A
Strategist’s Guide to the Digital Grocery
As Amazon
and Walmart disrupt the grocery industry, smart retailers can compete by plying
their wares in a technologically enabled way.
Sometimes industries hit a tipping point. It
looks like nothing is happening for a long time, while forces of change build
up, and then everything shifts at once. That is happening in the grocery
industry now. A shift is taking place in the most fundamental form of shopping:
consumers’ purchases of food products and other basic household goods. The most
visible signal of this shift occurred in June, when Amazon announced its
acquisition of the Whole Foods grocery chain, but the basic trajectory was
already long under way.
Central to this shift is the new digital
grocery platform rapidly emerging in industrialized countries. In the U.S.,
Walmart and Amazon are each leveraging their scale advantages, but under
different paradigms. Walmart has achieved unparalleled success with a “push”
model that ships full truckloads of goods to more than 4,000 Walmart stores
across the country, offering “everyday low prices,” as the slogan puts it,
without sales or promotions. Amazon operates a similarly powerful supply chain
but with a “pull” model that responds directly to customer demand by shipping
packages rather than pallets of goods. The rest of the nation’s supermarkets
and grocers must find a way to compete in this environment. Other
industrialized countries have similar dynamics: traditional grocery competitors
are squeezed between a “push” leader like Walmart and a digital native “pull”
player like Amazon or Alibaba.
Undoubtedly, the new competitive dynamics
will give consumers many more options for pickup and delivery of basic
household goods, at lower cost and with far more convenience than they have
ever had before. But they come at the expense of the traditional supermarket.
For more than 50 years, convenience, largely defined by store location, has
been the dominant factor in grocery retail. It has allowed even small players
to survive, and thus helped create a fragmented sector. But now, the digital
reframing of the grocery business, encompassing the entire purchase experience
from order placement to delivery, reverses that reality. Conventional
supermarket companies face an existential threat and must change their business
models to compete and, ultimately, to survive.
One potential approach shows particular
promise. It could be called the “ply” model — as in, “ply your wares with
digital technology.” This model seeks to offset the scale advantages of Amazon
and Walmart by leveraging the distinctive capabilities of a local grocery
store: a supply chain fed by full-truckload shipments (which Amazon lacks);
dynamic pricing and promotion (which Walmart disdains); and the ability to
command intensive loyalty from shoppers, because of its local community
knowledge, customer segmentation, and product customization. To compete in the
coming decade against the twin disruptions of Amazon and Walmart (and their
equivalents), today’s grocers and supermarkets need to return to the
customer-centric mind-set of their 19th-century predecessors, while making the
most of today’s digital tools.
A near-future scenario might involve a
suburban family of two adults and three children. They are mindful of both
price and convenience. Their favorite neighborhood grocer continues to win
their loyalty because it understands what they are looking for; it regularly
stocks its shelves with new items likely to appeal to them. On a Tuesday
evening, the store sends the oldest child, a 15-year-old being driven home from
a soccer game, a text saying his favorite box of prepared food, suitable for a
low-cost and healthy school lunch, is half-price in the store they are driving
past. Moreover, other items the family regularly purchases, including a new
flavor of their favorite breakfast cereal, their usual laundry detergent (which
they haven’t purchased in a few weeks), and a bag of oranges, can be boxed
together for them along with a few surprises that the grocery store will “throw
in just to see if you like them.”
The teenager receives the message because the
store’s algorithm, after years of data analysis and machine learning,
recognizes that the parent is probably driving and thus cannot text. Meanwhile,
the other family members waiting at home have also received the offer and have
clicked a box to indicate their support. The teenager alerts the driver to all
this, and they stop at the store. As the teenager steps out to pick up the
package at curbside, a store employee offers some cold sports drinks as
additions to the boxed order. No payment is required right then; the cost is
added to the family’s monthly tab.
