Mattress Upstart Casper Isn’t Losing Sleep Keeping up with Demand

As we all eagerly await the iPhone 8 and iPhone X launch, it is important to keep in mind the expected supply shortages and shipping delays that might accompany the launch. This is not a new problem for Apple. In fact, similar problems and decisions are emblematic of many firms in the direct-to-consumer market as they try to scale up.

With the advent of Birchbox’s personalized makeup-in-a-box and Blue Apron’s fresh, correctly-portioned ingredients-in-a-box, it seems that today’s most popular business strategy is thinking inside the box. Enter Casper, the company that pioneered the “one size fits all” bed-in-a-box. Casper was launched in 2014 as a one-stop shop for mattresses, implementing the direct-to-consumer model popularized by Warby Parker. The direct-to-consumer model is becoming increasingly common because the company controls all aspects of distribution, and thereby can offer its customers high-quality items with considerable price transparency.

The idea for Casper emerged in response to the hassle and frustration of the mattress buying process, an expensive and often tedious affair. The mattress business is a $15 billion dollar industry dominated by behemoths that consistently mark up prices over 100%, and use confounding industry jargon to differentiate their many mattress models. Casper’s founders decided to simplify this excruciating process. They did three smart things:

• They introduced only one mattress model
• They displayed prices transparently
• They delivered mattresses directly to customers in a golfbag-sized box.

The company exploded. In its first month of operations, it sold $1 million dollars of products. By the end of 2015, it saw $100 million of revenue. By the end of 2016, its revenue doubled to $200 million. In the three short years the company has been operating, it has seen an unprecedented and unexpected amount of demand, and the founders have struggled to keep up.

Operations Management theory postulates that a firm can use one of three levers when interacting with uncertainty regarding market demand: excess capacity, excess inventory and waiting time. Firms can hold excess capacity to be utilized when demand exceeds their forecast or firms can carry excess inventory (defined as the amount of inventory above what is needed to cover the average demand) to meet unexpected demand.

However, building excess capacity or holding excess inventory is expensive. In some cases, firms may decide not to address these fluctuations and make customers wait for the product, creating temporary shortages or long delays until the product is shipped. While the waiting time solution does not inflict a cash cost on the firm, it may carry significant opportunity cost with regards to customer retention. This theory visualizes this tradeoff as a triangle, where the three levers - excess capacity, excess inventory and waiting time (backlog) - are the vertices. The notion is that firms don’t have to rely on using only one of the three and can choose the right balance given their cost of capacity, cost of carrying inventory and their customers’ willingness to wait.

A delicate balance among the three vertices is essential to adequately meet demand without expenses rising exponentially or customers waiting endlessly. Different firms rely on various methods when striking this balance. For example, Apple, at the launch of each new iPhone, does not carry excess capacity or inventory and relies on its customers’ willingness to wait for the product. The company can afford to do this because of its powerful brand loyalty.

Zara takes a different approach. It carries very little inventory but builds flexibility into its production process enabling it to have excess capacity. Thus when a certain fashion design is a hit in the market, Zara can very quickly allocate capacity towards that.

Casper was unable to strike this balance in its early days. Philip Krim, Casper’s CEO said, “Customers would be promised a shipment within two weeks, for example, and not receive their mattress until six weeks later due to backorders.” On launch day alone Casper depleted its entire initial inventory. This is a common issue among early-stage startups that cannot predict initial demand and thus do not build enough capacity to meet it. As the startup scales its operations and increases capacity, it is crucial for the company to be completely transparent with its customers. This builds trust and a strong, ongoing relationship with the customer in the long-run.

This could have had dire consequences for the fledgling company by tarnishing its reputation with customers or by allowing competitors to swoop in and poach sales. Take the classic example of the Nintendo Wii. The Wii launched in November, 2006 and was unable to meet demand until early 2009, almost three full years later. Initially, availability in the U.S. ran at around 2-5% of demand with the average price paid for a Wii at around 150% to 180% of retail price.

