What is dropshipping and how does it work?

Wise
30.04.20
8 minute read

If you’re interested in getting involved with online retail, you’re probably very tempted by the idea of dropshipping. Setting up a dropshipping business can be a great way in for budding entrepreneurs without a lot of resources at their disposal.

In this guide, you’ll find out how the process works, what the pros and cons are, and – hopefully – whether dropshipping is the right way forward for you.

Table of contents:

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What is a dropshipping business: Dropshipping definition

Dropshipping is a business model that’s become very popular thanks to the ease of online retail. Here’s the process, step by step.

  1. The retailer collaborates with a supplier (a.k.a. dropshipper), and puts a range of the supplier’s products on their website, for customers to buy.
  2. Customers come to the retailer’s website and order products.
  3. Those orders go directly to the supplier, who fulfils them without the involvement of the retailer.

So, in essence, it’s a lot simpler for the retailer than traditional retail models. The retailer doesn’t have to buy any stock, or handle deliveries – all of that is done by the supplier. The retailer can keep the focus on one key thing: marketing.

There are lots of advantages to this radically simple method – but there are disadvantages too. Let’s take a look at both.


Advantages of dropshipping

First off, let’s take a look at some of the benefits of doing business like this.

1. It’s easy to get started

If you’re new to online commerce, or doing this on the side, you probably don’t have a warehouse at your disposal – or indeed a distribution system. Traditionally speaking, that’s a big problem. But with dropshipping, not so much.

Because you don’t have to buy stock yourself, you don’t need to have somewhere you can store goods. And because you don’t handle distribution, you don’t need to get involved with the delivery companies.

Returns, orders with the manufacturer, stock level… these are just a few more of the things you don’t have to worry about if you’re a dropshipping retailer.

All in all, you can basically set up a dropshipping business from your kitchen table. For a first experience in online retail, it’s nice and low-maintenance – although it still comes with its share of stress, as you’ll see later on.

2. Low overheads

When it comes to your budget, the biggest benefits of dropshipping are that it costs far less to get started, and less to keep things ticking over.

As we’ve already said, you don’t have to rent warehouse space. You also don’t have to sort out an order fulfilment system, because the supplier is responsible for all that.

Even better, because you don’t have to order stock, you don’t have to make estimates about how much you can sell. So you’ll never be faced with the problem of having to shift unsold stock, which – for a traditional retailer – can mean a drastic thinning of profit margins.

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3. It’s easy to grow your business

When you’re maintaining a warehouse and fulfilling orders yourself, retail success comes at a price: it means having to invest in more staff and more physical space. But a dropshipping retailer can grow to a significant size without having to do any of that.

Do bear in mind that customer support is still something you’ll have to deal with, so as your company grows, you will find some increase in workload. But that curve isn’t as steep as it is for other retailers.

4. Lots of product options, no commitments

There are so many suppliers out there that a dropshipping retailer need never be short of options when it comes to product line – the sky’s the limit.

What’s more, it’s relatively easy to change your products around as necessary. Or just add new stuff if you think it’ll be popular. That means you can respond quickly to market trends, your own sales data, and competition, without risking big losses.

5. Fewer stages in delivery

This is one more benefit of the supplier shipping directly to the customer.

Some retailers face the intermediary step of receiving goods from a supplier, and then having to send them on to the customer themselves. That adds a whole extra stage to the delivery process, and increases the risk of goods being damaged or lost.

So dropshipping generally means a delivery process with less inherent risk.

However, as you’ll see in a moment, this very much depends on your supplier.


Disadvantages of dropshipping

Dropshipping isn’t perfect. Here are some of the drawbacks of the method.

1. Low margins

The allure of dropshipping is so great that you’ll face a ton of competition, which means prices have to keep pretty low. Which means that your margins may end up being razor thin.

What to do about that? A big part of it is finding exactly the right niche – a line of products where the market isn’t overly saturated. Also, remember that you are in control of some aspects of the process – your website, your marketing, your customer support. Commit to doing those things really well, and with luck your store will stand out.

2. The supplier handles things, but you’ll get the blame

It isn’t your customer’s job to fully appreciate the intricacies of your business setup. Which means that if anything goes wrong with their order, they’re going to blame whoever sold them the product – and that’s you.

So, even though a third party – the supplier – is responsible for the whole fulfilment process, and is thus probably the reason for anything going wrong, the complaints will come in addressed to you.

How to deal with that? Firstly, be prepared, and make sure you have great customer support on hand. Secondly, choose your suppliers super carefully. Do they have decent standards for delivery? Is their practice fully lawful? How do they handle returns and damaged products? What about insurance and fraud protection?

You’ll be the face of the business, but you won’t really be in control of its body. So make sure you trust the people you work with.

3. Multiple supplier problems

You’ll probably end up dealing with multiple suppliers, which is great for product range, but makes maintaining your product list pretty hard.

You’ll need to make sure your listings stay up to date as different sellers run out of particular items, or add new items to their range. This may well need to be done on a daily basis.

Some dropshipping apps can automate inventory updates for you. Spocket¹ is one example; Stock Sync Inventory Update² is another. But using a third party like that is of course another expense to add to the list.

4. Shipping costs

You don’t have to deal with shipping directly, which is a big plus. However, you will of course still need to charge your customers the shipping costs. And that, unfortunately, can get particularly tricky with dropshipping.

