Operations

The pros and cons of starting an online grocery operation

Júlia Miozzo
Júlia Miozzo June 9, 2021
The pros and cons of starting an online grocery operation

Shopping for groceries online is no big news: it’s been years since supermarket chains started to take their businesses to the digital world and to serve their customers through this new channel. 

But in 2020, a pandemic hit around the globe and led to not only lockdown policies being put in place, but also to people getting more and more concerned about their safety. Just as the pandemic was a surprise to the whole world, its consequences to the grocery industry also overwhelmed grocers – those whose businesses already were in the digital world and those relying only on its brick-and-mortar stores operations. 

According to Statista, in the United States alone, ecommerce’s share of all grocery sales went from 3.4% in 2019 to 10.2% in 2020. An increase of 2.5% is forecasted for 2021, totaling 12.5% of total grocery sales. Looking even further, for 2025, the expected share will grow to 21.5%.

This increase of adoption in shopping for groceries online was also seen in Europe. A report from consultancy firm McKinsey & Company from December 2020 indicated that about 15% percent of E.U. customers shopped for groceries on a website that they had never used before. More than 50% of the respondents said they intend to keep shopping on a specific website, for at least “some part of their grocery needs”. 

Where previously the main reason for shopping for groceries online was convenience, lockdowns and concerns about safety forced consumers who were apprehensive to shop for their food and staples over the internet to change their behaviour. Seemingly almost overnight, online groceries saw dramatic spikes in demand that their infrastructure and stock availability were unable to handle. 

Other UK grocers who were already digital by the beginning of the pandemic had to work hard to serve the demand since they were the only ones with the capability to do so. Amazon Fresh, for instance, only allowed users who were subscribed to a waitlist to use grocery delivery and pickup services, temporarily. By April 2020, Tesco had increased its home shopping capacity by 20% and introduced an extra 200,000 weekly delivery slots – this operation included adding more than 200 new vans, recruiting 2,500 drivers and more than 5,000 pickers. Sainsbury’s had to double the number of online grocery slots available.

On the other hand, grocers yet to move online were forced to expedite their digital transformation – otherwise, they would be left behind in the race for customers and market share. 

For those thinking of whether to start an online grocery operation or not, what should be taken into consideration? In this blogpost, we go through a cost-benefit analysis and enumerate the pros and cons of doing so.

Pros

Foresee the future and keep up with industry trends

As mentioned in the introduction, grocers already in ecommerce benefited the most from the surge in demand for this service. While no one could have predicted a pandemic of this scale to take place, it made grocers realize how this trend is long-lasting for the grocery industry. 

To not lose competitive advantage and market share are critical for a business to survive. As soon as you’re not matching customers’ needs and, beyond that, do not make an effort to show you’re willing to gain them back, they’ll migrate to more agile competitors, while you become obsolete. And that can be fatal, especially considering the fast-paced environment we live in.

Being online gives grocers an opportunity to be in the forefront of innovation. When you’re keeping an eye on the industry’s changes, customers’ behavior and shopping habits, it becomes easier and almost natural to innovate. 

It is the case of Ocado, a grocery chain from UK that managed to fully automatize its warehouse with robots and, because of it, fill a 50-item grocery order in just five minutes, and also of Zona Sul, a Brazilian grocery chain from Rio de Janeiro that managed to deliver using drones in closed-gated communities in Rio. 

In summary, the advantage here is to never become obsolete among the industry and to have the opportunity to innovate. 

Reach new clients

It’s all about being where people are. Through a digital channel, you reach clients that live in different regions, have different shopping habits than the ones that go to your store and even those that avoid, at all costs, going to the grocery store nearby. 

The rationale behind it is simple: the more options you offer, the more people get interested in your service and operation. For example, when it comes to delivery options, a grocer that offers the possibility to pick-up orders directly from the store will better serve those customers that rather do so than to wait for the delivery.

Since the COVID-19 pandemic hit the globe, according to FMI, about 21% of consumers have tried online shopping for the first time. Of those customers, 19% still shop online, and most of them at deeper levels than they did initially. 

Amid the pandemic, online groceries saw an incredible increase in the number of orders; Zona Sul is also an example: it saw an increase of 300% daily online orders in one week when people started to avoid going to supermarkets. 

If those customers keep online shopping a habit, then boom!: you have a whole new segment of customers that couldn’t reach only in the offline world.

Unlimited space for products and testing

Another selling point of starting an online grocery operation is the facility to test whatever and whenever you want. By implementing a marketplace platform, you’re able to test new product categories, new brands and even different prices with no extra cost. 

Adding new product categories in a brick-and-mortar store requires space, and you either have to reduce your current offer to include new items or expand your physical footprint. This is not only risky but also costly. Ecommerce provides unlimited space for products to be displayed, while being a marketplace frees you from holding inventory, as this is up to your third-party sellers.

The digital world opens up a world of possibilities and gives businesses the freedom to take bigger risks. Did it work? Great! You get to expand your operations and explore a new source of revenue that would have taken months and cost much more money if done in the physical world. It didn’t? Chalk it up to experience: you learned what business’ limitations are and, at least, there were no big expenditures involved.

Constant repurchase

Grocery is a service that customers can’t live without. As long as you have what your customers are looking for, at competitive prices and provide a high level of service, most customers will stay loyal and guarantee repeat purchases.

Enabling subscriptions and “buy it again” options increases customer lifetime value and retention rates, and in most cases, a cheaper cost of acquisition per client.  In this case, everyone wins: customers have their needs served and businesses can count on them as loyal clients, while maintaining healthy metrics.

Infinite data to make your operations better

An online operation gathers and allows you access to data you would probably not have in the offline world. Not only can you track your customer’s journey through your website or app and keep improving its user experience, but this can also be used to get insights on new business opportunities and what can be improved.

