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The Power (and Dangers) of Platforms within Commerce
A long-time guiding principle for Equal Ventures’ investment into the retail space has been “Be Mindful of the Power of Platforms.” Platforms are incredibly exciting and dominant businesses. They can produce immense economic efficiency (for both the owner of the platform and its users), but they aren’t without their own set of perils. Platform businesses like Salesforce, Apple and Amazon (all of which have advanced app/developer ecosystems with billion dollar businesses built upon them) have tremendous captivity over not only their customers, but also their business partners and developers working within their ecosystems. These platforms historically have symbiotic relationships with these partners — after all, it’s the success of these partners that drives the utility and differentiation of the overall platform from others). However, we’ve recently seen a repositioning of this posturing that reminds us of the power of these platforms and the potential pitfalls of building upon them.
The dynamics of this shift have been acutely felt in the retail sector. The overreliance on social channels is a key reason why DTC-only strategies are no longer tenable (as discussed in our Death to DTC? blog). Even before the Apple iOS14 update, CACs were already rising (increases of 60–75% from 2014 to 2019), but the ATT update in 2021 put the final nail in the coffin for many brands using paid social as their primary method of acquiring new customers. Brands who had a meaningful presence on third party marketplaces like Amazon were better off, but as Amazon saw increased reliance on its channel, it tightened its hold on merchants as well.
As investors in the retail space, we think it’s incredibly important to be mindful of the power dynamics of these platforms and the risk that reliance on them may have on long-term business prospects. As capital markets tighten, the pressure for these platforms to produce margin grows and we’re seeing this acutely impacting both emerging brands and the software companies seeking to serve them.
Shopify — From DTC Darling to B2B Bully
As of April 2023, Shopify powers 4.2M live websites and the vast majority of these customers are selling on just two channels — Amazon and their own Shopify DTC websites. Shopify powers a merchant’s customizable front-end store, payments, inventory management, fulfillment, and more, while offering a full ecosystem of easy-integration enablement apps. As a merchant’s only fully-owned branded presence to its consumers, Shopify plays an incredibly important role. However, despite Shopify’s ability to turn off brands for violating its terms of use (which it does occasionally), they need merchants as a whole to remain satisfied and stay on the platform. Shopify itself has set the standard for ease of onboarding within ecommerce, so switching costs have been lowered dramatically since the early days of ecommerce. Consequently, most Shopify customers leave the platform within a year — many due to the natural churn of SMBs, but a fair amount to competitors as well. Where Shopify may actually have its highest degree of captivity however, is not over the brands selling on the platform, but the legions of founders building within its app ecosystem.
Shopify introduced its app ecosystem in 2009 and now has over 8,000 apps available via its marketplace. These developer partners (including Klaviyo, Yotpo, Shippo) get seamless integration into a brand’s OS environment and benefit from streamlined acquisition and onboarding. The apps increase the overall utility and differentiation of Shopify from alternate solutions, while making Shopify money from app sales themselves. Much like with Salesforce, Shopfy’s app ecosystem propelled it to significant heights above adjacent competitors in the company, leading to Shopify being heralded as the emerging champion of e-commerce. Shopify leaned into the development of its ecosystem, reducing take rates to 15% in 2021 and only after the app developers pocketed 100% of the first $1M. This relationship seemed heavily symbiotic, with the company hitting a market cap of >$185b in November of 2021 and dozens of venture backed companies (see our full market map here) built for the Shopify ecosystem, raising tremendous amounts of capital.
This all changed in 2022. As the market tightened, so did Shopify’s control over checkout (especially given that payments made up roughly 75% of the companies revenue in 2022). While Shopify does support some third-party payment processors, transactions that do not flow through ShopPay are subject to a transaction fee of up to 2%, placing pressure on brand margins. Shopify has moved decisively to remove support or turn off apps in the past that diverted GMV away from Shopify Pay and any threat to the core monetization is met with swift action. Similarly with shipping and fulfillment, while the company previously courted a universe of logistics partners, it started making aggressive moves to internalize these services to increase their take rates of topline GMV. The platform announced plans in 2019 to roll out a $1B physical distribution network across the U.S. and Canada and while execution has been fraught, it remains a continued priority for the company. Shopify finished its acquisition of Deliverr in July 2022 and execs view Deliverr as a key component of building out Shopify’s own fulfillment network, an unwelcoming message to the host of shipping and fulfillment solutions that have built within the Shopify ecosystem.
