From the May 2000 issue of Startups

Triathlete Laura Stanford, 32, knows how hard it is to find good exercise clothes. "Either the stuff is dowdy, or the service is terrible," she says. "You go into a sports store, and the gearhead dude working on the bikes in the back just doesn't understand your needs." Formerly a paralegal in a busy Silicon Valley law firm, Stanford always looked to her workouts for solace from her high-stress job. When she decided to quit the firm to start an e-commerce Web site, selling exercise apparel was a natural choice. All she had to do was go to a few trade shows, set up a hot site, take in the orders and ship them out. Simple, right?

"I had no idea what I was getting into," Stanford recalls of her online sports apparel boutique, Pro Se Sports (www.pro-se-sports.com), which launched in 1998. "If I could do it again, I probably wouldn't go into a business that involves inventory or fulfillment."

Her main difficulties: trying to cope with long lead times from manufacturers and finding a fulfillment system that could accommodate the needs of her customers. Currently, all Pro Se's fulfillment operations are handled in-house by six staffers who ship products via UPS from the company's small warehouse in San Francisco. To cope with increasing sales, Stanford has looked into outsourcing her fulfillment operations, but she's run into some obstacles. Because women's exercise apparel is a fairly new industry, there are few choices for partnering with fulfillment houses. Those that come close charge about $8 per package, a cost that Pro Se Sports is not yet prepared to absorb. "It's prohibitively expensive right now," says Stanford, "and it doesn't appear that the groups have the kind of customer care we're interested in providing."

Fulfillment Structure Problems

News Flash

Stanford is among the throng of new e-retailers who have discovered that having a great Web site is by no means the key to e-commerce nirvana. Inventory management and order fulfillment often turn out to be the most costly, complicated and time-consuming components of their business operations. In fact, an unstable back-end fulfillment structure is the reason why many Web businesses fail to turn a profit.

Stacie McCullough, a senior analyst with Forrester Research Inc., says fulfillment is particularly challenging for small e-commerce businesses, as automated warehouses are optimized for shipping products in bulk to wholesalers and retailers rather than picking, packing and shipping smaller orders to customers.

Herb Tabin, 33-year-old founder of Stogies Online (www.stogiesonline.com), could encounter similar problems if he were to outsource fulfillment for his online cigar business. Currently, Tabin's 18-person in-house fulfillment staff manages to ship more than 2,500 boxes of cigars to his customers on a monthly basis, but Tabin, whose company is now averaging $200,000 per month, believes he'll eventually need to seek outside help. So far, he hasn't been impressed with what he's found in the way of fulfillment houses. "They're not equipped to handle our product," he says. "They don't know much about it." Tabin plans to continue looking for an appropriate fulfillment company, but he doubts he'll find one. "If someone could provide us with a reasonable fulfillment house that could talk about our products accurately, we'd go for it, but the problem is, they're just not out there."

Fulfillment Companies

Hide And Seek

For many small businesses, the issue isn't finding a fulfillment company that meets their needs, but rather finding one that will even accept their business. "There's such a shortage of third-party fulfillment houses right now that many of them are turning away start-ups," says cCullough. "Either that, or they're being really selective; they'll choose a start-up that has high brand appeal or one with a business plan that shows a significant amount of growth."

Even if you do find one, the set-up costs-which would include technology integration, inventory management systems, warehouse space allocation and so on-are often steep, averaging $50,000 to $100,000. Many times, a fulfillment company will charge a retailer by the amount of warehouse space needed. If a start-up has a broad selection of products, costs will be even higher.

After set-up, prices to ship products vary tremendously, depending again on technology issues and selection. In general, though, many fulfillment companies will do it for about 10 to 15 percent of sales. Smaller businesses, which ship out smaller volumes, can expect to pay higher prices per product shipment, as fulfillment houses usually give volume discounts.

E-businesses that ship out fewer than 100 items a day get little help from third-party fulfillment systems and often can't justify the set-up costs or ongoing fees of outsourcing. For these retailers, especially those with a large selection, it may make sense to keep fulfillment operations in-house until new outsourcing options emerge. This is likely to happen soon, considering predictions that online orders will grow more than 750 percent in the next 18 months.

Catalog businesses have their pluses and minuses, too, McCullough explains. Usually, a small company can get started more quickly with a catalog company, and start-up costs tend to be lower than they would be with a fulfillment house: roughly $10,000 to $20,000.

Options to partner with catalogs will also likely increase. "We're starting to see more mail-order catalog companies saying 'Even if these companies don't have more than 100 orders a day, we'll take them,'" McCullough says.

