Grocery: the next online frontier

Amazon’s acquisition of Whole Foods in June 2017 shook the supermarket industry on fears that the newly merged company would quickly take share from traditional supermarkets and has forced grocers to boost their online delivery options. How incumbents, such as Kroger, respond to Amazon’s ambitious plans will determine who survives in a rapidly changing landscape.

US grocery industry poised for online growth

Online grocery sales were $20.5 billion in 2016, approximately 4.3% of total US food & beverage sales. A 2017 report by the Food Marketing Institute and Nielsen suggests that the online grocery channel could grow to $100 billion, or 20% share by 2025, representing a 20% CAGR and a significantly faster growth rate than offline grocery and overall US e-commerce [1]. Growth so far has been fueled by tech-savvy millennials who are more accustomed to online shopping and the proliferation of online services such as Amazon Fresh, Fresh Direct and Instacart offering convenience and quality.

Consumers are also spending more time on digital platforms and it is increasingly important for retailers to find ways to engage with their shoppers on these platforms. Indeed, the same report found that roughly 3 in 5 grocery shoppers look for sales or coupons on their mobile devices before entering a store and >50% use mobile apps to shop at the store [2].

At the end of 2016, Kroger was the second largest US grocer behind Walmart with a 7.2% market share, 2,796 supermarkets and 784 convenience stores [3], [4]. With online taking share from brick & mortar and shoppers becoming more digitally savvy, Kroger needs to reconfigure its strategy to ensure that it maintains its position in the industry.

Kroger’s response

Kroger offers two click-and-collect services; Express Lane, which it acquired in 2014 alongside its acquisition of Harris Teeter, a Southern grocery chain, and ClickList, which it launched in select markets in 2014. For a $4.95 fee per order, ClickList allows customers to buy groceries online, then pay and collect their goods at a pick-up window at an appointed time without having to leave their car. The service was offered in 637 supermarkets at the end of 2016 [5]. Kroger is also experimenting with home delivery in partnership with 3rd parties, such as Uber [6]. In 2014, Kroger also acquired Vitacost.com, an online retailer of health and wellness products with 40,000 items across 2,500 brands [7]. While Kroger does not breakout its online sales, digital revenues were +126% YoY in Q2 2017, driven predominantly by ClickList [8].

Kroger is also using its customer analytics arm, 84.51°, to improve the customer experience through personalized recommendations on ClickList as well as targeted and curated digital coupons and content (e.g., recipes, videos). Kroger found a 33% increase in ‘add to cart’ among top search results on ClickList once search capabilities were personalized [9].

What’s next?

Kroger’s near-term future investments should focus on more effectively using its physical asset base. The two main areas of investment should be:

  • Invest in pick, pack and home delivery capabilities in DCs and back-of-stores to complement ClickList
    • Different business models are suited for markets with different levels of grocery e-commerce adoption (e.g., while ClickList is appropriate for a new market, it may be more cost-effective to fulfill higher volumes of online orders directly from a DC, which would reduce the intermediary inventory handling costs). Kroger’s truck fleet is already equipped with cold chain logistics and can deliver orders to the closest store or central hub where a 3rd party can provide last mile delivery
    • By fulfilling from DCs, consumers are not limited by the SKU availability or store hours of a particular store. As volumes grow, Kroger could reduce labor costs by investing in automated picking
    • DCs allow Kroger to reach consumers outside regions with a Kroger supermarket and generate incremental sales by leveraging the store network across all banners
  • Reconfigure store formats to reduce costs which can help fund capex
    • Shut down stores within proximity of each other that do not generate sufficient incremental sales. As dry goods move online, focus on fresh goods in-store in a smaller box, using back of store to fulfil online orders
    • Drive traffic using digital targeting and new, unique offerings (e.g., fresh prepared foods)

Amazon’s acquisition of Whole Foods suggests that the winning strategy in the grocery category is a combination of brick & mortar and e-commerce. Incumbent grocers and VC funds are investing hundreds of millions of dollars into online grocery solutions, but none have gained traction yet. Which model will emerge as superior and what will its characteristics be? Will traditional grocers be able to re-tool their supply chains to effectively utilize their cold chain logistics and store networks to their advantage against Amazon or is it already too late? (794 words)

 

References:

[1] Jeff Daniels, “Online grocery sales set to surge, grabbing 20 percent of market by 2025,” CNBC, January 30, 2017, https://www.cnbc.com/2017/01/30/online-grocery-sales-set-surge-grabbing-20-percent-of-market-by-2025.html, accessed November 2017.

