Can The Pandemic Become A New Era For D2C Startups?

When the coronavirus hit, we witnessed how quickly consumers can change their buying habits when they immediately turned to online shopping. In just eight weeks of the quarantine, e-commerce penetration climbed from 16 percent to 27 percent according to 2PM industry newsletter. Amazon.com Inc AMZN, Walmart Inc WMT, Target Corporation TGT, and Best Buy Co Inc BBY are not the only retailers that showed growth. A number of smaller niche direct-to-consumer (D2C) brands, including eyewear, wine, and pet food also boosted their sales. 

Many businesses, including global giants, are trying to meet the increased demand. In May, PepsiCo, Inc PEP launched two new D2C websites — PantryShop.com and snacks.com - targeting consumers’ needs, rather than offering a single site for specific products or brands. 

The same trend emerged in the entertainment industry. Walt Disney Co's DIS D2C division--which includes Disney+, Hulu, and ESPN — is estimated to bring in $21.7 billion this year, even though the company’s revenue was hit by the pandemic.

Moving Away From Big Brands 

D2C companies have changed the way consumers interact with their products by developing a direct relationship with the customer. Thanks to their innovative products, smart digital marketing tools, and competitive pricing, these “little guys” attracted investors’ attention. According to Crunchbase data, beginning in 2019, D2C startups raised between $8 billion and $10 billion in more than 600 venture capital deals around the world.

Many D2C startups have been acquired by bigger companies. In 2016, Unilever paid $1 billion for the men’s grooming brand Dollar Shave Club. And in 2017, Procter & Gamble acquired the online distributor of natural deodorant, Native, that attracted more than a million customers in the 2.5 years since its launch.   

The regulatory bodies have also recognized the impact of D2C startups on the market and, in some cases, tried to limit their consolidation with other brands. In February, the Federal Trade Commission (FTC) blocked the acquisition of the on-demand company Harry’s by Edgewell Personal Care, because the sale could “eliminate one of the most important competitive forces” in the $3 billion razor industry. Jeff Raider, the cofounder behind Harry’s, previously launched another D2C unicorn, Warby Parker, an online eyeglass startup that is now valued at $1.75 billion.  

What Are The Risks For Investors? 

At some point, after the market launch and a rapid breakthrough, D2C startups start operating similarly to their competitors—the traditional retail companies. Their growth slows down while distribution costs and marketing expenses increase. 

That is why VCs looking for high returns mostly target early stage D2C companies, when founders have just created a product and started “hacking” the traditional market niche. In just a few years, their business can reach a high valuation and give investors the opportunity to make money through an exit. And at later stages, thanks to their stable returns, most D2C startups can apply for traditional financing such as loans.   

Today’s D2C startup valuation ceiling is in the range of $1 billion to $2 billion. A recent IPO of the mattress-in-a-box company Casper Sleep Inc CSPR, is an example of a failed attempt to pass this mark. The startup, which at some point was valued at more than $1 billion, had to cut its valuation to around $500 million because of increased competition in the shipped mattress market. 

What Does The Future Hold?   

Tech startups show tremendous growth but many of them are overvalued and their future in the post-pandemic world is unpredictable. However, many D2C brands can show profits in just a couple of years after launching, attracting risk-aware VCs. Private equity firms, family offices, and business angels are also open to the opportunities that can bring them higher returns than traditional means.    

Not all D2C companies will survive the pandemic. If the economic situation does not improve, consumers will eventually have to cut deeper into expenses, beyond what has already been happening. However, understanding consumers, analyzing their preferences, and establishing a strong emotional bond will be increasingly important for brands in the post-pandemic world. And that’s what D2C startups are good at.   

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