The Collapse of Dropship Models

Definition: Dropshipping is a e-commerce model where a store sells products without keeping inventory, instead sourcing items from third-party suppliers who ship directly to customers. This allows the store to focus on sales and marketing without handling stock or logistics.

The revolution

Once upon a time, pre-2021, a model emerged that gave millions of business owners around the world the ability to sell products online. Founders were able to build reseller models, advertising products owned by other brands on their websites in exchange for a commission on each sale. At the same time, we witnessed the rise of private labels, with venture capital flowing into the space like a flash flood. IPOs were on the horizon, and the pandemic ushered in a mini revolution in online retail.

How do I know this? Because I was one of them.

Part 1: Dropshippers got smart

Dropshippers (resellers at least) made their money predominantly from paid ads, acquiring users digitally and "stealing" branded traffic from the very people they represent: their suppliers. This means if I (a founder) have an agreement to be an online reseller for Specialized Bikes, I’m going to bid on branded terms on Google for people searching for [Specialized Bikes] or the model, year, color, etc., hoping to convert those users efficiently and direct them to my website instead of Specialized's. If I were brave, I could start going after broader terms like [off-road bikes for sale] or similar, knowing that my cost-per-clicks to stay competitive would be more expensive, but I’d have access to a larger pool of shoppers.

As e-commerce grew publicly, brands seemed open to resellers acquiring market share on their behalf, knowing their margins were healthy, container fees were affordable, and investors were piling money into the sector. At the time, "digital marketers" were also lumped into the same cohort as "coders," and so few brands were doing this in-house, operating under the assumption that it was very complex to master. Following in suit, came the surge of paid media agencies with expensive retainers and low accountability. As agencies got sloppy, and brands continued to ride the shopping surge, dropshippers got clever and found gaps in traffic they could exploit, operating like true start-ups.

For context, dropshippers’ margins at the time ranged from 15-30%. If you wanted better margins, you needed to buy wholesale or have your own warehouse facility. So it became a volume game. If you could acquire customers at 10% of product cost, then account for 3-5% in fees, you would retain maybe 3-15% margin, scaling your ad spend until you captured as much profitable traffic as you could. By keeping fixed costs low, you may be able to build a profitable business.

**It’s important to remember that while the ecosystem supported dropshippers more fairly than it does today, it was still hard to be profitable. Your niche, the AOV of what you were selling, and many other external factors came into play.

Part 2: Brands got wise

As time went on and we crept into the spring of 2020, brands started to ride the largest online shopping wave in history, coupled with stimulus checks (AKA shopping checks). All-in-all, the American people seemed happy to spend! However, as sales volumes surged in many categories, some as high as 20x, what else happened?

1. Shipping costs increased, in some cases by more than 300%, due to container demand. Read more
2. Import tariffs on goods from China increased. Donald thought this would lead to brands shifting their manufacturing to the U.S., but instead, Chinese manufacturers simply passed their increased costs down to American buyers, knowing they had leverage. This led to increased prices on the retailers’ end.
3. Inflation began to spike as a result of point two coupled other spending habits.

These factors, among others, gave private labels leverage to dictate terms with their resellers. They started asking, "Why do we need you if we’re out of stock, my suppliers have doubled my COGS and our demand is surging?" This was a hard question for resellers to answer. Why? Because the brands were right. They didn’t need resellers stealing their traffic and driving up their advertising costs.

As founders and teams became wiser to how their resellers were profiting, they began to reduce reseller margins, restrict them from bidding on branded terms (which are often cheaper than broad terms), and limit purchase volumes. Many private labels also cut off resellers unless they were willing to buy inventory upfront.

In tandem, companies like Clearbanc (now Clearco) emerged, backed by VC’s, helping founders leverage their growth at low interest rates by funding advertising bills and inventory fees with small daily repayments that were contingent on revenue. In classic SoftBank fashion, the investment flopped. As brands failed to meet their debt repayments, someone’s always left holding the bag.

Part 3: Brands bid farewell

2020 was undoubtedly “The Year of E-Commerce.” I’d argue 2021 could share the title, but dropshippers were under close watch, and private labels, after spending 12 months battling challenges (like logistics), finally had a bit of breathing room to realize they didn’t need resellers - unless those resellers were adding significant value to the brand.

As 2021 dragged on, with many of the new pricing factors in play, resellers who had built sustainable models, shifted their focus to wholesale, or launched private labels survived. As for the pure dropshippers, well, many didn’t make it. Of course, there are some survivors. Those with great relationships with their suppliers, reasonable margins, and a niche that wasn’t too competitive still had a chance.

Is there a dropship revival on the horizon?

Today, we reside in an ecosystem where building a successful reseller model has become extremely challenging. Why?

• Almost every niche is saturated, making intent based ad-engines like Google challenging to bid efficiently.
• Top-of-funnel drivers like Meta and TikTok have made content creation both expensive and necessary for success on those platforms.
• Dropshipping margins are as low as ever, if not lower, for online resellers.
• Shipping containers remain expensive compared to five years ago.
• Consumer sentiment is low, and shopping behavior has slowed, despite the S&P revival.

There are a LOT of reasons why this model is difficult, and the current ecosystem simply doesn’t support it the way it did five years ago. I’m also seeing far fewer videos of fake founders in fake private jets saying, “Hey, do you want to learn how to dropship and make a million dollars?” I’m taking this as a sign that most of those characters have stopped stealing people’s money and moved into stealing peoples money - with AI instead. So my answer is no - farewell dropshippers, for now.

However, there is an increasing interest in SMART Dropshipping, a new concept that means every part of your Op-stack is monitored for retroactive optimization using AI. We’ll talk about this more in a latter article, after we discover it’s probably bs…