What the family members don’t know is that
the pricing on those items reflected economics put in place by the grocery
chain for their mutual benefit. The school lunch promotion resulted from a
special deal with a consumer packaged goods (CPG) manufacturer, interested in
pushing out particular products in that local market. Neither Amazon nor Walmart
would have matched that deal, because their approaches don’t favor the same
kind of supplier relationships. The grocery chain’s inventory-monitoring
algorithms had noted an oversupply of fresh oranges in the store, and its
customer profile data noted the family history of purchases, suggesting a
win-win opportunity. The store did not discount the laundry detergent since its
algorithms noted the brand loyalty; it reserved those trade promotion dollars
for a different customer. The cold sports drinks offered at pickup were among
the higher-margin items in the store, normally bought on impulse in the
checkout line, but explicitly recommended because the algorithm recognized the
family as participants in previous soccer league promotions. The retailer was
plying its wares: matching its preselected assortments to the customers most
interested in them, with offers designed to be irresistible — and profitable.
Many
established grocery chains will not gladly accept the dramatic changes involved
in this new business model, but some new approach is urgently needed. A study
published in 2016 by the Food Marketing Institute noted
that as recently as 2007, 67 percent of shoppers chose a supermarket as their
primary source for groceries. Nine years later, that number was down to 49
percent. And it’s almost certainly continuing to fall, eroded not just by
online shopping, but by the increasing proportion of purchases made at
supercenters such as Walmart (picked as the primary source by 23 percent of
shoppers), club stores such as Costco (11 percent), and drugstores (5 percent).
E-commerce will continue to gain market share, especially with Amazon’s and
Walmart’s increasing focus on selling fresh food. Profitability and top-line
growth are rapidly fading for conventional supermarkets; so are shareholder
returns. Overcapacity in the grocery industry is growing, with too many
facilities holding too much in inventory. Consumers are getting savvier in
using multiple formats (different store types, online subscription models,
online bulk orders, meal kits) and using their smartphones to compare prices.
And the global expansion of discounters from Germany (Aldi, Lidl) and China
(Bailian) may lead to even greater competitive pressure in the U.S., U.K., and
elsewhere.
For now, these changes will continue to be
felt most strongly in what grocers call the “center of the store”: the aisles
of mass-market pantry and household staples such as breakfast cereal, canned
goods, cleaning products, and frozen foods. Most incumbent supermarkets have
responded to industry changes by strengthening the periphery: prepared food,
wine, artisanal cheese, locally baked bread, and organic produce. That helps in
the short run — assuming the store can attract shoppers interested in more
expensive, fresh products — but fails to address the fact that the store center
has been critical to supermarket business models. With the decline of shoppers’
high-volume “stock-up” trips, the central aisles will be more like ghost towns,
and this will bring a new round of stress to margins and profitability.
Some traditional grocery chains will respond
by pressuring their core suppliers, the consumer packaged goods companies, to
lower prices further. They might also try to squeeze more items into the center
of the store in hopes of competing on variety. But they will have better
success in collaborating with CPG companies to achieve a unique capability in
digital grocery. The ply-your-wares concept could give them that capability.
Ply to Push to Pull to Ply
To
understand the challenge of the digital grocery disruption, you have to look
back at history. Today’s transition is one of three great shifts in grocery
industry business models since the Industrial Revolution. In the 19th century
and several decades of the 20th, most grocers used an over-the-counterapproach.
A merchant interacted with each customer, bringing forward the requested
household staples from a narrow selection of options kept in the stockroom. A
shopper had to visit several shops — which might include a butcher, baker,
greengrocer, and packaged-goods store — to fully stock the household pantry.
Then
came the supermarket, pioneered by King Kullen in New York in the 1930s.
Combining a broad array of products in a large, self-service format, it seemed
at first like a retail miracle. During the next 40 years, supermarket chains
built ever-larger outlets with a discount push approach: “stack
it high and sell it cheap.” Simultaneously, consumer goods manufacturers built
national and then global brands. Together, the manufacturers and retailers
created vast supply chains to capture economies of scale, coupled with price
promotions designed to push products heavily. Large trucks delivered pallets to
crowded backrooms; weekly sales flyers attracted customers into the stores to
empty the shelves, using discounts that manufacturers generally funded. Today’s
trade promotion practices, which have grown to generate up to 25 percent of a
typical manufacturer’s gross sales, are descended from the coupons and flyers
of the past.
