Dropshipping

What is dropshipping?

Dropshipping refers to a business model where an online business (ie the dropshipper) doesn’t keep the items it sells in stock. Instead, when a product is sold (ie when an order is placed online), the dropshipper passes the order on to another business (ie a supplier). The supplier then processes the order, packages the product, and sends it straight to the customer. 

As dropshipping involves selling products that are made and sold by third parties, dropshipping is a form of indirect selling. The dropshipper acts as a middleman between the customer and the supplier and never actually sees the product it is selling.

How does dropshipping work?

Simply put, dropshipping is a retail order fulfilment method for e-commerce businesses. While the specifics depend on the individual circumstances of a situation and the dropshipping arrangement, the process generally involves:

• setting up an online store - this will often be done via a website (either a custom website and domain or through an established e-commerce platform like Shopify) or via a social media plugin that can be integrated with one of the dropshipper’s social media profiles (ie products are sold directly through the profile)

• finding suppliers - the dropshipper identifies and establishes relationships with suppliers or wholesalers (eg manufacturers, distributors, or even other dropshipping businesses) who are willing to dropship their products. Any such agreements should be made in writing using a dropshipping agreement

• adding products to the store - the dropshipper creates product listings for the suppliers’ products in its online store, often by importing product information (eg descriptions and images) from the supplier's catalogue, and sets prices for the products

• orders being placed - when a customer purchases a product from the dropshipper store, the dropshipper receives the order and collects payment from the customer 

• confirming receipt of the order - the dropshipper sends an order confirmation (eg using a Purchase order or Invoice) to the customer

• forwarding the order to the supplier - the dropshipper passes the details of the order on to the supplier, including the customer's delivery address and any other necessary information

• shipping the product - the supplier processes the order, packing and shipping the product directly to the customer. Depending on the dropshipping agreement, the package may include the dropshipper's branding or be shipped anonymously

What are the advantages and disadvantages of dropshipping?

Like any business model, dropshipping comes with certain advantages and disadvantages.

Advantages of dropshipping

Some of the advantages of dropshipping include:

• low initial cost - opening a physical store or even an online store often comes with high upfront costs (eg the costs of renting business premises, renting warehouses, manufacturing products, managing inventory, and managing staff). By adopting a dropshipping model, a business can effectively outsource many of these aspects, leading to lower overheads and initial investment costs

• reduced risk - the nature of the dropshipping model (ie the dropshipper purchasing products after they are sold) minimises the risk of the dropshipper themselves needing to hold excess inventory (ie unsold products), which can lead to losses for the business

• scalability - most stores (whether brick and mortar or online) require warehouses to store and manage their inventory. As dropshipping businesses do not require warehouses, they can be scaled up more easily. As a dropshipping business grows and expands, significant investment in infrastructure (eg larger warehouses or retail premises) is not needed. Instead, new dropshipping agreements can be made with additional suppliers or existing agreements may be scaled up 

• flexibility - as they do not have their own warehouses, dropshipping businesses can easily add or remove products from their store without the constraints of inventory management. Similarly, they can test new products and niches and adapt based on market demand and emerging trends

• multi-channel selling - dropshipping businesses can operate through various channels, including but not limited to their own website and online store, stores on larger e-commerce platforms (eg Amazon, eBay, or Etsy), and/or social media channels (eg Instagram or TikTok)

• wide variety of products - the dropshipping model enables businesses to partner with various suppliers to offer a wide range of products. This allows dropshipping businesses to cater to different customer preferences and trends

Disadvantages of dropshipping

Some of the disadvantages of dropshipping include:

• competition - due to the low cost and upfront investment needed to start a dropshipping business, it is a highly competitive field. This is especially true for dropshipping businesses selling very popular or trending products

• lower profit margins - due to the competitive nature of dropshipping, profit margins tend to be lower than traditional retail models. Dropshippers generally sell products at retail prices while purchasing them at wholesale prices, reducing their overall profit margin per sale. Similarly, dropshippers may not benefit from bulk order discounts (ie where retailers receive discounted prices in exchange for buying products at high volumes)

