BUSINESSWEEK ONLINE : NOVEMBER 20, 2000 ISSUE
BUSINESS WEEK E.BIZ -- SPECIAL REPORT

Warehouse Trouble
Delivering the goods looked like a good business. Now it's mighty crowded

Photo by Jay Laprete
SubmitOrder.com's Kreager: The upstart has invested millions
Ready for the next dot-com shakeout? This one could come in the very solid bricks-and-mortar world--among the so-called fulfillment companies that store and deliver the goods for online retailers. Scores of these outfits have been racing to fill their warehouses to the ceiling with items as small as a package of paintbrushes or as large as a kayak. Now, however, it looks as if some of those shelves may carry only dust.

Over the past few years, companies have been lured into the fulfillment business by the boom in online sales. Today, they see opportunity in the debacles of Christmas, 1999, when thousands of gifts ordered online didn't make it under the Christmas tree in time. Analysts figure online merchants will be turning even more to fulfillment companies that have the logistical expertise necessary to deliver the goods. According to a mid-year estimate by investment bank Stephens Inc. in Little Rock, by 2005 the market for fulfillment services is projected to leap 900%, to $10 billion.

Now it looks as if those figures may be overly optimistic. What many fulfillment companies saw as a potentially lucrative business may be too crowded. The evidence of a possible glut is already showing up in prices: Fulfillment companies are charging roughly $1.50 an order plus 25 cents for each item in the order. Just a few months ago, the going rate might have been double those figures. ''The market probably won't support more than five premier players,'' says Tim Quillen, a fulfillment analyst at Stephens. ''There will be a lot of also-rans out there.''

There already are. Fingerhut Business Services Inc., ballyhooed just two years ago as a fulfillment powerhouse because of its history as a catalog company, is scaling back its fulfillment outsourcing business. Other casualties could come out of a list of 86 fulfillment companies compiled by Southwest Securities Group Inc., a brokerage in Dallas. Of those, about one-third are less than two years old, says Kit Case, a senior vice-president at Southwest. They include upstarts such as SubmitOrder.com Inc. in Columbus, Ohio, which, according to President J.T. Kreager, has invested millions in state-of-the-art warehouses, order management, and customer service systems. Many others are new divisions of established companies such as UPS e-Logistics, a service of United Parcel Service Inc. ( UPS), and JCP Logistics, which is filling orders for department store J.C. Penney Co. ( JCP) and others. Even Ryder System Inc. ( R), better known for its trucking operation, offers e-fulfillment services from a few warehouses.

The timing couldn't be worse. Just as these companies are gearing up to deliver the goods, plenty of dot-coms are either shutting down or choosing to fill their own orders. On Oct. 20, cosmetics seller Eve.com announced that it was closing. It joins Miadora.com, a jewelry e-tailer, and furniture site Living.com, which both closed their online doors on Sept. 22.

At the same time, there's a strong do-it-yourself movement. Bigger players such as Amazon.com Inc. ( AMZN) have built their own distribution networks. And startups such as Fogdog.com ( FOGD), recently acquired by sports fulfillment house Global Sports Inc. ( GSPT), have found creative ways to use the Internet to source directly from stores. EToys Inc. ( ETYS) also has gone on its own, ending a contract with Fingerhut after a disastrous 1999 Christmas. The online toy seller claims Fingerhut didn't deliver on its promises, and eToys ended up filling orders. ''We're controlling our own destiny,'' says James Leonard, director of distribution and logistics at eToys. Fingerhut and eToys are embroiled in arbitration over Fingerhut's claim that it is owed $14.8 million for unpaid services. In September, Fingerhut filed a defamation suit against eToys CEO Edward ''Toby'' Lenk after he claimed in a newspaper article that his company fired Fingerhut. In the suit, Fingerhut says the parting was by mutual agreement.

In fulfillment, control is key. If a company can afford the $20 million or more it takes to build a state-of-the-art warehouse and delivery system, it's worth it in the long run, say experts. If it runs its own show, a retailer can make sure orders get filled as soon as they're received. By sharing a system with others, companies risk getting short shrift. ''If you're a smaller client, you may not get the attention you want,'' says David Schatsky of Jupiter Research.

Instead of zeroing in on just pure-play e-tailers, fulfillment companies are trying to fill their shelves by lining up deals with traditional retailers and their online arms. For instance, ClickShip Direct Inc., a unit of Damark International Inc. ( DMRK) in Minneapolis, counts BestBuy.com ( BBY), the online unit of the electronics retailer, among its clients. SubmitOrder boasts BlueLight.com ( KM), Kmart's Net play, as a client and investor.

Why would retailers that already have a distribution network ask someone else to handle online orders? Because their current systems are geared to delivering cases of goods by the truckload to stores, not single books or turtlenecks to front doors. It's a whole different ball game, requiring faster response time and more precise packing. Many traditional companies are asking outsiders to do it, at least until they can put their own systems in place. Wal-Mart Stores Inc. ( WMT) is keeping Fingerhut on the payroll while it builds out its own system.

Retailers and other Web companies have plenty of fulfillment services to choose from. Connie Fuhrman, senior vice-president at BestBuy.com, says 15 companies sought its business. ''Demand is not meeting space availability at this point,'' she says. BestBuy.com chose ClickShip because it was nearby in Minneapolis, it had better terms with UPS and Federal Express Corp. ( FDX), and it was realistic about meeting BestBuy's tight 90-day time frame to be up and running. In the end, BestBuy didn't even meet its own deadline: It took more time than it expected to hook up the company's 350 retail outlets to allow store pick-ups and returns, so the company started shipping in June rather than in January.

Fulfillment services are facing some tough times ahead. The survivors are likely to be companies with big-name retailers such as BestBuy as clients, those with already well-greased delivery systems such as UPS, and those who offer several services, including a customer call center like the one operated by SubmitOrder, analysts say. ''Fulfillment is rapidly becoming a commodity service,'' says Jupiter's Schatsky. ''Many companies have to offer more services to maintain margins.'' That may be the only way for these bricks-and-mortar operations to survive a dot-com shakeout.

By FAITH KEENAN

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EBIZ Contents for issue dated Nov. 20, 2000


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