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Can online grocery be profitable?

With 7% of all UK groceries and 5% of all French groceries ordered online, both growing at over 10% a year, online grocery is a huge phenomenon. Even in the USA, where grocery online sales are 1-2%, they are expected to grow quickly as Walmart, Kroger and Amazon roll out the service to new cities.

But the main question that retailers still face is… can online grocery be profitable? After factoring in marketing, picking, delivery or collection costs, plus the technology and team needed to run the online store, can you truly make money from it? 

If all overheads and costs are allocated fairly, a typical online grocer has per order profitability of somewhere between +2% and -10%. Yet customers love the service and there is no sign of demand waning. As online sales grow, profitability is diminishing (given the higher margins achieved in physical stores), so finding a solution is essential for the long term health of the business.

But a profitable online offer is achievable – to drive long term profitability, grocery retailers need to consider the following nine levers:

  1. Grocery online is a logistics business. Efficient and accurate picking of in-stock products, and low cost, on-time delivery or collection, is the core on which to base profitable operations. Retailers who have focused on high-quality and efficient processes are benefiting from the lowest cost operations, enabling them to serve customers more cheaply than their competitors can.
  2. Store picking is the lowest cost model. It has been shown, time and again, that store picking is the cheapest way to pick and deliver groceries compared to both dark store and Ocado style fulfilment centres.* Dedicated facilities may well be needed for capacity, quality and assortment reasons, but they add expense to a P&L that is already struggling. Some retailers are experimenting with picking fast moving ambient product in warerooms at the back of the store, which is a further optimisation of the store pick model.
  3. Collection at store is cheaper than home delivery, even after delivery income. In the UK, a home delivery (with delivery fee of £2-£4 ex VAT) costs the business £5 – £7 more than a collection at store, and therefore promoting store collection will aid profitability.
  4. Recruit angels, not demons. Angel customers are more loyal, spend more per shop and shop more frequently, and are profitable; demon customers are not. Recruiting and retaining grocery online customers is expensive, so understanding which type of customers will be most valuable to you is hugely important. Recruiting more of the same is a major driver of profit and should be a main focus of the marketing team.
  5. Drive up average basket value. As delivery and collection costs, and much of the picking cost, are fixed per basket, increased basket value adds directly to the P&L. In practice, however, this is hard to do. In the UK, basket values have been coming down because many customers switch to delivery pass subscription models, in which additional deliveries add no extra cost to the customer. These models are a great driver of loyalty and more frequent shops, but at the expense of basket value and revenue per order.
  6. Premium pricing. In many countries, grocers have improved their profitability by charging a premium for products sold online compared to those sold in store, with up to 80% of the range more expensive. Basics and KVIs are priced at parity with stores, and, interestingly, customers seem to be happier to pay slightly more per product than they are to pay the delivery fee. This should only be done for delivered product, not collected, as collection customers will not understand why there is a difference from store prices.
  7. Reach scale quickly. Online grocery launches lose a lot of money as the investment costs are high, but there are many economies of scale in this business. Growing quickly, as the UK market leaders did, is essential to limit long-term losses.
  8. Control technology costs. To provide a market leading customer experience requires complex technology, both customer facing and in the picking and delivery, and there are many examples of poor implementations that have cost a great deal of money. Good execution is essential.
  9. Retain your customers. Ultimately, the key to success in online grocery is to keep your customers happy enough to stay with you. This is done through a relentless focus on operational excellence (perfect orders, delivered on time) and backed up by great customer service. This will help to reduce marketing costs and typically leads to higher average basket sizes.

Will these be enough to make online grocery profitable? Much depends on the competitive dynamics of the market, and for many retailers winning online market share is more important than profit. However, in the long term, it will not be possible to continue to subsidise online grocery; as markets mature, grocers will need to pay close attention to the levers above to make money from online.

Authors Matt Jeffers and Will Treasure have almost 30 years of combined experience working with and for online grocers, across five continents (Europe, Australia, Latin America, South Africa and USA). *Javelin Group research 2016.

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