The downside to catalog companies is that they tend to lack technical expertise, which may affect the quality of customer service, adds McCullough. Today's online customers are far more demanding than those who purchase over the phone. Because catalog companies usually aren't able to integrate inventory management systems, a customer may order a product online for overnight shipment and not find out until the next day that the item is on back-order. In addition, catalog companies aren't usually equipped to check the status of customer orders.

For those small businesses that want to forego the catalog route and are able to find a fulfillment company that meets their needs, McCullough suggests creating a business plan that shows an upside for the fulfillment house. For example, say you have a business plan to reach 100,000 orders within the first 12 months. Propose a sliding-scale incentive where you pay the fulfillment company a larger percentage of sales until you reach their quota. Once you reach it, you get a big price break. "Rather than paying 15 percent of sales, propose that for the first 10,000 orders, you'll pay 20 percent of sales; for the next 20,000 orders, you pay 17 percent; and you do a sliding scale until you get 8 or 9 percent," she explains. "You're saying to the fulfillment company 'I know my business might not grow, so I'll share the risk with you.' "

A Challenging Situation

Get Real

Risk-sharing played a role in 28-year-old Tony Toranto's method of finding a fulfillment company for shipment of Guardian Angel, a product that enables people to test their alcohol levels as a way of curbing drunk driving accidents. The small test strips, which are placed on the tongue after drinking, come packed in a credit-card-sized package that fits in a wallet. The company currently ships orders on a regular basis using two primary distribution channels; the first involves direct-mail shipments to policy holders of major insurance companies, and the second accommodates policy holders reordering the tests and people who order them directly from the company's Web site (www.guardianangelonline.com). Toranto says he never even considered handling fulfillment in-house at his San Francisco operation.

"Building a customer fulfillment operation that could handle shipments of a large number of Guardian Angels in a short period of time was beyond our expertise," says Toranto. "We were under no delusions about that, and we knew the most efficient way to execute that was to outsource it."

While researching operations, Toranto networked with other start-up executives and got a variety of recommendations. He also hired an experienced direct-mail project manager who could help select and work closely with the fulfillment houses to coordinate shipments and make sure the direct-mail activities ran smoothly. As a result of his efforts, Toranto didn't have trouble finding a fulfillment operation that wanted to work with his business-and he also learned to be realistic when communicating the uncertainties of his business demands and shipment quantities to potential vendors. "If there's ambiguity, you have to come to a mutually acceptable arrangement for some risk-sharing," he explains. "It might be that early on, your price structure may be different, or that you may make adjustments later."

The Bottom Line

Despite the growing pains that e-commerce businesses and fulfillment operations are currently experiencing, the future looks bright, as new fulfillment players are set to emerge in the coming year. For the time being, however, the best plan is to realistically assess your business needs, talk with executives from similar start-ups and find the system that best suits your model. It won't be easy, but it may be well worth the costs. Just about anyone can build a snazzy Web site, but in the end, your ability to handle fulfillment demands and deliver on promises to customers will be what distinguishes your business from the pack.

"The feedback we get from customers about our selection and customer care has been really positive," says Stanford. "It's what makes our company. So while fulfillment is our greatest frustration, in another sense, it's our greatest reward."

10 Steps to Fulfillment Success

Thou Shalt . . .

1. Start early. Get your fulfillment operation set up well in advance of taking orders so you'll have time to test the system.

2. Be vigilant about analyzing back-end costs, from warehouse labor to handling returns. Create a plan to lower these costs.

3. When choosing to outsource fulfillment operations, consider your needs (Is your product perishable? How quickly does it need to get to your customer? Do you have a broad product selection?) and find a company that can accommodate them.

4. Network with other entrepreneurs who can recommend reputable fulfillment houses.

5. Find an expert to oversee fulfillment operations.

6. Consider partnering with a catalog company-but be sure the company can meet your technical and customer service needs.

7. Be upfront with customers about how long it will take to receive products.

8. If you deliver directly to customers' homes, consider working with vendors like HomeGrocer.com and iShip.com, which offer residential delivery options. While companies like UPS, FedEx and Airborne dominate the consumer delivery market, they aren't well-equipped to handle home delivery.

9. If you plan to use a fulfillment house, create a plan to share the risk of taking on your business. A typical plan involves higher costs in the beginning, then a price break as your sales increase.

10. Expect to find bugs in your system, and make improvements regularly until it runs smoothly. Start-ups rarely do everything right the first time. It takes a lot of work for overnight success.


Julie Vallone finds fulfillment as a Silicon Valley-based business and technology writer. Her work has appeared in Entrepreneur and Investor's Business Daily.