability.

“When your focus is on the top line, the channels that can drive it up hardest and fastest are going to be the ones you’re investing in,” said Scott Tannen, the CEO of luxury bedding company Boll & Branch and the owner of investment firm Red5 Capital. “Advertising in Times Square might get you a million customers, but the long-term value on those customer is so low, all you’re doing is buying one-time revenue. Not long-term affinity. Spending that much on advertising is unsustainable.”

A slower-paced growth strategy that focuses on building out an in-store retail network still requires big investments — stores are capital intensive even for the most nimble brands — but in stores, money is made back.

“Every store and pop-up shop we’ve opened paid itself back in under six months,” said Maggie Winter, co-founder of women’s denim and apparel brand AYR. “We want to spend money on what they customer can take with her, which is the memory of an experience or the clothes. She can’t take an ad with her. We’re deliberate and slower-paced, optimizing for profitability, not growth.”

Winter said that the “emotional quotient” of an in-store experience harbors a higher-spending and more loyal customer over time. In the first six months of opening AYR’s Manhattan store, the brand found that the customers who shopped in store and online spent an average of $1,000 a piece in that same time period, and were more likely return.

“At one point, all of these brands thought they didn’t need stores. And we are seeing a big fall off in some areas of retail,” said Lara Marrero, global retail practice leader and strategy director at Gensler, an architecture and planning firm. “But when it comes to fashion, people equate themselves to experiences and other people. We still respond to places with how we experience them. So it’s a loyalty play that drives revenue.”

The digital growth ceiling
Yael Aflalo, the founder of Reformation, launched her fashion brand with one store in New York City in 2010. After that, the digitally native brand market began to boom, and she focused on building the brand’s e-commerce business. But quickly, she saw the limitations of online growth: Over seven years, paid marketing has stayed a small percentage of the brand’s revenue, at about 10 percent.

So, the brand continued to open stores and pop-ups. In December, Reformation raised $25 million in funding, with which the brand plans to open five new stores in 2018, bringing its total store count to 12. About 30 percent of the brand’s current sales are made in store.

“How many different ways are there to actually grow?” said Aflalo. “Brand and paid marketing only yields a certain amount of growth. A store is a risk; it’s a lot of work and a lot of investment. Boom — there goes a million bucks. But you could hire three marketers and spend a million dollars and get a bunch of customers once, or you could spend a million and get a bunch of customers for 10 years.”

To make sure that these new stores are functioning both as marketing and retail channels, brands are changing the internal structure that oversees the in-store network. A CMO, for instance, has purview over store design, construction, and merchandise, and will work closely with the e-commerce team to connect customer data points gathered in store back to the online channel.

“The brands doing it best and having the most success are the ones who now see store operations as a form of marketing,” said Marrero. “These elements are all aligned now, and the way that teams are aligned should reflect that.”

The smarter store
Not all online-born consumer startups agree that technology has a place in the physical store. (“We got someone out of bed and out of their house, so why would we shove a screen in front of their face once they get there?” said Winter.) But an in-store screen or an endless aisle experience says nothing of the ways technology is working behind the scenes to make these new stores smarter.

Digitally native brands have the advantage of agility when it comes to planning the new store network. Reformation and AYR are part of the new generation of online brands that have the data insight to set up shop in places where they know their brand already has a following, and stock their stores with inventory that is most popular in that region. A more efficient supply chain and inventory management system means that young brands can launch services like buy online, pick up in store, which legacy brands are still struggling to adapt to.

Thanks to the tumultuous retail landscape, store leases themselves are changing, too: Young brands that have the flexibility can test a new location with a pop-up store, and sign shorter lease terms overall.

The hope is that shorter leases, pop-ups and data reinforcement will let startup brands avoid the pitfalls facing the retailers that are rapidly shuttering stores today. This foresight is also leading younger brands to set up shop faster, and new brands include a viable store network in their initial pitches.

“The need for an in store experience never went away, especially for smaller businesses hoping to talk to a specific community,” said Jessica Lee, the founder of the apparel brand Modern Citizen, which launched in 2014. “But customers expectations about the name that’s on the door has changed. Customers are only going to make the effort to go visit a store if it’s a brand they care about. This new class of brand is built on customer expectation and how they connect to the brand, and that’s what the new purpose of the store is.”