THIS IS CHAPTER 1 (GROCERY MARKET) OF THE “TEN BATTLES OF ONLINE GROCERY” REPORT
1.1 The international “Law of Food Spending”
The grocery market is one of the largest segments in global retail, in which established international players lead the way with significant market share. In the US an average household spends $3.971 per year (2014) on food at home and $2.787 per year (2014) on food away from home. Total food expenditure is 9.7% of disposable income.
The food at home expenditure (part of the grocery market) is rising, but total food expenditures and food at home as share of disposable income is declining since 1960. See the next diagram.
Grocery spending is income dependent. There is a worldwide relationship between food spending and income. The higher disposable income:
- the higher absolute food spending
- the lower food spending as percentage of disposable income.
I call this relationship of income and food: “the International Law of Food Spending”.
House and car. What happens with the rest of high or rising disposable income? People are spending it on a bigger house they can hardly afford, and they are spending it on a more expensive car they also can hardly afford.
Comparing cross sections. The “International Law of Food Spending” also becomes clear by comparing cross sections of US consumers. Low income Americans spend only $4.000 per year on food, but almost 35% of their disposable income. High income Americans spend $11.000 per year on food, which is only 8% of their income.
Comparing different countries. The “law of food spending” becomes also very clear by comparing caloric intake and household spending on food of different countries. People in the US and the UK have high calorie intakes, but spend less than 10% of disposable income on food. Households in India and Kenya have low calorie intakes, but spend on average more than 30% of their income on food.
The state of the grocery industry is changing rapidly. Traditional grocery retailers must deal with price wars, reduced margins and growing consumer appetite for organic health food. And digital trends are forcing retailers to adapt their business models.
Consumers are shopping for groceries at multiple channels. The trend of shopping at different types of stores is not new. Consumers are easily switching between supermarkets, hypermarkets, discount stores, convenience stores, specialty stores and online stores. It is no problem anymore for consumers to visit a service supermarket and a discount store in one trip. And supermarkets with mainly organic foods (example: WholeFoods) are becoming popular.
Private label is gaining market share. National brands used to be the traffic-builders of grocery stores. And when a popular national brand product was out-of-stock, consumers were inclined to look elsewhere (and stay there). But private label products are becoming more popular, because they are not only cheaper, but the quality perception of private labels is also improving. This is a great opportunity for grocery retailers, since private label products offer excellent gross margins and make prices less transparent.
Private Label essential for profitability. In chapter 12 we will show, that the mix of high gross margins and low price transparency of private label products is essential for online grocery retailers to be profitable.
Large supermarkets are becoming smaller. Supermarkets in the US used to be extremely large. But there is a clear downsizing trend. 5.000 m2 (50.000 square feet) used to be a normal size in the US, but the average size is declining to 46.000 square feet (source: Food Marketing Institute).
Chad Arnold (CEO of Door to Door Organics): “When a customer walks into a supermarket of 40.000 items and only wants to buy 30 of them, that is a terrible customer experience”.
Small supermarkets are becoming larger. In my home country The Netherlands, a large supermarket is 1.500 – 2.000 m2 (about 17.500 square feet), and the trend is that many supermarkets smaller than 1000 m2 (10.000 square feet) are disappearing. In the US the convenience store format is becoming more and more popular. Kroger is opening a new Turkey Hill Market store of 6.800 square feet, while the old ones were 4.000 square feet.
A major social change is the fast advancement in technology and how this has impacted our daily life. Wider internet access with personal computers, mobile devices, apps and increasingly faster broadband speeds, enable people to use technology more than ever before.
Internet penetration sky high. Internet penetration has grown sky high in USA, Australia and Europe, and is growing with a high rate in other regions of the world:
Source: Internet World Stats
Internet penetration is still relatively low in Asia, but 50% of all internet users in the World live in Asia!