In the
1980s, the next great shift occurred, with Walmart’s entry into grocery
categories. Walmart, founded in 1962, had achieved US$1 billion in sales by
1980, just 10 years after going public: This was faster growth than any
company, in any industry, had previously achieved. It continued to grow through
its steady push approach: eschewing discounts, building large
stores with varied selections, targeting underserved locations (especially in
rural areas), and maintaining stability through its low prices. This removed
the bullwhip-like vicissitudes of discount pricing and the excess costs of the
traditional supermarket. The company shipped goods in full truckloads, just
like its rivals — but it achieved a steadier flow and enormous scale, which
kept supplier plants and retail stores running at full capacity.
Grocery now accounts for more than half of
Walmart’s U.S. sales, making the company the largest purveyor of groceries in
the world. Even Walmart engages in some temporal discounting, but it tends to
use trade promotion dollars from manufacturers to fund its everyday low prices,
setting a calendar of very limited weekly promotions. Some of its key
suppliers, including Procter & Gamble, have adjusted their practices to
accommodate the steady push approach. By any standard, the approach is
successful: In the fiscal year ending Jan. 31, 2017, according to the data
Walmart releases, its revenues totaled $487 billion from more than 11,500
stores in 28 countries.
But
the power of a steady push system wasn’t enough to prevent a third paradigm
shift. This was the digital pull system, made possible by the
Internet and supersized by the smartphone. In a pull system, customers identify
what they want and the system delivers it on demand. To make smaller orders
profitable, the supply chain has to be restructured. The pathbreaking digital
pull pioneer, of course, was Amazon, whose skill at user experience and
operational excellence has made it the only general retailer adept at this
approach. (Some pull purveyors have succeeded in specific categories, such as
Inditex/Zara in apparel.) Amazon developed its remarkable pull-based supply
chain by borrowing lean management techniques from the Toyota production system
(TPS). Coincidentally, Taiichi Ohno, the father of TPS, drew some of his
original inspiration from a visit to an American supermarket in the 1950s.
After the crash of the Internet bubble in
2000, Amazon continually kept costs low, sacrificing delivery time by
centralizing its facilities in Kentucky. At that time, its guaranteed delivery
time frame was a range of two to five days. But the company kept investing
heavily in its distribution network, always seeking to increase speed and
precision. Today, after an order is placed, the site displays a countdown clock
indicating how many minutes until the product ships. In fiscal year 2016,
Amazon revenues totaled $136 billion, which equates to just 28 percent of
Walmart’s revenues. But Amazon is growing faster; in 2016 it captured
one-fourth of the total growth of all U.S. retail, half of all online growth,
and the fastest share price growth in the global economy.
Amazon’s entry into the grocery sector can be
traced to 2005, when it introduced Amazon Prime, a service guaranteeing free
two-day delivery of selected products for members who paid an annual fee.
Currently, 40 million of the 400 million items sold on the Amazon online
platform qualify for Prime shipping. A more explicit food business began in
Seattle in 2007 with AmazonFresh, which now offers 500,000 perishable and
nonperishable products. In 2014, Amazon launched Prime Pantry, offering tens of
thousands of grocery items for two-day delivery to doors anywhere in the U.S.
for a $6 fee. The last barrier has been fresh and frozen foods. Amazon has
struggled to master the “cold chain” required to handle refrigerated groceries:
It took six years of experimentation before AmazonFresh expanded to other
locations in 2013. It is now available in many major U.S. metropolitan areas
(Atlanta, Boston, Chicago, Houston, Los Angeles, Philadelphia, San Francisco,
and Washington, D.C., among them) and London.
In March 2017, two AmazonFresh pickup
locations in Seattle began offering curbside service, placing groceries in
customers’ cars at a time specified when the online order was placed. Thanks to
Amazon’s small-batch delivery capability, the Fresh pickup sites are no more
than one-fourth the size of a typical grocery store carrying the same variety.