Let us illustrate a simple example: from the data you get online, you realize that the demand for a specific product in certain regions is bigger, and therefore the number of orders starts increasing. An action point can be to  increase order forecasts from your supplier and allocate inventory to the regions with the highest demand, to avoid out-of-stock issues.  

We’re not talking only about data based on the amount of items per order or even the order volume. There’s also data on what people are searching for in your store, their brand preferences, which regions to invest in or pull business from, suppressed demand for products and services, and so it goes.

With all that information, it is easier to perform tests and make business decisions based on solid data and not just assumptions. 

Cons

The difficulties and costs of starting an ecommerce operation

It is undeniable that the upfront costs of starting an online grocery operation can be frightening. Besides  investing in the technology, you need to be mindful of the hidden costs of retraining staff, adapting your existing operations to the new setup and ongoing maintenance.  

A research from early 2001 analysed how costly it was, back then, to maintain this operation until cost-effectiveness was reached. The expenses were mainly due to operational costs related to home deliveries and order picking, both essential to operating an e-grocery. 

Of course back in 2001, selling groceries online – or ecommerce in general – was seen as a novelty, difficulties still remain the same. Today, with the added challenges of competing with big players and higher consumer expectations for fastest delivery and lowest prices, supermarkets struggle to profit from its online operations.   

Profit margins in online groceries are much lower than in brick-and-mortar stores: EBITDA margins vary from 4 to 8%, on average, and EBIT stays between 2 and 5% of net sales. 

2020 data shows that, for home delivery models worldwide, the average profit margin for an operation when the grocer picks items from the store, were as low as -15% – i.e., there’s no profit at all, but losses instead.

The good news is that it all changes when you reach a certain automation in your business operation, allowing you to optimize your ecommerce structure, increase picking speed and lower labor costs. When looking at a home-delivery operation that runs a micro-fulfillment center, the profit margins grow to 2% – and while this is still low, it transforms the business into a profitable one. To achieve this level of automation requires hefty investments.

Another turning point for this scenario is order volume. The higher your sales volume, the easier it is to dissolve your operational costs and to reach a bigger profit margin.

In summary, when starting your online grocery operation, the challenge is how to increase efficiency in order to profit, while keeping up with the required investments.  

Logistics complexities 

We’ve already mentioned the logistics operation as a con, but taking into account only its costs. In reality, well, it is a con in itself due to its complexity.

Firstly, there’s the complexity of managing the supply chain and dealing with numerous distribution centers. 

Secondly, the final stage of the delivery process, also known as last-mile delivery , which starts when the order leaves the distribution center until it reaches the final customer. It is considered the most expensive part of the supply chain, since most of its costs are variable (i.e., traffic time). According to Capgemini, it accounts for 41% of overall supply chain costs. Consequently, the higher volumes of orders to be delivered, the higher the last-mile delivery cost. 

At the same time, customers expect lower (or even free) delivery fees for the shortest delivery time, and most are still not satisfied with their current experience. The same Capgemini study pointed out that 40% of the interviewed consumers rank delivery services as a “must-have” feature for grocery purchases, with one out of every five interviewees prepared to switch retailers if the service falls short of their expectations.

There are many innovations both in the management of orders according to the location of distribution centers and also in last-mile delivery, of course – it’s made the job a lot easier in the last few years. But still, there’s the difficulty to find a business model that not only works for grocery companies, but also lives up to customers’ expectations.

Labor costs

Capgemini points out that 70% of warehouse operations costs are related to labor costs, and 70% of labor time is spent in picking orders. As with deliveries, an increase in order volume also increases labor costs.

To offset these, grocers choose third-party services for picking and delivering as a way to decrease total labor costs. For the end-customer, it doesn’t change a thing: the same Capgemini study found that 64% of consumers are indifferent to whether delivery is made by a retail store’s employees, private individuals, or third-party couriers. Besides outsourcing delivery, another option is to invest in automation – also costly, but following a different strategy

Investment in customer service

Launching a digital operation requires the setup of a dedicated customer service team. This is important due to several reasons, but mainly because as the customer cannot pick the items him or herself, there might be cases when a reimbursement to the order is requested. For example, for fresh items, there’s always a preference for a certain type – and reimbursement can be requested if the one delivered doesn’t match customer preference. It is also the case of order breakage, which affects between 8% to 12% of orders; and for that, some customers will prefer to get a refund for those items than for a replacement. 

Setting up a customer service team may be an additional expense that isn’t foreseen if the grocery operation is purely face-to-face, as you will have staff in-store to attend to any questions. Grocers can opt to build this team in-house or outsource this to a third party. 

Like any other aspect of an ecommerce business, there’s also a growing expectation from customers that this service will also keep getting better. This is why so many grocers are heavily investing in new technologies that allow them to not only automatize this as a way to keep up with the demand but also to provide the expected service. 

Conclusion

It is undeniable that in order to have a viable business today, it is essential to include a digital operation and to be where your customers are, serving them the way they’re looking for. But the costs and complexities of making it happen and properly getting into the grocery ecommerce market cannot be ignored. Besides the technological costs, there are many other complexities and specificities of this market that make an online operation even harder to manage in the long term.

That is why it is important to understand how mature your business is and how much you need to invest in technology and processes to overcome obstacles. If you’re able to deal with the cons listed above, the results will follow: consumers are looking for convenience, and offering it will boost your business growth.

One point to keep in mind, though, is that competition is relentless and it’s crucial to differentiate from others. While it may be one more challenge to consider in the math, it’s an opportunity to also become more relevant in the market, be recognized as a leading brand and reap the preference of consumers.

It’s no easy task to leave the traditional grocery market and enter the digital world. But let’s be honest: moving forward there’s no other option.

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