Nintendo did not predict this level of demand when it set up its manufacturing process, nor did it ramp up production even when it did realize the level of demand. The company also made a mistake when it did not offer customers an explanation, an apology, or promises of boosting production. Nintendo did not have excess capacity or carry inventory, nor did it offer customers transparency with regards to waiting time. This hurt Nintendo in the long run for three reasons.

First, Nintendo did not maximize its profits from the Wii because of its inability to meet demand. Industry analysts estimate that the company lost $1 Billion in sales in 2007 alone. Second, competitors benefitted significantly by introducing their own products and capturing the market share of customers that desired a Wii and could not obtain one (e.g.Microsoft’s Kinect and Sony’s Move). And third, Nintendo’s lack of transparency with regards to the Wii shortage hurt its relationship with customers by inducing frustration and anger. What is truly fascinating is that Nintendo failed to learn from its past mistakes. Today, it is facing the exact same shortage and transparency issues with sales of the Nintendo Switch.

Casper, fortunately, did not succumb to the same mistakes as Nintendo. As soon as inventory shortages surfaced, Krim had his team address production issues while simultaneously issuing apologies and gifts to affected customers, along with realistic estimates for delivery dates. Krim follows the philosophy that “it's better to over-communicate as a CEO than risk under-communicating.” Today Casper is thriving. The company has built enough capacity and is expanding both to physical retail stores and internationally.

As of 2017, Canadian, German, Austrian, Swiss, and British consumers can order the mattress, with more countries to soon follow. Casper co-founder Neil Parikh says, “We’ve set up the infrastructure so within a couple months we can turn on a new geography….We’ve got a SWAT team that can go in [and be] operational within eight to 10 weeks.” The company has also opened showrooms in New York, Los Angeles, and London as well as entered partnerships with furniture retailer West Elm and Target. Now, if you are one of the lucky residents of New York or Los Angeles, you can even have a Casper mattress delivered to you in under 90 minutes.

Casper recovered from demand shortages quickly by initially being transparent about waiting time and then building out both capacity and inventory. But, one of Casper’s largest competitors, Saatva, took a different approach from the beginning. It focused on building out its manufacturing and distribution capabilities, i.e its excess capacity. Saatva’s CEO, Ron Rudzin, says “Casper is just about getting their name outside. I did it in reverse. I built a healthy infrastructure, a moneymaking infrastructure first.” This approach took longer, but was also extremely successful. With a projected $180 million in revenue, Saatva is the seventh-fastest growing private retailer in the U.S.

The most important takeaway from the operations triangle is that firms need to choose which levers to focus on at a certain point in time. If firms choose to reduce waiting time, they should be cash flush and ready to spend the necessary money to meet demand. Many firms choose not to hold excess inventory or build excess capacity, and the implication is that customers suffer. Firms should be deliberate and optimize their strategy to account for the disadvantages of whichever arm they choose. Casper has been deliberately transparent with its customers and has gained enough funding to focus on building enough capacity and excess inventory to meet demand.

The mattress industry landscape is changing quickly with disruptors like Casper and Saatva. The online-sales portion of the mattress industry has doubled from 5% in 2012 to 10% of the $15 billion dollar industry in 2016, largely due to Casper and its competitors. Competition is stark and barriers to entry are low, but Casper has solidified its brand and is positioned to do well in the future.

Mattress-industry analyst Jerry Epperson Jr. writes, “Casper raised money early and has raised the most, and now that it has Target as a big brother it has a real competitive advantage. I don’t see any other [online mattress] that’s going to come up and become a more recognizable brand.” 

Either way, with all that demand, the founders won’t be hitting the snooze button any time soon.

Gad Allon is the Director of the Jerome Fisher Program in Management & Technology and Professor of Operations, Information & Decisions at Wharton. He is also co-founder of ForClass, an edtech designed for educators by educators. Follow him on Twitter, @g_allon. 

The post is co-authored with Manjari Ganti, a student at the Jerome Fisher Program in Management & Technology program.