Another retail experiment is a small-store format called Amazon Go, which has
adopted the type of sensor technology and artificial intelligence used in
self-driving cars to eliminate cashiers and checkout lines; the building is
designed to track purchases as customers walk around. The prototype stores will
be about 1,800 square feet, and carry only 500 to 1,000 items, most of which
will be freshly produced on demand (applying the pull approach) by a dozen or
more on-site food preparers. And of course, with the purchase of Whole Foods,
the company now has a viable presence in communities throughout the U.S. (and a
few outposts in Canada and the U.K.), providing a platform for further
experiments. Meanwhile, on the supply chain side, the company has announced
plans that include adding 48 new distribution facilities worldwide to its
existing 380, about 230 of which are in the U.S., building upon a current
global total of 139 million square feet — plus its own air hub in northern
Kentucky to house 40 leased air-freight Boeing 767-300s. These numbers
represent such a high competitive bar that no single retailer, and certainly no
supermarket, can feasibly match Amazon’s pull approach.
Walmart, meanwhile, is acquiring online retailers
(notably Jet.com in 2016 for $3.3 billion and the men’s apparel outlet Bonobos
in June 2017 for $310 million), and offering its own
online-order-and-store-pickup services called “Click & Collect” and “Pickup
Today.” Collectively, the two behemoths — along with a group of smaller
startups — are shifting consumer expectations about ordering food online. The
perception of food shopping convenience is changing from an open checkout lane
to a smartphone app with a frictionless user interface. Even a small shift in
customer attitudes can disrupt traditional supermarkets. Unless traditional
grocery stores respond aggressively, Walmart, with its push model, and Amazon,
with its pull, could plausibly divide most of the grocery category between them
— a category that represents roughly half of retail sales.
Introducing the Ply Model
How, then, can traditional grocers respond to
these threats? They don’t have the scale to match Walmart’s steady push or
Amazon’s digital pull. But they do have advantages that Walmart and Amazon
can’t match: their supply chains, dynamic pricing and promotion, and customer
loyalty. Digital technology can and probably will be used to increase the value
of these advantages. On the supply chain side, new entrants are already setting
themselves up as platforms that established retailers can deploy. These include
Instacart, a $3.4 billion startup partly owned by Whole Foods, which has tried
to explicitly compete with Amazon on grocery delivery; other delivery startups
such as Postmates, Shipt, StorePower, and GrubMarket; Google’s version (known
as Google Shopping); and a growing number of food preparation startups, such as
Blue Apron and Sun Basket. To be sure, the costs of home delivery (the “last
mile”) are still as great as they were when one of the first such startups,
Webvan, failed in 2001. And the initial partnerships between these new
companies and traditional retailers have primarily been “no regrets”
experiments, largely funded by the startups and offering little risk to the incumbents.
Home delivery will need to be a more integral part of digital grocery
strategies in the future.
In customer relationships and promotion,
digital technology will be critical for enabling the ply-your-wares approach. A
food retailer will now use mobile devices, customer segmentation, and pricing
to change the promotion game entirely. This new paradigm is, at its core, a
digital upgrade of the earliest retail model. In medieval village marketplaces,
merchants aggressively hawked their products and haggled over prices, using a
keen eye to assess each customer’s willingness to pay. They also kept watch for
regulars who could be counted on to show up every week. At the end of the
market day, savvy merchants had fully depleted the inventory of goods — be it
fresh meat cuts or fur hats — that they had already purchased.
A digital ply model gives consumers something
they can’t get from a scale-based model: tailored offers based on historical
in-store shopping patterns and micro-segmentation derived from big data. The
family being targeted by a digital message is not just segmented, but analyzed
for its needs and wants, almost down to an individual level. The supermarket no
longer tries to compete with Amazon or Walmart by providing everything;
instead, it provides what it perceives its customers will want and need most.
Sometimes this will be fresh or precooked food; other times, just the right
assortment of staple goods. Sometimes, the supermarket offers rare items that a
few key customers have bought in the past, and that happen to be available now.