E-commerce is the fastest growing retail market in Europe. In 2015, overall online sales are expected to grow by 18.4% (same as 2014), but 13.8% in the U.S. on a much larger total. These figures relate only to retail spending, defined as sales of merchandise to the final consumer. At present, Germany has the fastest-growing online sector (23.1% forecast for 2015, compared with 25.0% in 2014).
About the statistics of “retailing”. The retail figures in this book are based on a strict definition of retailing: only “merchandise” or “tangible goods”. Not included are some large online sectors as:
- retail banking
- retail travel agents and holidays
Motor fuel is also not included, because fuel cannot be sold on the Internet.
In Europe the online sales differ per country. The average online market-share of all merchandise categories (including groceries) in the UK is high, due to the relative high market share of online groceries in the UK. See the next diagram.
USA: $349 bn online sales in 2015. In the USA 60% of the population regularly shops online. Online sales are expected to rise from $349.20 bn in 2015 to $398.78 bn in 2016.
Different commodity sectors experience a different influence from online retailing. The competition of online retailing can be:
- destructive: for digital products
- disruptive: for physical non-food products
- only incremental: for food products (groceries)
DESTRUCTIVE COMPETITION IN DIGITAL PRODUCTS
Digital products. Online retailing is very destructive for physical stores selling products that can be digitized and sold as downloads. There are three sectors that are hit the hardest: travel, tickets and multimedia.
Booking vacations online is now the norm and travel agencies are disappearing. Buying tickets for concerts is a booming online business. And downloading music, films and videogames is now made possible by popular new sites and apps. Online retailer Amazon.com is the largest seller of books worldwide and is selling more e-books than physical books.
I started buying books at Amazon.com as early as 1998. In the last 18 years I bought 640 books online and only about 50 books in traditional stores. And the last 2 years’ half of my purchases are e-books.
Testing at home is convenient. A special characteristic of digitized products is the fact that testing at home is even more convenient than testing in a physical store. Also downloading is fast and buying digitized products online does not involve expensive stores handling and logistics. Above all: looking for the right book on Amazon is easy, informative and fun.
DISRUPTIVE COMPETITION IN NON-FOOD PHYSICAL PRODUCTS
Competition from webshops. Physical stores selling non-digitizable non-food products are suffering from increasing competition from web shops. Large sectors like clothing and consumer electronics are experiencing a substantial shift of sales volumes from physical stores to online stores. Physical stores have to adapt to the reality of new online competition. Waiting for customers to visit their stores and buying their products is no longer a sustainable business model.
In the week I wrote this paragraph on disruptive competition, a large department store chain filed for bankruptcy after 80 years of existence. It is now more fun to shop online for consumer products than to shop in low-end department stores.
Orientation is key. A special characteristic of many non-food products is the need for orientation by consumers before they buy. Consumers want to have sufficient choice and information before they buy so-called shopper goods. And during orientation, consumers might visit several websites and physical stores. After orientation the actual buying takes place in the physical store or online.
Price transparency. Easy orientation at different web shops makes prices very transparent. And new price comparison websites and mobile phone apps make comparing product prices easier, even when visiting physical stores. This price transparency causes a pressure on prices, gross margins and ultimately net profitability of retailers.
The weakest stores will disappear. Successful non-food retailers will have to close their weakest stores to maintain overall profitability. And weak traditional retailers will have a hard time surviving the new online competition. Unless they change into a strong omni-channel business model.
ONLY INCREMENTAL COMPETITION IN GROCERIES
Groceries are different. The grocery sector is the focus of this book. Groceries is the largest retail sector with the lowest online share. Competition by online stores in the grocery sector is not very disruptive and certainly not destructive. This sector is very different from other sectors: it is very large and online shopping plays a much smaller role than in other sectors. The low online share is the result of the typical characteristics of groceries.
Online plays a small role in grocery shopping as a result of a number of characteristics that are specific for grocery shopping and retailing:
Routine shopper behavior:
- hardly any orientation necessary (routine products)
- customers know and trust their grocery stores (routine shopping)
- high frequency shopping and short lead-times
Relatively high costs and low margins for retailers:
- many different products in one shopping bag
- low value products
- low margin products and price pressure
- three different temperature zones
Boring and expensive. These characteristics of groceries make online shopping rather boring for consumers and very expensive for retailers.
