Shipping charges are a critical element in the overall value proposition of today’s direct sellers. Too many companies are ignoring the importance of this to consumers and are losing both sales and profits as a consequence. This article will explain why shipping charges is an area where internet sellers must be competitive because there are now basic price/value standards that customers expect. I will give you suggestions on how to set your shipping charges to maximize sales and build average order value.

The three elements of cost from the consumer’s perspective:

1. Product price—most companies strive to meet their competition. For comparable items, the typical company will usually be within 5% of the competition. You may be able to increase product prices for certain difficult-to-compare items to offset lowering shipping charges if that is seen as necessary.
2. Sales tax—consumers credit your prices for the lack of sales taxes and may consider it an offset to the shipping charges. Typical sales tax is about 9%, so in the consumer’s mind an offset of that amount in shipping charges is about even.
3. Shipping charges—are variable and totally at the seller’s discretion. In the old days of catalog selling and phone ordering, shipping charges were typically increased based on the value of products purchased, with rates usually set at a level that represented about 12% of the retail price. In internet selling free shipping is sometimes offered and is highly addictive to customers. Once they have gotten it, if it is subsequently withdrawn, many will not buy for a very long time, hoping to gain the advantage again. Most companies these days do not offer free shipping year-round as the norm on all product purchases because they cannot afford the hit to the profit line that this entails. Indiscriminate free shipping on all items does nothing to increase AOV—indeed it may lower it.

The new shipping cost norm

In the current direct selling environment shipping cost has become a hotly contested arena of competition. In the last few years, eBay and Amazon have been setting the pace on web shipping rates for millions of direct buyers. It is probable that your customers buy from these sites on occasion, so they have been trained by them to expect levels of cost for shipping that are distinctly different from and lower than the old “catalog” shipping cost norms. These companies typically offer rock bottom shipping charges. Their charges are based on the costs incurred by the various carriers. Leaving aside the charges of high weight/high volume items or expedited shipping, the impression customers have gained from Amazon and eBay has become the norm.

Some companies are meeting the new internet-conditioned customer expectations and others are clinging to the old catalog-originated model. Shipping policies appear to be having a profound and increasing effect on successfully selling in the internet ordering era. The expectation of low shipping charges has become widespread for all companies who receive orders on their websites, regardless of the marketing that drives the sale. In short, consumers now expect “internet” shipping charges even when the sale is driven by offline means such as catalogs.

I’ll make a very succinct statement of the new shipping cost norm:  Customers now expect to pay from $5 to $10 for anything delivered to them in the United States. This rate is equal to or a bit more than lowest cost USPS rates for lightweight packages and compares with the best rate offered by the other ground delivery companies for lightweight packages, i.e., it is revenue-neutral rather than profitable as was the old catalog shipping model. For some reason no one in the direct industry has yet pointed out this fact that is blindingly obvious to anyone who buys products by remote shopping using websites these days. You may be reading it here for the first time, but if you consider your own expectations you will probably agree that I am correct. Given this now universal expectation of what constitutes reasonable shipping costs it follows that companies that violate this expectation are calling into question their entire value proposition—including whether their merchandise prices are reasonable.

Shipping table according to the new norm:

Up to $50: $5 to $7 is acceptable
$50 to $100: $7 to $10 is common and expected
Over $100: consumers still expect not to have to pay more than $10

Yes, it’s true, everyone now thinks that they should not have to pay more than $10 for base shipping to get something in a box delivered to them. There is no point regretting that your business model now makes lots of profit on the excess over cost you are charging for shipping and that you will lose this profit if you go to the new norm. I believe that your customers don’t think charging more than the amounts above is reasonable. They just don’t want to pay more than they have come to believe is appropriate. If you think you are making money on your shipping charges by having levels above those listed here, this may not be the case. You might well be losing more on decreased demand than you are gaining by charging more than the new shipping cost norm.

My view is that it is important to meet expectations on shipping costs and then offset this by increases of equal amounts on product prices. Shipping is perceived as a separate part of the transaction. Generally a dollar less in shipping is worth much more than a dollar less in product price. These two value elements live in separate compartments in the buyer’s mind when they are making a buying decision. Thus, if you are two dollars high on shipping, you are typically 20% overpriced in the customers mind and this will greatly affect the customer’s propensity to order. If you are two dollars high on a $67 item you are only 3% overpriced and this will not affect the decision to buy in a material way. The reason customers now have this expectation is because today’s successful sellers are universally competing on shipping. Companies have found that the additional margin they get from consumers adding items to their carts more than compensates for the loss in shipping revenue under the old 12% model.

