Simple Maths Shows us Online Shopping's Potential

Compound interest is the eighth wonder of the world. He who understands it, earns it … he who doesn’t … pays it

It’s a great quote, whether or not it was really Albert Einstein who said it. The reality is that the cumulative impact of sustained growth over many years is the not-so-secret formula behind almost every successful investor. Warren Buffett is just one glowing testimonial for the power of compound interest. If you’d invested $1,000 in Berkshire Hathaway in 1964, you’d now have over $10 million – thanks to 20% compound annual returns.

The formidable effects of compound growth underpin many long-term shifts in business and society. Yet our brains often struggle to grasp the maths, even when we see it unfolding right in front of us. Here’s an example. As I write this in early 2017, online transactions in developed economies average 8% of total retail sales. That’s up from 1% in 2000, achieved with just 14% a year compound growth between 2000 and 2016. If things continue at the same rate, by 2030 online transactions will represent 50% of all retail sales.

 The Impact of Compound Growth on Online's Share of Sales

The Impact of Compound Growth on Online's Share of Sales

Does that sound over optimistic? Even if we shave 5 percentage points off the projection, by 2030 online transactions will still account for a quarter of all retail sales.

Very few retailers are planning for such sustained online expansion. Some would point to their investment in digital and new channels as showing that they’re prepared, but a fairer test of whether a retailer is ready for burgeoning home shopping rates lies in their plans for physical stores. Shopping centres and physical stores are built for a 15-20 year lifespan – yet most of today’s designs still assume the volume of products flowing through these traditional channels will keep growing.

A few retailers are designing their stores to reflect the shift to online shopping. One, inevitably, is Amazon, who has announced plans for at least ten US bookstores. Based on Amazon’s own vision of retail’s future, these will carry a limited range of about 4,000 titles, prioritising the type of books Amazon knows from its online store reviews that customers will want to browse and “discover” in person. In-store stock will be minimised by offering free delivery to Amazon Prime customers, with the books coming direct from Amazon’s warehouse.  There will be selected technology products on offer, too, such as Kindle e-readers. This will give customers the chance to experience key products first hand.

 Kindles available to try in Amazon's physical bookstore

Kindles available to try in Amazon's physical bookstore

Most of us in retail focus on executing current plans, rather than predicting the future several years out. Although boards should be taking a five to ten-year perspective, few have a realistic picture of how retail will look that far ahead.  As Amazon’s CEO, Jeff Bezos,  has noted,

“If everything you do needs to work on a three-year time horizon, then you’re competing against a lot of people. But if you’re willing to invest on a seven-year time horizon, you’re now competing against a fraction of those people, because very few companies are willing to do that.”
— Jeff Bezos, Amazon CEO

The tough reality is that it’s simpler for a disruptive new entrant like Amazon to design stores to meet a long-term shift in shopping habits, than for an established retailer to retro-fit changes to its existing stores. Delivering the message that we’re likely to see a reduction in traditional retailing jobs is not easy. But that’s where the evidence (and maths) increasingly points. To compete in future, we’ll have to start designing stores that are smaller, and very different in format.