9.4 Fine Arts Ceramics

Sue and Tom Prichard run a small gallery business specializing in fine art ceramics. Both are professional potters and teach at local colleges. Over eight years they have built up a gallery and mail-order business that promotes the work of leading US potters and sells to some 500 ceramics collectors throughout the country. The average price of items offered is $200, and the Prichards charge a 35% commission. Sales are initially made through a gallery they rent for the summer months, and by personal recommendation, and are followed up by an informal catalog and advertisements in specialist magazines. The business is not lucrative, but brings in some welcome extra cash and extends their circle of friends.

Proposition

The Prichards have been approached by a local businessman who offers a cash injection of $300,000 for a third share of the business. He wants to expand the customer base through ecommerce, setting up a fully-featured website that exhibits all the pieces available and takes orders by credit card for the US and abroad. Contacts with exhibitors and selection of exhibits will remain in the hands of the Prichards, but a manager will handle commercial aspects and webmaster be appointed to run the website.

Tom Prichard likes the idea. He points out that the offer is a generous one and that the businessman concerned is well known for his straight dealing and commercial flair. At worst they give up a third of their profits, and at best could start making serious money. Most importantly, the commercial drudgery, which they both dislike and takes up so much time, will be handled by someone else, giving them more opportunities for their own work.

Sue is less keen. She fears the profit motive may endanger the personal contacts they have built up with artists and collectors, and may leave them considerably worse off, as the investor has asked that they both invest a sum of $10,000 as a pledge of faith.

Who is right? Sue takes the proposition to Nick Ridley, Head of Business Studies of the college where she teaches. Nick suggests the Prichards start by making a very rough business plan, of their current business and of the ecommerce proposal.

Current Business Picture

Working in round numbers (all US$ '000) for the next financial year:

ASSETS
Stock	$30
Bank Account	$20
Total Assets	$50
----------	----------
INCOME
Sales	$200
Commission at 35%	$70
Total Income	$70
----------	----------
OUTGOINGS
Gallery rental	$8
Salesperson salary	$27
Catalog printing	$3
Shipping & handling	$15
Advertising	$3
Miscellaneous	$1
Total Outgoings	$57
----------	----------
PRETAX PROFITS	$13
----------	----------

eBusiness Plan: 'back of the envelop figures' (all US$'000):

ASSETS
Stock	$30
Bank Account	$20
Cash Injection	$300
Total Assets	$350
----------	----------
INCOME
Sales	$800
Commission at 35%	$280
Total Income	$280
----------	----------
OUTGOINGS
Website build	$100
Salary: manager	$50
Salary: webmaster	$30
Salary: packer	$24
Search engine promotion	$2
Offline advertising	$1
Shipping & handling	$60
Catalog printing	$10
Miscellaneous	$5
Total Outgoings	$282
----------	----------
PRETAX PROFITS	($2)
----------	----------

First Assessment

Nick Ridley doesn't like these figures. He accepts that the website build is a one-off expense, and that a pre-tax profit of $98,000 p.a. otherwise is very attractive, but he wants to know the assumptions behind the fourfold increase in sales. Sue says it's what their investor thinks is achievable. Nick suggest the Prichards look at clickthroughs and conversion rates more carefully.

Conversion Rates

Currently the Prichards sell around 20 pieces a week or 1,000 a year on behalf of some 30 potters. As a minimum, and supposing that each piece is sold within 3 months, they need to feature 1,000 pieces on their website. Theirs is a specialist market, and site traffic will take time to grow, but the Prichards believe that they should average the following over the year:

1. Visitors: 200,000.
2. Clickthroughs on at least one exhibit: 90%
3. Conversion rate: 2%.

If the average price of each piece exhibited is $200, sales are then 200,000 x 0.9 x 0.02 x 200 or $720,000. This figure is little short of the $800,000 of the plan, but the Prichards point out that continuing offline sales to their previous customers will easily make up the difference.

Second Assessment

But Nick is even less happy with these figures. He questions the following.

1. Traffic of 200,000 visitors a year. This is a high figure for a specialist site in the first year of operation. Can the Pritchards justify this figure by:

     a. competitor intelligence?
     b. keyword analysis with keyword research?

2. Excessive reliance on search engine promotion. He directs them to a report by eMarketer (eCommerce B2C Report, 2000) which found that only 2% of shoppers made purchases at sites to which they were sent by the search engines.

Far more effective were
     a. Online malls (5%),
     b. A link from another site (8%),
     c. Being a known brand offline (16%),
     d. Offline advertising (21%) and
     e. Previous visits or bookmarks (48%).

All these suggest visitors may need to visit the site 12 times before they purchase anything, a figure supported by email marketing studies.

3. Conversion rates of 2%.

     a. Rates of 5% or more have been achieved in ecommerce, but generally for well-known brands offered at significant discounts.
     b. A more realistic conversion rate may be 0.1%/clickthrough.

4. No provision for returns.

     a. They should allow for some 10% of items to be returned, at their expense.

Revised Sales

The Prichards redo the figures, assuming: Visitors: 50,000 Clickthroughs: 90% Conversion rates: 0.1%. Sales are then 50,000 x 0.9 x 0.001 x $200 or $9000. The conclusion is obvious, but the Prichards set out the business plan again (all in US$ '000):

ASSETS
Stock	$30
Bank Account	$20
Cash Injection	$300
Total Assets	$350
----------	----------
INCOME
Sales	$9
Commission at 35%	$3
Total Income	$3
----------	----------
OUTGOINGS
Website build	$100
Salary: manager	$50
Salary: webmaster	$30
Salary: packer (part-time)	$4
Search engine promotion	$2
Offline advertising	$1
Shipping & handling	$1
Catalog printing	$10
Miscellaneous	$5
Total Outgoings	$203
----------	----------
PRETAX PROFITS	($200)
----------	----------

Third Assessment

Nick isn't surprised. He's seen many plans (and businesses) bite the dust. In fact he feels the 0.1% conversion rate may be overly pessimistic, but he suggests that the Prichards establish the real figure at someone else's expense. He recommends that they research existing online art galleries, select one that has acceptable traffic figures (i.e. provides proper statistics), and monitor the results of placing some of their unsold stock with them.

This they do, and even their potential investor accepts (in later going through the Prichard's sales figures, and the business returns of the gallery concerned) that there's no substitute for hard facts. The Prichards do make some sales through the third party online gallery, however, and by experimenting with different galleries and type of work they find they can increase the prices realized (and their own profits) for several of the potters they represent by marketing in this way.

Points to Note

1. Importance of market research.
2. Using third parties.

Questions

1. What was wrong with the first business model, and how should this have been evident without further research?
2. What marketing methods should have been included in the first plan?
3. Suggest other ways of marketing through third party sites.