The Evolution of Rug Retailing In America - The Current Market
Written By Rob Leahy
4/4/2017
Jacobson’s Oriental Rugs, of Syracuse, NY was one of the most innovative rug sellers in America. Jacobson was a controversial figure in the business, but for his day he employed some very cutting edge marketing tactics. In the 1950’s, as many rug businesses were trying recover from World War II, Jacobson’s advertised in New York magazines that they would send Oriental rugs anywhere in America and that customers could send back whatever they didn’t like. You would also receive a complimentary copy of the owner’s popular book, Oriental Rugs, A Complete Guide. Re-reading the book for this paper, I now see that it was actually a 479 page advertising brochure for the store’s rugs, or as we call it today, “content’. For local dealers across America it was an amazingly disruptive strategy and powered the company for decades. ‘Jake’ Jacobson used Internet logic a half century before the tactic became an operational platform for online sellers. We know now that it must have been very successful because internet sales companies generally report very low merchandise returns.
The first few rugs were sold online in the late 1990’s by digital pioneers during the dot.com boom. eBay was the first major marketplace for rugs and an incubator for many online sellers. By 2005 more committed companies began operating in this new digital wonderland. Rugs Direct, Rugs USA and Rug Studio led the way with more user-friendly sites and free shipping. Early on, established retailers considered internet sales a curious sideshow. Some dipped their toes in the water as Overstock.com became the pioneer in multi-line offerings. Prices were low and rug importers and producers had trouble with their conventional distribution. They awkwardly put minimum advertised pricelists (MAP) into effect, but were never able to enforce them. Both the sellers and the consumers were learning how to use the internet and confusion was rampant.
Over the years, though, online rugs sales have boomed. Some rug companies, notably Safavieh, have strategically embraced the internet. Others have become factors in the business just based on the inertia created by the flow of business to the internet channels. While it is true that fashion affects all price points the internet tends to deliver carpets that satisfy a practical need. Brighter colors and less complicated rug designs, favoring traditional, have been most popular. It must look good on a screen; often a handheld screen. The sales manager at a major importer told me that whenever they meet to choose new rugs to their line, they all look at the rugs on the floor through the camera on their phones. Low end to moderate priced goods have led the way online. Hand tufted initially and now Wilton and flatweave rugs dominate the online offerings. This is not to say that hand knotted goods do not sell online; Bloomingdale’s online department sells 75 rugs a day online, all hand knotted or woven.
Rug dealers originally saw a lot of ‘showrooming’ as customers came into the shops to see the brand, style and color of rug that they had seen online. However, improved websites and offers of free freight and even free returns have all but eliminated the practice. These days, the websites compete with each other and the rug importers have had to aggressively enforce their MAP programs between their online customers. In contrast to the early years, they have real clout now because very few online sellers stock goods in their own warehouses. The effective online participants depend heavily on supplier inventory, customer service and importer advertising programs.
Originally considered incremental sales to a company’s main business, online costs were not allocated properly. Whereas a conventional retail store needs something over 50% gross margin to cover fixed and variable expenses, online retailers price their products at 25% gross margin. However, in recent years’ online sellers have begun to realize that, while they have very competitive fixed costs relative to in-store retailers, their variable expenses are much higher than ‘bricks and mortar’ locations.
When the expense of free freight to the customer and the occasional free return freight are added to the product’s cost it can turn what looks like a profitable sale into a loser. Due to the profile of the typical online rug sale, freight on a 2x3, 3x5 and even a 4x6 can be nearly as much as the product’s cost. Sellers have to sell many 6x9 and 8x10 rugs to balance out the margin loss of selling small sizes. The 9x12 size and larger rugs are now charged a dimensional weight fee by the delivery companies limiting what had been higher margin rates on big rugs. No doubt that the major online sellers have a preferential rate structure from the delivery companies, but the ‘ship to’ address on rugs is usually a residence and typically entails a much higher freight cost. The margin impact of the internet’s free freight programs has to be extremely significant.
One thing that is incremental about internet sales is that they are usually ‘eaches’, allowing for limited economies of scale in purchasing, stocking or shipping. Successful online sellers negotiate minimum stock agreements with their vendors. These agreements actually increase the price of rugs relative to the price that a stocking dealer would be offered. Since each shipment is to an individual consumer there is a shipping fee that conventional retailers, who buy in bulk, do not bear. Furthermore, internet companies need dedicated customer service. These costs are now passed on to the online merchant. Granted, the online seller has little or no inventory, but they pay higher cost per unit sold than a conventional retail company. On the other hand, the typical rug retailer has a very slow inventory turnover rate and the carrying costs effect the bottom line. On balance, with better product cost allocation of online sales, they retail playing field has become level. In either case now, online or in store, the fundamental success criteria is volume growth.
As online companies have grown, though, they have found that they have the same or higher general and administrative costs (G&A) than ‘bricks and mortar’ merchants. The cost of website development and maintenance has skyrocketed since that advent of the internet. New functionality and an enhanced relationship with the customer are fundamental to success online and the costs are incredible. One multi-line online seller is said to be developing a 3D experience where you can move furniture and rugs in and out of a photo of your room that you have taken with your phone. The bigger online companies have even begun using local market TV advertising to direct customers to their website. Considering this arms race in the digital community, local rugs shop using tried and true promotional methods can be competitive again.