Contrasting approaches from two bellwether companies in the $1 BBN class

Here is L.L. Bean’s current shipping table:

As you can see, L.L. Bean substantially conforms to the concepts listed above. Though privately held, internet traffic reports indicate that they grew at about 10% in the most recent year. My view is that their adoption of shipping charges according to the internet norm is enabling this growth. In the holiday season when other direct sellers are advertising free shipping, they respond by offering it free on orders over $75 with an easily obtained coupon code. When the holiday is over, they revert to the regular table shown here.

Here is the table from Williams-Sonoma:

I would characterize this policy as old school catalog-based thinking. This table is excessively granular and has many categories as the order value rises. It probably covers their costs nicely, but it does not conform to what customers have come to expect in the current marketplace. Note that as order value increases the shipping cost always rises, too. This means there is no incentive to add items and increase the average order value, though we all know that increases in AOV will more than offset the small increase in shipping revenue due to the effect of high margins in product sales. For the fiscal year ending January 31, 2010, Williams-Sonoma web sales shrank by 8.4%. My view is that their shipping policy may be having a significant effect on this performance.

Adjusting your shipping table to build AOV

It is very difficult to know how to set shipping rates because the test cannot be easily controlled to different groups of customers or withdrawn when the result is known. I have three possibilities for you to consider in setting your shipping charges:

Match the market—Simply adopt something like the L.L. Bean model. Heavy and oversized items can bear a surcharge. Customers may not always be able to compare prices of the products on your site, but they definitely can compare shipping costs and if you are exorbitant in those charges, it will have an outsized effect and negatively affect sales.

Compete in the holiday season—If fall/holiday is a big selling season for you, follow the L.L. Bean table and then do what they and Amazon often do in the holiday season, which is to offer free shipping for orders over a certain value. This value should be a little higher than your average order value and significantly higher than the median; i.e. if the AOV is $90 and the median is $75 then I am suggesting you consider offering free shipping on orders over $100.

Establish a year-round internet norm, with free shipping on high value orders—This aggressive method of beating the competition and increasing AOV is becoming more common. Here is the shipping table from a leading seller of sporting equipment:

Note that this company follows the internet norm and then goes to free shipping for orders over $150. Here is how they show customers on the header of their site how much more they have to buy in order to get free shipping:

For this method to work best it is important that the customer is always informed of what they have to do to get the free shipping, so they will strongly consider adding items to the cart before checking out. Even though this company probably does not have unusually large margins, I believe that the additional margin form the higher AOV more than covers the cost of not charging for shipping on the higher value orders. In their 2-day expedited shipping charges they add $9 to the base ground rate. This more than covers their additional costs and helps add offsetting revenue for many customers who have chosen to increase their order to get free shipping.

I’ll end this article with an example of another shipping table and offer that has proven to be optimal for one of my clients. Here is their very simple base rate table for ground shipping:

Again, as with the company above, while a customer is shopping they are shown the amount needed to get free shipping:

Since this policy was implemented the AOV of this company has increased by 12% and the overall sales volume has increased by significantly more than that. Evidently, in this case, consumers have been convinced that buying the products at my client’s site is advantageous, even though they are sold at the same price elsewhere.

One important refinement is seen in the default shipping that is present on this company’s website at checkout:

Note that the default is express 3-day, which for this company typically costs them the same or less than ground shipping. But the value of express shipping is often important to shoppers. Many customers accept this default. Upon getting to this page they have already decided to increase their order to get free shipping but on seeing their options they decide they would like to get the product sooner. So, they then choose to pay a reasonable cost to get it quickly. This optimizes both the company’s revenues and the customer’s satisfaction.

Testing to validate changes to shipping policy

I realize that moving over to the new norm will be a major change for many companies and it may be difficult to make this commitment because of the risk if the increases in sales do not materialize. A way to test this is to offer it first to a select group of customers for a limited time as a reward and see their response before advertising it company-wide. A prudent course for 2010 would be to get such a test underway this year and be prepared to move over to the internet norm in 2010. With Amazon growing at 30% annually and shoppers increasingly being sensitized to high shipping charges, it is necessary that you have a plan to compete in this area that is so important to your customers.

Summary—here are my recommendations in reviewing your shipping charges:

1. Examine your table and if it is not in line with the norm, revise it. Implement special charges for heavy and high volume items where necessary.
2. If possible, adjust selling prices on hard-to-compare products upward to offset lost margin on shipping charges.
3. Watch the market in the holiday season and offer temporary free shipping if necessary to match your competition.
4. Consider year-round free shipping for all orders that are about 30% higher than the median order value and 15% higher than the AOV.
5. Put expedited shipping as your default to recoup lost shipping revenue and encourage better customer satisfaction.
6. Structure a test of your new shipping policy as a time limited reward to best customers for the rest of 2010. Upon success, roll out this policy for 2011.

This entry was posted on Thursday, May 27th, 2010 at 2:53 pm by Bill Nicolai and is filed under Feature Article, Newsletter. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.