If a customer has selected, for instance, five items from your store, each of those items could actually be from a different supplier. And that’ll mean five separate shipping costs. That’s both difficult to implement, and enough to scare many a customer off.

You may well end up having to absorb some of these shipping costs yourself. One more thinning of your margin.

5. You don’t get to do branding

There’s another negative about the supplier doing all the fulfilment. It means that you don’t get to customize the products or even brand the packaging.

While your website should be branded really well if you want it to stand out, unfortunately that brand experience won’t translate to the product that arrives at your customer’s door.

Some suppliers are able to accept your requests regarding packaging, so you might still be able to brand the deliveries… but it’ll cost you.


Dropshipping with Shopify, Amazon and eBay

There are numerous platforms you can use for dropshipping. Here’s an intro to three of the best known.

What is Shopify dropshipping?

Shopify is a commerce platform that’s widely used by businesses around the world. It lets you build an online store, manage it, and list all sorts of products with ease.

Dropshipping on Shopify is just one of your options – you can also sell stock that you’ve bought or made yourself. But if you do go for dropshipping, you’ll have loads of options via a range of apps within Shopify. Their own dropshipping marketplace is Oberlo,³ but there are also other options. Some of the highest rated are DSers, ShopMaster, CJDropshipping, and Topdser. Lots of them link up to the enormous AliExpress.⁴

What is dropshipping on Amazon?

The biggest retailer of all has its own slightly confusing rules for dropshipping. It is “generally acceptable,” says Amazon, but it does lay down some groundrules.

As the seller, you do have to be identified as such on all the products you sell. The customer shouldn’t see information about the dropshipper on their delivery. It’ll also be your job to process returns.

Amazon also notes that you can’t just buy products from another retailer, and have them ship to a customer – that’s not a valid method of doing business on Amazon.⁵

Arguably, those restrictions mean that you can’t really dropship on Amazon in the conventional sense – the seller is more involved in this process than they’d usually have to be. If you have a supplier who’s willing, though, you can still make a go of it.

Of course, Amazon offers plenty of other opportunities, and if you want to sell stuff online without worrying about fulfilment, check out their FBA (“fulfilled by Amazon”) method. You do have to send your goods to an Amazon warehouse, but they take control of the whole process from that point on.

What is dropshipping on eBay?

The situation on eBay is much like on Amazon. It’s technically allowed, but the platform sounds a note of caution. On eBay, the seller, not the supplier, still shoulders responsibility for the actual delivery process, even if the supplier is the one that’s sent it.

And, as on Amazon, you’re not allowed to just buy stuff from another retailer and have them send it on to your customer.⁶

If you're selling on eBay, work out how much you'll be charged and your profit margin with our eBay fee calculator.


Frequently asked questions about dropshipping

Here are some of the key queries people have about the dropshipping process.

How much money do I need to start dropshipping?

Dropshipping is a popular option if you don’t have a ton of cash to invest in a business right now, but be aware that there are still costs to you. They may include:

  • A subscription to Shopify or another commerce service – Basic Shopify is $29/month⁷
  • A subscription to Oberlo or another dropshipping service – free for a starter, then $29.90/month⁸
  • Other website costs like domain registration – typically around $10-20/year; Shopify can get you one for $14/year⁹
  • Marketing. The sky’s the limit here – if you spend a lot, you may well end up selling more. You should probably be thinking about online advertising as a major expense
  • Trial orders. Nobody will force you to do this, but it’s a good idea. Before committing to using a particular supplier, order some stuff from them as a customer, to check you’re satisfied with how they do business

How do dropshippers make money?

Dropshipping may simplify certain things, but at the end of the day you’re still running a business. So the question of how to turn a profit is the same here as it is anywhere else.

To run a successful operation, you’ll need to use the right suppliers, list the right products, calculate your prices correctly, and smash it when it comes to marketing.

And perhaps most important is the initial step of identifying exactly the right niche to occupy – an area where there’s plenty of demand, but not too much supply.

If you were running a traditional retail business, of course, you’d need to do all of that as well – but you’d also need to manage your inventory and shoulder a lot of extra costs. So the advantages of dropshipping are clear. But in order to turn your potentially thin margins into a decent profit, you’ll need to invest lots of time, and some money too, into your dropshipping business.

Do save money wherever you can, though. Don’t forget about Wise if you ever do business internationally. Even though it’s free to set up, and doesn’t charge a monthly fee, it’ll let you send money abroad at the mid-market rate, hold money in a wide range of currencies, and potentially save as much as 19x compared with PayPal.

Good luck exploring the world of dropshipping. With some smart planning, it can be a great first step into online retail.


Sources:

1.Shopify Spocket plugin
2.Shopify Stock Sync plugin
3.Shopify What is dropshipping
4.Shopify Finding and adding products
5.Amazon Drop Shipping Policy
6.eBay Drop shipping and product sourcing
7.Shopify Pricing
8.Oberlo Pricing
9.Oberlo Dropshipping startup costs

All sources checked 24 April 2020


This publication is provided for general information purposes only and is not intended to cover every aspect of the topics with which it deals. It is not intended to amount to advice on which you should rely. You must obtain professional or specialist advice before taking, or refraining from, any action on the basis of the content in this publication. The information in this publication does not constitute legal, tax or other professional advice from TransferWise Limited or its affiliates. Prior results do not guarantee a similar outcome. We make no representations, warranties or guarantees, whether express or implied, that the content in the publication is accurate, complete or up to date.

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