[2] Ibid.

[3] Christina Cheddar Berk, “Amazon and Whole Foods control only a sliver of the grocery market — for now,” CNBC, June 16, 2017, https://www.cnbc.com/2017/06/16/amazon-whole-foods-control-only-sliver-of-the-grocery-market-for-now.html, accessed November 2017.

[4] The Kroger Co., 2016 Kroger Fact Book, p. 6, http://ir.kroger.com/Cache/1500100492.PDF?O=PDF&T=&Y=&D=&FID=1500100492&iid=4004136, accessed November 2017.

[5] Ibid.

[6] James Melton, “Kroger kicks its online grocery ordering service up a notch,” Digital Commerce 360,  March 8, 2017, https://www.digitalcommerce360.com/2017/03/08/kroger-kicks-online-grocery-ordering-service-notch/, accessed November 2017.

[7] The Kroger Co., 2016 Kroger Fact Book, p. 48, accessed November 2017.

[8] The Kroger Co., August 12, 2017 Form 10-Q (filed September 15, 2017), p. 16, http://ir.kroger.com/Cache/390302703.pdf, accessed November 2017.

[9] The Kroger Co., Kroger Investor Conference October 11 2017, p. 29, http://ir.kroger.com/Cache/1001228339.PDF?O=PDF&T=&Y=&D=&FID=1001228339&iid=4004136, accessed November 2017.

 

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4 thoughts on “Grocery: the next online frontier

  1. Great read – I’d like to push back on the idea of fulfilling orders from DCs. Right now, many Kroger DCs are sending pallet or truckload quantities of products to retail stores; adding a separate “pick” process for customer orders would involve having to disrupt those existing processes and breaking down SKUs into the individual product level. This is not only a huge investment from an technology perspective, but is also extremely difficult to handle from an operations perspective. In addition, delivering products last mile to customers is very expensive and introduces more complexity for Kroger. I much like the second idea of re-configuring stores and potentially finding ways to be more efficient with physical store presence (in the form of smaller space or fewer stores) and potentially doubling down on the customer pick-up model (Wal-Mart has seen a lot of success with this model).

  2. Building on the above, another issueI see with pushing volume from DC straight to consumer is that you end up with this huge asset base of physical stores which you are tied to for a few years (at a minimum). So while in one way you are more efficiently using your physical asset base (DC’s), you are abandoning (and weighed down by) another huge portion (retail stores).

    Ultimately it comes down to who Kroger wants to be. Do they want to be the fulfillment center of the future for all the various online apps (potentially including their own)? Or do they want to maintain and strengthen their position as a center-point in communities, and use their physical presence to drive increased online sales through in-person experiences? Importantly however, it feels like Amazon may be moving toward this digital-physical hybrid option, so this ‘experiential shopping’ model may have a very tough competitor- but it feels like Kroger, as the US’s largest grocery chain, has the best chance.

  3. Great insights on the need for brick-and-mortar players to move to a more effective use of online channels to compete against Amazon!

    One angle I believe is under-represented in this paper, although a key driver of the acquisition of Whole Foods by Amazon, is in-store consumer experience. Grocery shopping used to be a fairly universal / homogeneous experience. However, Whole Foods has become a master at driving people into their stores to buy the fresh produce, grab a quick but healthy lunch, buy the best cheeses, etc.

    Hence, I would suggest to Kroger to look across the industry for successful chains delivering a great customer experience, whether online or in-store. Different people are looking for different types of groceries at different times. Eataly, Trader Joes, Fresh Direct, Blue Apron, etc. each have very different experiences, while many consumers shop at each of them depending on the needs they are solving for. Balancing those needs across a set of experiences, while maintaining overall scale and logistics viability will be important for success.

  4. Great article. I enjoyed your threat assessment of Amazon’s acquisition of Whole Foods on the grocery industry. While bringing food online could go a long way in helping some of the grocery players stay competitive in a fragmented business, I believe they need to be more concerned with how to get food to customers’ tables. Customers are becoming increasingly lazy and now want to be served right on their doorstep. Thankfully meal kit startups are already solving such a problem so these big grocery players do not need to reinvent the wheel. My recommendation is for them to acquire meal kit companies who clearly have the digital capabilities that most of them lack, the customer data on value perception, production facilities and food delivery supply chain capabilities. This would be a great way to counter Amazon’s threat. Amazon could offer Amazon fresh products at Whole food stores, and grocers getting into that market as soon as possible could reduce the first mover advantage Amazon accrued by purchasing a grocer.

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