In this book I will explain why pure online retailers will have a hard time developing an online grocery store from scratch and make it profitable.
Omni-channel growth. In the meantime, traditional supermarket chains are using their web shops to counter the competition from pure online players and other omni-channel grocers. And they use their web shops to defend and enhance their physical stores to grow their market share.
Opportunities for special products. Not all grocery categories are insusceptible for online retailing. Some products thrive on product information (wines), other products are small and expensive (cosmetics, razor blades and supplements) and some products are light and expensive (diapers). New online stores are successfully selling these special products.
In 1999 and 2000, online grocery shopping was a disastrous hype. Some major e-commerce consultants were very optimistic about market potentials. Andersen Consulting predicted a market share of online grocery shopping of 20 % in the year 2010. Cap Gemini was even prepared to predict a percentage for online grocery retailing between 30 and 40 %!
From big hype to big investments to big fiasco. The overly optimistic predictions of online market shares were used by Peapod in 1999 to explain its high potential. And in 2000 the new online grocery retailer Webvan made a nationwide investment program of one billion US$. But Webvan became the biggest dotcom flop ever.
My prediction in 1999 for mainland Europe was a market share of online grocery retailing of less than 1,5 % in 2010. My low predictions for online grocery retail were in sharp contrast with the extremely high predictions of major consultancy firms, leading to much debate.More realistic expectations. The influential Verdict Research tuned the market potential of online retailing in the US down to 3 % in 2004 for the total retail sector and 2.33 % for the grocery sector. But even this prediction was too optimistic, as was shown in par. 1.4
Halfhearted efforts for online. Some of Europe’s grocery retailers have ventured into online selling in the early stages, but in general their efforts were tentative and half-hearted and thus have failed to win customers. The exceptions in Europe in the early stages were Tesco (UK) end Albert Heijn (NL). Both companies succeeded in building online businesses, that were examples for their competitors and new pure players.
The examples of Tesco and Albert Heijn are described in chapters 5 and 6.
Many retailers were put off by the economics of the business. Selling groceries online means taking on additional costs—in labor, delivery vehicles, and fuel—that are higher than the delivery fees customers are willing to pay. Profitability seems to be unattainable. This is particularly problematic for retailers in markets like Germany and The Netherlands, where gross margins are low and labor costs are high relative to the United Kingdom.
Technology is the most bullish thing possible for the standard of living of human beings. Many people living below the poverty line in developed countries have televisions, refrigerators, medicines, and luxuries that even kings and queens of only a hundred years ago could not have dreamed of. That trend is going to continue and accelerate.
GROCERY SHOPPING BEHAVIOR
Grocery shopping is mainly routine. Much of what you are buying now is the same as last week. And grocery products are on average rather inexpensive. That makes grocery shopping very specific and different from buying other consumer goods. Grocery shopping must be fast, efficient, convenient and fun. Groceries are “convenience goods”.
Other consumer goods have their own specific characteristics, that make shopping behavior more complex and less routine. Price is important, but also the product life cycle and the need for product information:
- Software (apps) are bought to produce an easy solution and a new “experience”
- Clothes buying requires comparison, look, feel and fitting. Clothes are “shopping goods”.
- Non-fiction books buying requires rich information about its contents, that must fit your information need of the moment
- Car buying is a complex decision process with a lot of emotion involved: an “exploration phase”.
Health food shopping is less routine. But there are new developments that ask for different grocery business models. A good example of a major trend is the popularity of health foods. This trend makes food shopping a different, less routine experience.