To put this in perspective, the key competitive arena in marketing websites is to project a local presence. One major online seller has said, “We want to be as fast as a trip to the store”. Getting as close as they can to this goal has been the strategy of the three major web sellers of rugs; Wayfair, Amazon and Overstock.com. Amazon is on record saying that it will do whatever is necessary to prevent the debacle of Christmas 2013 when UPS, their delivery partner, could not deliver a surge in orders. Recently they have purchased their own airplanes and set up a delivery hub at the closed Airborne Freight facility in Ohio. This has raised the stakes, and costs, of selling online.
So, how big is the rug market?
Those of us with many years in the rug trade have been amazed at how quickly the market has shifted to the internet from people buying rugs from their local ‘rug guy’. As I was beginning this paper, the rug dealers I spoke with thought that online sales were 40% or more of the market in dollars and well over 50% in units. Then, I began speaking to owners and sales managers at rug importers who, as a group, had little sense of how much business was being done online versus in store. Everybody was in their own ‘foxhole’ firing out, not certain of what was really happening out on the battlefield. These early conversations became the genesis of this project. I have now spoken at length with over thirty industry leaders, asking the same questions and have gained a good feel for the size and shape of the US rug market. This is far from a scientific study, rather it is a summary of observations that are reported as indication of the current state in the US rug market. The data collected and presented in the charts is available to any reader of this paper and I welcome any comment and discussion.
After summarizing the interviews, I searched for information on the market to cross check my conclusions. The US import data is not helpful because, except for hand knotted rugs, the entry codes for carpets and rugs are so broad that the intended end use of the import is blurred. There must have been market analyses conducted and in the files of the big corporations that participate in this market like Shaw, Mohawk and Milliken. Discussions I had with managers in those companies indicate that they deduce much of their information from customer conversations and management opinion. In my search for a previous study many pointed me towards the trade media. Unfortunately, the market for rugs in comparison to other floorcoverings is not only small, but its definition varied widely between publications. But, none had any actual research on rugs. When annual state-of-the-market reports are published the rug component is usually factored up or down based on trends elsewhere in the report.
So, what is the size of the US market for area rugs? And, what percent is done online? There are answers to these questions, but first you must define the market. The reader may note that this is the first time that I have used the term ‘area rug’, but that description is now appropriate. For my purposes, the market definition is the following: Area rugs are floorcoverings that are used for decorative purposes. Area rugs are used in home or in commercial settings. Bath rugs or collected rugs are not considered area rugs. Carpet remnants are not area rugs, but carpet purchased for area rugs and finished with serged or bound edges are included. My definition is based on the customer’s intended for use for the purchase and can be distilled down to ‘decoration versus utility’.
I have determined that the retail value of the 2016 US Area Rug market is $2.71 billion. I have built this number by defining certain segments and estimating the volume in each. They are shown in Chart 1 and described below. During the interviews information was collected on each segment and the principal buyers in each. Both the interviews and further study afterwards yielded the information on the online percentages. As mentioned earlier, the data used is these calculation is available to anyone interested.
Majors, In store: This group of sellers are high visibility stores in major markets that promote rugs as a primary or major product category. Includes Restoration Hardware, ABC Carpet and Home, Home Goods, Pottery Barn, (Williams Sonoma) and Stark Carpet. Some have very high online components; Williams Sonoma reports that 50% of sales are online, however we can be sure it is a lot more sauces and dishes than rugs. Restoration does not report online sales; in fact, they carefully guard this information. But, speculation in the rug business puts it at about 15% of sales.
Multi-line Online: Online sellers that carry a range of home products and that establish a relationship with the customer. The big three are Wayfair, Amazon and Overstock.com. These companies are increasingly focused on creating an experience that is as fast as a trip to the store. This sector also includes Macy’s online, Bloomingdales online and Safavieh’s online business.
Furniture Stores: The vendors feel that this is the fastest growing in store segment as furniture stores have finally adopted rugs as a viable retail category. Nebraska Furniture Mart and its sister companies, Ethan Allen, Gabberts, Arhaus, Mathis Brothers, Bon Ton. Importer stocks are successfully supporting this segment and have allowed stores like Rooms to Go and La-z-boy Stores to move into rugs.
Big Box: This segment includes Home Depot, Lowe’s, Costco, Sam’s, Target, Walmart and IKEA. Large national sellers with stores in every city and many in large cities. Most of the business is done in store, but all have active website strategies.
Rug Specialty: Independent one or two location stores with hundreds like them across the country. They carry higher end carpets, cater to the interior design trade and may also carry broadloom carpet. Most have very limited online components to their business. Included in this segment are carpet specialty stores, where there is some business done in area rugs, (as defined above) but, few carpet stores will support the inventory necessary to do much volume.
Closeout Retail: Deep discount stores that buy large quantities from importers as well as direct from overseas suppliers. The Dump, Greenfront, Beall’s Outlets, Big Lots, Ollie’s Bargain Stores.
