• by Josh Engroff , Op-Ed Contributor, September 23, 2016

For anyone in the CPG industry still unclear about the power of direct-to-consumer models, Unilever’s July purchase of Dollar Shave Club for $1 billion in cash was a deafening trumpet blast. The five-year-old startup,  which had pole-vaulted from obscurity to huge consumer awareness through brilliant YouTube videos, had also created a large subscription business and millions of direct consumer relationships in the process.

By going after a legacy CPG model that relies on retailers for distribution and broadcast media for messaging, Dollar Shave Club was able to price its product far below the competition while maintaining hefty margins, excellent customer service, and robust product innovation (as early investor David Pakman has eloquently articulated).

One of the most powerful components of the direct-to-consumer (DTC) model is the closed feedback loop with consumers, which, like some kind of magic genie, turns so many wishes into reality:

-- Marketing efficiency: Since a lot of product discovery happens in social channels, marketing is focused here rather than in inefficient broadcast channels.

-- Margin efficiency, since there are no physical retailers or distributers to pay.

-- Product efficiency, since direct feedback from customers fosters innovation and eliminates guesswork from product development decisions.

The giants in the CPG industry, of course understand this -- which is why they tend to be most active acquirers of the very startups disrupting their space (AB InBev, Unilever and Post in particular). They know that existing revenue models can be hard to change, and that the subscription model, which is predicated on very low customer churn levels, doesn’t work for all products. These companies realize that the only way to change their organizations while growing the top line at the same time is to invest in innovation. And for many, the quickest path to innovation is to acquire CPG startups and the fresh talent that comes with them.

Direct-to-consumer isn’t transforming just CPG, but every market in which  physical goods are sold, from cars (Tesla) to mattresses (Casper) to smartphones (Xiaomi). This is partly due to the benefits mentioned above, and also due to the new kinds of business that are emerging, such as pre-commerce and participatory commerce.

Pre-commerce means selling your product before you actually build it. This is particularly useful in manufacturing sectors with high marginal costs and a low appetite for unnecessary risk, like auto. The most famous example of this is Tesla, which earlier this year marketed its Model 3 on a pre-commerce model.

Instead of actually building thousands of the cars, buying lots of TV air time to announce their availability, and then hoping people would show up to buy them, Tesla got nearly 400,000 people to agree to put down a deposit now for a car they’d receive in 18 months. This allowed Tesla to precisely gauge demand (thereby de-risking the manufacturing process), as well as create a sense of FOMO among consumers, since it wasn’t clear how long the pre-sale would go on.

Pre-commerce flows nicely into participatory commerce, which is when a brand gives consumers a direct say in which products and features to prioritize. The Chinese smartphone giant Xiaomi does this exceptionally well through its user forums, where customers post 400,000 pieces of feedback each day, from bug reports to feature recommendations. This feedback directly informs later product releases.

Over the coming years, as more brands adopt direct-to-consumer models, the downside will be felt most acutely within traditional media, particularly TV. For decades the default choice of nearly every CPG and auto brand, non-addressable traditional media is just not going to cut it anymore in an age of direct relationships, social discovery, and massive consumer choice.