E-Tailor Startups Challenge Amazon in $200 Billion Market
Venture firms such as New Enterprise Associates and Accel Partners are stepping up investment in e- commerce as shoppers increasingly turn to niche websites for custom-made clothes at prices that undercut department stores.
The two firms, along with Lightspeed Venture Partners and Battery Ventures, helped online retail funding more than double last year to $328.7 million, according to the National Venture Capital Association.
Custom clothing startups J. Hilburn Inc., American Giant and Bonobos Inc. are racing to gain share in a U.S. e-commerce market that Forrester Research Inc. estimates will reach $327 billion in 2016, up from $202 billion last year. They’ve won customers and venture backers by cutting stores from the supply chain to ship straight to consumers from the factory, charging lower prices than department stores and eking out higher margins than Amazon.com Inc. (AMZN), the biggest Web retailer.
“J. Hilburn will sell shirts that are made out of the same fabric mill in Italy that a Zegna would sell at Neiman Marcus for $300,” said Brian O’Malley, a partner at Battery Ventures, an investor in the startup, which has raised a total of about $12 million. “They can sell that same shirt totally custom-made for the customer for less, and do that still with healthy margins because there are a lot less middlemen along the way who need to get paid.”
Part of the appeal is offering an experience that consumers can’t get from a traditional online retailer, said Harry Weller, a partner at New Enterprise Associates, which invests in other e-commerce startups.
“They’re tackling a behavior,” Weller said. “If you can address an inefficiency in consumer behavior as opposed to just pricing, you can make more. Take the fact that men don’t like buying clothes -- if you can make it easy for them, they’ll pay a decent price.”
J. Hilburn keeps expenses in check by making items to order, eliminating costs associated with running warehouses and stores and avoiding the need to discount obsolete merchandise, said Hil Davis, co-founder and chief executive officer. A typical garment from most retailers is marked up three times as it works its way through the supply chain from the factory to the store, he said.
A men’s dress shirt costs J. Hilburn about $35 for fabric and another $22 for manufacturing. That $57 shirt sells for around $125 -- about $200 less than a shirt by Ermenegildo Zegna Group sourced from the same Italian mill, Davis said. Zegna shirts cost $325 to $435 on Neiman Marcus Group Inc.’s website.
Its prices give J. Hilburn a 54 percent gross margin. Amazon’s gross margin was 22 percent in 2011, while Macy’s Inc. (M), operator of its namesake and Bloomingdale’s stores, logged a 40 percent margin in its most recent fiscal year.
“It was obvious that you could slice a ton of fat out of the retail supply chain,” Davis said.
Stacey Keller, an Amazon spokeswoman, declined to comment. Zegna didn’t respond to requests for comment.
The business model is luring investment from some traditional department stores. Nordstrom Inc. (JWN) in April helped lead a $16.4 million investment round in Bonobos, an online menswear company, in an effort to improve Internet sales.
“Online is the fastest-growing part of our business,” Colin Johnson, a spokesman for Seattle-based Nordstrom, said in an interview. “Bonobos is a company that’s rapidly growing and really in step with how men want to shop. We’re really excited to learn from them.”
Bonobos began in 2007 as a research project for Brian Spaly and Andy Dunn, then students at the Stanford Graduate School of Business. After getting hand-tailored pants during a trip to Colombia for a friend’s wedding, the roommates saw an unmet market niche: pants nipped in at the waist to give a slim fit to men with an athletic build.
After selling some samples to Stanford classmates, they debuted the Bonobos website. The startup raised more than $38 million from investors, including Accel and Lightspeed, to help expand its wares beyond pants to shirts and custom suiting.
Bonobos is the largest U.S. clothing brand started online. Designers at J. Hilburn, the largest U.S. custom-shirt maker, and American Giant, which sells casual menswear online, work directly with manufacturers on the fit, fabric and sewing quality of their garments. They win factory contracts for small batches because, by placing orders throughout the year, they offer manufacturers a cushion against seasonal revenue swings from larger fashion clients that usually order in bulk four times annually.
Davis, a former retail analyst for hedge fund Citadel LLC, hatched a plan for the company during his honeymoon in the Virgin Islands. He teamed up with Veeral Rathod, a former investment banker at Credit Suisse First Boston, to start the Dallas-based online retailer in 2007. The pair shared a love of luxury shirts and an aversion to shopping.
“Who’s going to justify going to buy a shirt for $250 ready-to-wear when they can buy a custom-made shirt with the same fabric for $109?” Davis said. “That’s the big bet we’re making.”
While J. Hilburn expects sales to more than double this year from $17 million in 2011, its success depends on a small group of devoted customers, compared with Amazon, which boasts more than 100 million users who generated sales of $48.1 billion last year.
Amazon and Macy’s have broad appeal with customers seeking one-stop shopping for a wide variety of items and loyalty rewards programs such as Amazon Prime that help build repeat business.
New Enterprise Associates, a venture firm with offices in Menlo Park, California, and Chevy Chase, Maryland, has invested $18.7 million in boutique e-commerce websites, according to NVCA. Its investments include accessory vendor BeachMint and flash-sale operator Gilt Groupe Inc., which plans to hold an initial public offering in 2013, according to Jennifer Miller, a Gilt spokeswoman.
American Giant in February began selling sweatshirts online, shipping directly to shoppers from the factory. Like Bonobos, the San Francisco-based startup promises men a tailored fit --in this instance by offering a refined spin on the hoodie.
Selling online helped American Giant trim enough costs from its supply chain to afford something many other retailers can’t: manufacturing in the U.S. All its garments are cut and sewn in Brisbane, California.
Small-batch clothiers have drawn venture backing “because consumers are excited about shopping and finding things in new ways,” said Josh Goldman, a partner at Norwest Venture Partners, which has invested in the vintage-style clothing website ModCloth Inc. “It used to be about search -- that was Amazon,” he said. “Now it’s about curation.”
American Giant raised $5 million from angel investors in an investment round led by Donald Kendall, former CEO of PepsiCo Inc. The company expects sales to triple next year, though it declines to give specific numbers.
“Everyone’s focused on these businesses that have sticky products that people like and come back to buy,” said O’Malley of Battery Ventures. “There’s a lot of momentum in this market.”
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