Interestingly, Amazon has also entered the fray to threaten Shopify’s core. Announced in April 2022, the “Buy With Prime” button enables consumers to use their Prime account to buy products and get it fulfilled by Amazon regardless of purchase channel, including a Shopify ecommerce store. If a consumer buys a product from a merchant’s Shopify store through the “Buy With Prime” button, it’s Amazon, not Shopify, who is able to monetize on the payment AND fulfillment fees. Shopify’s CEO Tobi Lutke initially expressed optimism at Amazon’s attempt to extend its arm outside of its own ecosystem and stated “this fits perfectly into our world view … and it’s not nearly as zero-sum as some people make it out to be.” However, Shopify started warning merchants later on the security dangers of integrating with the “Buy With Prime” button, suggesting it is privately more worried about Amazon’s encroachment. The button went live for all merchants in January of this year — time will tell which platforms’ advantages prove more compelling to merchants.
Amazon — The Retail Platform to End All Platforms
Amazon’s recent tightening of its power positioning doesn’t stop there. If DTC is about connecting (and targeting) with the right consumer, Amazon is about gaming the algorithm. Similar to the Shopify ecosystem, a whole cottage industry has developed, devoted to enabling Amazon sellers to optimize their listings, prices, ad spend, reviews, and more in order to reach the coveted top spots within specific product categories. Amazon held a rich promise for sellers — by 2021, 60,000 sellers boasted over $1M+ in sales on Amazon (more than 2x just three years prior). Getting on Amazon enables sellers to access a captive audience (similar to Facebook or Meta) with a strong intent to purchase (similar to Google search). In exchange, sellers give up a portion of their sales to Amazon and the direct connection to the consumer. Amazon even opened up its sprawling, best-in-class supply chain to fulfill on behalf of merchants at a much lower cost than if sellers were to go about it themselves, another clear advantage of the platform. It was a deal that most sellers were happy to make.
As early as 2019, cracks started appearing in the façade. Sellers were punished for not having the best prices on Amazon, were strongly encouraged to use FBA and ultimately forced to advertise on the platform (which if not explicit, became almost mandatory for survival). Things came to a head during the pandemic as Amazon expanded its private label lineup in coveted top spots and prioritized certain categories over others for their fulfillment centers. Amazon’s placement and pricing quickly dominated many of the categories they approached, leaving the legacy brands in these categories decimated. Similarly for those selling in the categorized deprioritized by Amazon’s fulfillment centers, they began to see inventory pile up as they waited weeks for their product to be accepted into Amazon warehouses. This has coincided with a steady increase in fees, with Amazon’s share of seller revenue now approaching 50% (between transaction fees, fulfillment, and advertising). For sellers who have built their businesses on Amazon, there are limited alternatives. While Walmart.com and Target.com have put up astonishing growth in recent years, Amazon still holds 40% of all U.S. retail ecommerce sales, with the next 14 retailers at a combined 31%.
Balancing the platform
There is an inherent tension between the value creation of platforms unlocking economies of scale for emerging brands, enabling greater operational efficiency, and the consequent risk of platform reliance. As we see more platforms pop up and scale within retail (for example, Faire within the longtail wholesale segment), lessons from dependence on Amazon and Shopify should serve as cautionary tales to both brands and potential partners. With that, we recommend platform and channel diversification as well as having a deep understanding of who the true core customers that a platform is serving. App developers would do well to keep in mind that Shopify will always serve the merchant above all else. Merchants should always remind themselves that Amazon’s ultimate priority is the consumer.
As investors, we’re always on the hunt for channels that can serve as new platforms, like Leap within brick and mortar and Ghost within wholesale & disposition, to help brands manage the migration to omnichannel strategies to reduce dependence on a single platform. If anyone is building in these spaces or wants to chat more about our “Be Mindful of the Power of Platforms” guiding principle, please reach out to Rick (zullo@equal.vc) or Chelsea (chelsea@equal.vc)!