Retail is not dead. When many writers and retail pundits predicted a "retail apocalypse," something funny happened. Digitally native brands -- those that originally launched without a physical retail presence -- took consumers by storm. These brands were able to scientifically understand, based on user preferences, targeted Facebook and Instagram advertising, and price testing, how to build brands that are unit-economic positive from day one. And now many of these brands are moving into physical retail in coming years.

But is this trend really sustainable, and what are some of the downsides of building an Instagram brand? There is still an immense risk in building digitally native brands, particularly ones that acquire customers primarily through Instagram, so I decided to take a closer look at what exactly is happening.

Cost to acquire users is rising quickly. 

With the success of the Instagram platform, costs to acquire potential users of products has skyrocketed. Bridget Johns, CMO of San Jose-based RetailNext, said she's noted two trends in the past year: "Every direct-to-consumer brand we speak to says Instagram ads are the most effective channel, and they are directing ad spend there," Johns said. "However, we are noticing that it's getting oversaturated very quickly, which is making it harder to discern what friends, families, and influencers are actually doing."

Indeed, the data is pointing to sharply rising CPCs. AdEspresso, a publication run by the social-media platform Hootsuite, shows that for some ad units, CPC has more than quadrupled since the start of 2017.

Instagram has created new units to counter this somewhat. CPCs for its new stories product are relatively low, while the use of stories is on a meteoric rise. According to Recode, Instagram Stories now has double the audience of Snapchat, and new units will be created to attract customers.

Brand loyalty remains a question mark.

Brandless is one of the major success stories of the past two years in the digitally native world. The company recently raised $240 million in venture capital from Softbank on strong growth, and it has bright future prospects.

But as Brandless grows, the large incumbents will not go down without a fight. Based on the sheer number of SKUs companies like Target and Amazon carry, they are able to retain customers and get them to transact multiple times. On its way to success, Brandless will face a tough challenge: to compete with the incumbents on both price and on customer retention. Recode reports only 11 percent of new Brandless customers in Q3 2017 were still making purchases a year later, and average order size for a Brandless customer was $34 (as opposed to $60 for Target). To make the unit economics of the business work, Brandless, and others like it will likely have to raise prices, increase repeat order rate, or both.

Natalie Venuto Hawkins, a Michigan-based designer who frequently buys product on Instagram, finds her loyalty lies more with local brands in her community: "I have a few brands I'm loyal to that I found on Instagram, but they're female business owners in Northern Michigan that I found through Instagram and subsequently met at events -- either workshops they hosted, or art fairs where they sold their products."

User retention and brand loyalty are long-term questions, which brands will have to prove out in order to make Instagram acquisition sustainable.

New channels are emerging.

One thing does remain clear -- new channels will continue to emerge that enable digitally native brands to thrive. The next platforms, many suspect, will be focused on private messaging apps. USA Today recently reported that WhatsApp ads will start appearing in your status update section, though no specific time frame is defined. In its most recent quarterly earnings report, Facebook touted private messaging as a place where billions of people are spending time on a regular basis.

While digitally native brands are successful, they will need to adapt quickly in order to survive in a rising cost-per-acquisition environment, where it's getting more and more difficult to retain users.

Correction: An earlier version of this column misstated Brandless's funding number. It has raised $240 million from Softbank.

Published on: Nov 5, 2018