THE DIGITAL TOOLS REVOLUTION SHAPES OUR RETAILING
Digital tools for shopping are changing rapidly:
- Before 2000, you needed a fax machine or telephone to go grocery shopping online
- 2000: you still needed to walk to your PC for online shopping
- 2007: the smartphone and mobile internet surfing made a breakthrough
- 2010: the iPad was the first of many tablets, that made “lean forward” multitasking possible for everybody
- 2015: consumers are always online with laptops, smartphones, iPads and yes, also with their PC’s
- The next step is the use of smartwatches and other wearable devices
- And “non-clickable devices for grocery shopping are introduced by Amazon and Ocado.
THE DIGITAL MEDIA REVOLUTION SHAPES OUR ENTIRE LIFE
Social media are taking over our lives. Facebook, Twitter and WhatsApp are now the most important means of online communication. US president Trump gave Twitter a new boost. And Instagram, Pinterest, Snapchat and Vine are attracting more young users each year. Consumers share their experiences with retailers and manufacturers online. Price and quality of consumer goods become more transparent every day.
Facebook still the greatest. 35% of worldwide internet users are using Facebook every day. Facebook is also becoming a significant competitor for Google Adwords for online advertising.
Social media are discussed in chapter 13, as part of the battle for branding and traffic building.
Social media still growing. In 2010 1.8 billion people worldwide were active on social media. In 2015 this number is 2.7 billion. And these billions are not only teenagers. In The Netherlands 81% of baby boomers (45-65 years old) are using social media, half of them on a daily basis.
YouTube and Netflix. Also “watching TV” is changing into the YouTube and Netflix experience: watching films and series on demand, when and where we want. My two nieces of 6 and 4 years old are not “watching TV” anymore; they ask for their favorite shows when they have time in their busy schedules.
Poor supply and low demand. With a few exceptions (such as in the United Kingdom, where Tesco and pure-play retailer Ocado have made assertive moves), Europe’s online-grocery market has been stuck in a vicious cycle: poor supply drives low demand, which in turn justifies the poor supply.
Source: PayPal, Harris Interactive, June 2014
The facts in 2014. The online food market share in the UK is 4,5 % in 2014, in the early stages pushed by Tesco Direct and later by Ocado. In France online food market is 3,5 %. The online food share in The Netherlands is still not higher than 1,5 %. In the US and Germany, the market share of online food retail is even lower.
Still few consumers buy groceries online. In a survey in the US (2014) 15% of consumers said they had purchased general food online. Of the same consumers 69% said they had purchased clothing online.
55% of consumers say they will buy groceries online. In an international survey of Nielsen, 25% of interviewed consumers said they order groceries online, and 55% are willing to do so in the future.
NB: these percentages are NOT actual and future online grocery market shares, because the actual buying is always divided over online and traditional channels. In the US, 15% of respondents say they purchased general food online, but the national online food market share is not more than 1,5%.
Supermarkets are defending market share. Once a retailer makes an assertive move in online grocery, others are likely to follow suit. But at that point, the business case for investing in online grocery will be a matter of defending market share and preventing further losses. Not delivering incremental profit.
The supermarket is a fantastic business model. Consumers will shop for groceries online only if the offer is right: they are not willing to sacrifice the price, quality, and range of products that they have grown accustomed to in the supermarket, and they avoid inconvenient delivery or pickup arrangements. To date, few European retailers have given consumers a compelling reason to switch from the neighborhood supermarket to the Internet.
Skepticism about product quality. Another factor keeping online demand low is consumer skepticism about product quality. Consumers who have not yet tried grocery shopping online say their biggest concern is not being able to see or touch the actual products before buying. They want reassurance that their groceries will be fresh and high quality—no bruised fruit, no wilting lettuce.
Ocado (UK) has found the solution to prove to customers that their fresh products are actually very fresh. See par. 5.4 about this transparent company.
There is latent demand. In France, 33% of consumers who have never bought groceries online say they would “probably” or “certainly” begin to do so within the next six months, if the service were available in their area. In Spain, that figure is even higher, at 49 percent.
THIS WAS CHAPTER 1 OF THE “TEN BATTLES OF ONLINE GROCERY” REPORT
or order the full report