Saturday, May 14, 2005

The Long Tail Concept Applied to Physical Goods

In an interesting article titled "The Long Tail" and the follow up article titled "The Internet And the Death Of 80/20," the authors argue that, in the entertainment industry, the niches can produce riches, thanks to the internet. How does this apply to supply chain for physical goods? Customization at a small markup will be the wave of the future for some items, while "make it cheap in China" will be the wave for other items.

Entertainment content is (or can be sold as) digital. With no shelf space to pay for and, in the case of purely digital services like iTunes, no manufacturing costs and hardly any distribution fees, the cost of selling a "hit" is the same as selling a "niche appeal" offering. More than 50% of Rhapsody's business is streaming songs past the top 10,000 tracks.

Supply chains for physical goods (cars, books, food, ...) have a lot of challenges to be able to sell profitably into the niche markets. Over 50% of Amazon's profits come from sales past the top 100,000 titles. eBay is all about catering to the niche markets - the person craving a rare or unique or discontinued item. Dell has a very profitable franchise making the products to customer specifications where conceivably each item could be unique appealing only to that customer. So despite those challenges, companies selling physical goods are succeeding in selling small quantities to niches. This trend is also referred to as mass customization.

Last year Costco sold 45 million hot dogs at $1.50 each and 60,000 carats of diamonds at up to $100,000. As retail consultant Michael Silverstein explains in Trading Up, people eagerly spend more for items that make their hearts pound and for which they don't have to pay full price. Then they "trade down" to private labels for things like paper towels, detergent, and vitamins. customers will pay a small markup for the "trading up" items to get it their way. For the "trading down" items, customers are more interested in getting it cheap than in customization. Companies that are brand owners will succeed in the future based on their ability to exploit the markup the customers are willing to give for the "trade up" items.

Traditionally customization has made products very expensive and has forced a lot of us to consume the standard stuff. Some vendors, as explained in this article, hawking physical goods including Lands' End, Levi's, Nike, M&M's, and even the U.S. Postal Service, have tried mass customization with very mixed results. Levi's has stopped offering its customized versions of its classic denims, for example. These are just early experiments which are leading to a lot of cycles of learning. Companies are learning from this. The trends towards more flexible manufacturing, more efficient parcel shipments, etc. are also converging with this cycles of learning. Companies will figure this out pretty soon. Dell products are configured on-order and are within reason exactly what you want. All of the supply chains do not have to end up with Dell type make to order business model to be successful. Companies will figure out how to micro-segment markets and target them with products for that micro-segment of market. That way they meet the desires of people to have it the way they want it with out having to customize for each customer.

"Thinking about mass customization as a goal, even if you don't get there, changes the way you think about what you are trying to offer customers," says cultural critic Virginia Postrel, author of 2003's The Substance of Style.

Mass customization at a small markup will be the wave of the future for the "trading up" items and "make it cheap in China" will be the wave for the "trading down" items.

What do you think?

On an unrelated subject, I visited Seoul, for a short trip, last week. Some random observations:

South Korea has firm proof that they have moved into the 21st century. They got their first Krispy Kreame @ Seo-dae-moon Ku!

Amazing how many consumer brands that S. Korea has produced when compared to Taiwan; Samsung, LG, Hyundai, Kia. Name 4 global brands from Taiwan - BenQ, then?

Did not know that S. Korea has the largest contingent of armed forces in Iraq after US & UK!

Try buying a camera in Korea. For the same brand and model, whether a camera gets made in China or made in Japan means a price difference of 15%! When was the last time you looked at where a camera was made before you ordered it on Amazon.com?

Karthik Mani

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