Interior Designers: With many product categories catering to designers, particularly the fabric industry, designers have become more organized and now buy direct, dramatically enhancing their gross margin. Designers tend to buy custom rugs at the higher end, but not necessarily hand knotted.
Department Stores: Few are left that still sell area rugs. Macy’s/ Bloomingdales, Kohl’s, J.C. Penney. This segment can capture the family relationship that seems to be the winning online strategy. Consequently, the department stores are also promoting aggressively via the internet.
Rug Cleaners: Across the country there are hundreds of rug laundries that also sell rugs. Usually selling better rugs that are more likely to be easier to clean. Except for some very specialized high end retailers, the rug cleaners tend to be sellers of antique rugs. This tends to increase their dollar sales on more limited units. They have little or no internet sales.
Lifestyle Retailers: Across the country stores like Pier 1, World Market, At Home, Bed Bath and Beyond have begun to sell rugs. There are also local Boutique merchants in every major city. They will sell area rugs that are less expensive than the average and usually in smaller sizes up to only an 8x10.
Rug-only Online: These are companies that sell only rugs. Online pioneers like Rugs Direct, Rugs USA, eSaleRugs, Rug Studio. This sector is increasingly disadvantaged compared to multi-line segment online.
Majors, Online: This segment is dominated by Restoration Hardware along with Williams Sonoma’s divisions Pottery Barn and West Elm.
Catalog-to-online: Sellers who actually mail catalogs to customers as their only distribution method. Companies like Home Decorators, (Home Depot), Ballard’s and Frontgate. This is less of a channel today and more of a selling tactic; almost all sales are completed over the internet.
But, how much is sold online?
This was actually the original question I set out to answer, but needed to quantify the whole market to determine the percent that was being sold online. Adding up all the segments estimates above, I calculated the entire retail market at $2.71 billion. From the same estimates, internet sales in all segments was $679 million making the online share of market 25.1%.
This is a substantially smaller share than I had thought at the outset of this project, but it was actually the most common response from rug importer community. The importers were also in agreement that online sales were growing about 20% annually and 4 times faster than the conventional channels.
Taking these growth rates and plotting them from 2016, (in green and red on Chart 5), we see that the online component, shown as the blue bar, will be just about half of the market in 2024. It will not be as linear, as charted, because of cyclical disruptions from year to year. Nevertheless, these projections indicate a nearly $6.0 billion market for Area Rugs by 2025. Growth in single and multi-family home building in America along with lower, more accessible, area rug price points make this forecast possible. A third trend that supports a market of this size is the explosion in ‘luxury vinyl tile’ (LVT) and the consequent decline of wall to wall carpet installation.
Early in the internet age the online sellers had a substantial price advantage, but it has evaporated. And, the importer and producer MAP programs seem to working. Researching this paper, I was able to find the same vendor rug on almost all the top websites at exactly the same price. The exception was Amazon, where the so-called ‘marketplace’ had some lower prices offered. The real news, though, is that on all products that I tested the online prices were acceptable to the margin requirements of a typical ‘bricks and mortar’ retailer. This is a result of the recognition of higher costs of doing business online. According to most of the importer interviews that got into a discussion of online selling, the most dynamic and professionally managed online retailer is Wayfair. This company is clearly setting the standard in multi-line online retailing, growing almost 400% since 2012 to $2.2 billion in 2015.
Wayfair’s innovation has been to establish a strong relationship with their customers. An easy to use website and well thought out communications keep their customers returning to the site as their first stop whenever they need something for their home. They have made an add-on pitch part of the sale; a customer buys a coffee table, no reason they shouldn’t buy a rug under it. But, with all of Wayfair’s success and momentum they are still losing money. The company lost 3.4% on sales in 2015 and 6.1% thru the first six months of 2016. The company is growing fast, but so are their G&A costs. At some point growth may outpace higher costs of doing business, but most likely Wayfair will have to also increase gross margin rates. There does appear to be room for margin expansion as Williams Sonoma, (50% of their sales are online), reported 37% gross margin in 2015; Wayfair’s gross margin rate has been 25% in each of the last 4 years.
With Wayfair leading the way, online rug sales will continue to grow rapidly. But, for the conventional channels, particularly the rug specialty stores, rug cleaners and furniture stores, it is not as dire as it once may have appeared. Now that the internet has lost its price advantage and with online marketing costs likely to continue to increase, there is opportunity. Especially since the strategic direction online is to ship faster and appear local. It gives the sellers who are already local a chance to again be the local ‘rug guy’.
The survivors in the higher-end, full service rug retail segment may be a unique lot, with a necessary role regardless of what online technology come over the horizon. Are they really different, though? Were the last video, music, book or camera retailers different? On the cusp of their extinction, I imagine that they thought that they were. Perhaps, rug retailers can be more like florists? Flower shops were also a mainstay of the local retail scene, but most have lost out to 1-800-FLOWERS.com. However, every town still has one remaining flower shop for the few remaining customers who must see and smell the roses. What makes that one florist viable? Even more than service, dependability makes the difference.