Free Shipping Day: Boom or Gloom for Merchants?

By Todd Obolsky, special to CNBC

NEW YORK (CNBC) -- Happy Free Shipping Day.

Or was it? For many online shoppers, a free shipping offer is the holy grail of deals. Forget 20% off an item or a coupon for a future discount: Free shipping is what makes people click the "buy" button.

And Friday, the fourth annual Free Shipping Day, may have meant banner sales for the more than 2,200 merchants that signed on.

Internet marketer Luke Knowles hatched the idea for Free Shipping Day after reading several years ago that 90% of consumers buy more when offered free delivery. On Free Shipping Day in 2010, Internet non-travel retail spending hit $942 million, the third-highest one-day total ever.
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There's no doubt that free shipping is a significant force in online retail sales. In a recent comScore poll, 42% of respondents said it was "somewhat important" to "actively seek out shipping deals," while more than one-third (36%) said it was "very important" and "would not make a purchase without it." And more shoppers are taking advantage every year: For the week ended December 4, comScore estimated 63.2% of all online retail transactions included free shipping, a full 11 points above the comparable holiday week in 2010. (Even during the rest of the year, levels top 40%.)

This "negative" cost for the consumer can come at a notable price for the small business owner, who often tentatively skates on ultra-thin margins throughout the year in the hopes of tipping annual profit into the black come December. So what are the costs behind the costs -- is there a dark side to free shipping?

Beezer Molten, owner of adventure gear and clothing retailer Half-Moon Outfitters, based in Charleston, S.C., says "Shipping is always going to be a fairly tough part of the business -- it can absolutely crush profitability on Web transactions if done wrong." In order to compete with the likes of national chains such as REI and EMS, free shipping is available throughout the year. He says it's pretty much a "required element" these days, even if plenty of customers do favor speed and check off one of the faster methods at additional cost.

At San Francisco-based, which trades in Japanese designer and collectible toys, owner Omar Valles says bargain hunters who cherry-pick the toys with the largest discounts for their baskets can be a serious downside in Web retail, destroying margins that are already stretched.

However, they're more than matched by the goodwill generated by an offer of free delivery (it kicks in with a minimum purchase of $100), and the interest in perpetuating a local business. "I had one customer who continually bought from me, but, I discovered, never used the free shipping," said Valles, who also operates brick-and-mortar counterpart Double Punch. "So when he visited the store one time I asked him why. He told me that he appreciated the offer but at the same time, he knew how tough the economy had been and that was his way of showing support for my business."

Valles says the rate quote in the shopping cart that spells out shipping options and costs for the buyer is almost as valuable. Overall, though, he doesn't see no-cost shipping as a requirement, but as an extra perk that can generate regular customers.

For Susan Svec, owner of Susan's Soaps & More, an online retailer based in suburban Dallas, a successful sale doesn't necessarily depend upon free shipping. While online customers frequently take advantage of free delivery with a $75 purchase, she says there are other ways to engender customer loyalty. Those who connect with the company via email or Facebook get coupons and notice of special free shipping days. Even so, Svec is acutely aware of the struggle to construct the perfect product-customer service package. "Logistics is definitely one of the biggest headaches for small business."

Business owners have carefully considered the impact of offering free shipping, and crunched the numbers to arrive at the perfect tipping point that equalizes a higher-value checkout basket and gratis delivery. A minimum-buy strategy is common; many others increasingly employ a flat-rate system in which any basket of goods up to a certain value costs the same to send.

Practical eCommerce, a news and advice Web site geared to smaller businesses, polled some of its readers on the subject of free shipping earlier this year. Comments from the survey included sentiments like "Free shipping is never free," and, more pointedly, "Companies that offer 'free shipping' have to add a percentage of shipping into each product they sell, as UPS ( UPS) does not work for free. If consumers believe they are truly getting shipping for free, they have been misled." If the unspoken contract of trust between customer and company is broken, however, it can't usually be fixed.

"Shipping is always going to be a fairly tough part of the business -- it can absolutely crush profitability on web transactions if done wrong."

Half-Moon Outfitters' Molten uses USPS Priority Mail -- and doesn't mince words in calling it "neither fast nor particularly reliable" -- but low overhead (attributed to his distribution warehouse that handles his eight stores strung between Charleston, S.C., and Atlanta) helps him absorb the cost of free delivery.

Outside the world of the USPS, UPS and FedEx ( FDX), new companies have opened up a niche in getting products out to buyers -- or to other players at various points in the retail/wholesale product lifecycle -- by cobbling together chains of disparate delivery providers to minimize costs for small businesses.

In an easily understood, highly effective bit of marketing, one of these has dubbed itself "the Orbitz of shipping." BlueGrace Logistics, based in Tampa, Fla., has amassed since 2007 a corps of 3,000 shippers large and small (including the big three) to serve its 2,500 customers. CEO and founder Bobby Harris, whose background is in transportation management, saw an underserved market of smaller players that couldn't seriously compete when it came to economies of scale, technology or knowledge base. Since the shipping industry as a whole has bounced back -- with rates up 15% on an annualized basis and tonnage up 2%, according to Harris -- he sees this area expanding in the future; he has already watched several larger companies quietly acquiring smaller players.

Options like these will become increasingly important in the near term, with shipping costs up notably since the start of the recession, and if the USPS goes ahead with planned changes to service to help cut heavy annual losses. Svec currently counts Priority Mail as reliable and cost-effective (almost always cheaper than UPS or FedEx), and it's the method of choice for the majority of her customers' purchases. But, with the heat-sensitive items she sells, notes Svec, a shift from a maximum of three days in transit to five or more could be a dealbreaker.

In which case, she will once again have to evaluate the true cost of free shipping.

-- Written by Todd Obolsky, special to CNBC

CNBC is a world leader in business news, providing real-time financial market coverage and business information.

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