• lack of quality control - as dropshippers don’t interact with the products they sell, they cannot physically inspect them, which may result in customers receiving low-quality or counterfeit goods from suppliers. Poor product quality can result in negative customer reviews, returns, and damage to the dropshipper’s reputation

• complex supply chains and order management - amongst other things, dropshippers need to coordinate inventory levels (eg ensuring products purchased by customers are still in stock), track shipments (eg ensuring everything arrives on time), and handle customer inquiries (including complaints) across different suppliers and products. This can be complex and time-consuming and any negative customer experiences will only affect the dropshipper’s business (not the suppliers’)

• long delivery periods - because products are shipped directly from suppliers’ warehouses, customer orders can have long shipping periods, with the dropshipper having little control or insight over shipments. Disjointed deliveries can also occur if customers order multiple products that come from different suppliers (and therefore are sent from different warehouses)

• supplier errors - low-quality suppliers may make mistakes when fulfilling customer orders (eg mishandling shipments, using substandard packaging, or missing items from orders)

• difficulty building a strong brand - as the suppliers handle product creation, packaging, and shipping, dropshippers may find it difficult to set their products apart from similar offerings by other sellers

How do dropshipping businesses make a profit?

Dropshipping businesses make a profit through the price difference between the price they charge customers for products and the price they pay to their suppliers. Dropshippers generally pay the wholesale price set by the supplier for a given product. In contrast, the customer pays the retail price set by the dropshipper (this is typically higher than the wholesale price). The difference between the two prices is the dropshipper’s profit margin. 

While each individual sale may have a lower profit margin, the dropshipping model focuses on making a high quantity of sales, which can lead to a larger overall profit margin.

How do I start dropshipping?

Starting a dropshipping business is similar to starting any other type of business, except for having lower upfront costs and not needing to have your own stock.

In the UK, dropshipping businesses are treated like any other e-commerce business. This means that anyone who wants to start a dropshipping business needs to comply with all applicable laws. To find out more about these laws and more general considerations for starting a business, read:

• Choosing your business structure and How to choose a name for your business - to learn about business structures in the UK, their tax obligations, and their licensing and naming requirements

• Online business regulations - to learn what details you must display on your e-commerce website and what information customers are legally entitled to know about your business

• E-commerce and E-commerce between businesses - to learn about e-commerce in general

• Consumer rights, Doing business with consumers, and Returning and refunding items - to learn about the rights held by consumers (ie private individuals)

• Complying with the GDPR and Data protection - to learn about the laws that govern how all businesses manage and use data about customers

• Marketing and the law, Advertising regulations, and How to avoid false advertising claims - to learn how to legally advertise and market your products (including the importance of ensuring advertisements are not misleading)

• Product liability and Business insurance - to learn about product safety, liability for faulty products, and protecting your business

• Intellectual property (IP), How to avoid copyright infringement, and How to avoid trade mark infringement - to learn how IP laws operate and to help ensure your business does not infringe any existing intellectual property rights (eg by inadvertently selling bootlegged DVDs, using another’s copyrighted creations, or passing a product off as being made by another business)

Running any business requires various legal documents. The documents that are needed to run a dropshipping business depend on the specific business in question. However, documents that are often necessary or useful include:

• a Website privacy policy - detailing how the business handles the personal information of anyone using its website

• a Cookie policy - explaining what cookies the website uses and how

• Website terms of use - governing the use of the website

• Terms and conditions - to set out the business’ standard terms of sale that apply to the contracts of sale it makes with customers 

• Purchase orders - confirming customers’ orders

• Invoices - bills sent in respect of customers’ purchases

• a Returns and refunds policy - detailing how products can be returned and customers’ entitlements to refunds

• bespoke dropshipping agreements - outlining the agreements between the dropshipper and each individual supplier

A good place to start when (considering) starting a dropshipping business is our Checklist for running a business online. If you have any questions or concerns about starting your business, do not hesitate to Ask a lawyer.