The most important technological enabler for
this new format is real-time, big data software that maximizes the return on
the investment in store-based inventory. Under the digital ply model, retailers
and their brand partners manage product promotions the way airlines manage
airplane seats. The most loyal customers don’t get the lowest prices, but they
get priorities and special perks. When the supply of inventory is sparse, it is
set aside for loyal customers. When abundant inventory needs to be sold,
selective promotions target the price-sensitive customer who would not purchase
otherwise. The retailer models the economics of customer purchases — including
the likely impulse purchases made by customers drawn into the store through
promotions — and adjusts the assortment and pricing accordingly.
Some companies are already applying elements
of this approach, using technologies emerging now. One forerunner is the
Safeway chain “Just for U” app that identifies individual tastes and directs
consumers accordingly. Another is the Denver-based analytics firm FullContact,
founded in 2010, which helps companies combine their customer information with
data from platforms such as Twitter and Facebook. Ply marketing isn’t easy, and
it won’t solve all problems. But those who embrace it could find that it allows
them to survive the coming battle between Amazon and Walmart.
Getting to the Digital Grocery
Whether they adopt the digital ply-your-wares
paradigm or another framework, supermarkets will end up shifting their
operating models dramatically during the next few years. There is no other way
to counter the loss of business to Amazon, Walmart, and a few other
multichannel platform creators. Collaboration among grocery manufacturers and
retailers probably represents the best way to begin. Both sectors are
threatened by the same industry dynamics. They are both aware of the power of
the Internet, and particularly mobile devices, to reach consumers on the move.
Together, they can reach out to loyal customers, alert them to opportunities at
stores near their locations, and attract spur-of-the-moment purchases that
offer real value and yield incremental revenue.
Unfortunately, the apps from traditional
retailers are not yet up to the challenge. According to a recent analysis by
the business intelligence research firm L2, only one of 15 grocer apps and five
of 10 general retailer apps provided information on individual stores’
inventory, a critical functionality for purveyors of groceries. Today’s
grocers, like the village merchants of the pre-industrial era, need to focus on
selling their inventory at the highest margins possible. But all too often,
that inventory is put on sale across the board, independent of the store’s
current portfolio of goods. At times, the products advertised in a traditional
push promotion are out of stock at some stores, because the space allocated to
the inventory was insufficient to cover the increased demand. So rather than
finding a great bargain, the consumer is frustrated by an empty shelf —
particularly maddening to stores if the consumer was a loyal shopper who would
gladly have paid full price. Out-of-stocks, whether on promotions or not,
represent a failure for the store, the brand, and the consumer.
Admittedly, maintaining an accurate view of
inventory is far more challenging in a grocery store than in an e-commerce
fulfillment center of the sort that Amazon runs. The fulfillment center
operates in a highly controlled environment, using best practices such as
“cycle counting” (an auditing practice in which part of the inventory is
counted on a particular day) as well as draconian measures such as pat-downs of
every employee exiting the facility. In a grocery store, when the computer
shows an item in stock but the shelf is empty, it could be in the back room, in
a shopping cart awaiting restocking, or in another consumer’s hand in the
checkout line.
Digital grocers will use big data to address
this problem. It can help stores improve inventory accuracy by noting sales
patterns — such as a significant drop in sales when an item is out of stock —
in order to trigger a targeted inventory count to address the issue. Loyal
customers could help by clicking a button on their mobile app if they don’t
find a desired product on the shelf. The signal alerts the store manager, who
might intervene on the spot and find a substitute, suggested by the algorithm,
perhaps with a discount to keep a loyal customer, or a promise to deliver the
item the following day. Customer data can also identify habitual purchases,
say, the largest package size of a favorite cookie brand, and offer two-for-one
promotions to specific customers when there is too much of the product in
inventory.
Few things are certain about the future of
traditional grocers in the digital world, except that decline awaits those who
sit back and do nothing. But supermarkets should take heart — loyalty to
grocery store chains sometimes scores higher than loyalty in any other retail
category. The shoppers are supermarkets’ to lose. It’s time for grocers to stop
thinking about the coming threat, and start planning for the opportunity.
by Tim Laseter, Steffen Lauster, and Nick Hodson
https://www.strategy-business.com/article/A-Strategists-Guide-to-the-Digital-Grocery?gko=16529&utm_source=itw&utm_medium=20170711&utm_campaign=resp
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