October, 2000

Cover & Feature Stories

What Lies Next

In an age of consolidation, the produce industry has to pay particular interest to any possible new class of trade. The Internet grocers – with names like Peapod, Streamline, Webvan and its recent acquisition, HomeGrocer.com – hold out at least the possibility for adding a new element into the buying and marketing of produce.

But will Internet shopping continue to grow? Will it change the way produce is bought in the trade or sold to consumers? Is there action that needs to be taken by the produce industry to capitalize on an opportunity? Or is a passive approach – letting the chips fall where they may – likely to lead to success?

Certainly if one is looking for numbers to trumpet, one can find many signs of success. Webvan, for example, had second quarter sales of $28.3 million, up from $1.3 million in the first quarter and only $383,000 a year ago. But the base is very small and the decision to locate Webvan’s first distribution center in the tech-savvy San Francisco Bay area stacks the deck.

Indeed, one of the great dangers of looking at technology is that the first people to use new technologies – the so-called early adopters – are not likely to be typical of the people who will ultimately use a technology. They may even represent exactly the typical users, but they might not be typical for the population. This limits the growth of the concept. As such, the manifestations of the technology that seemed so appealing at the start may turn out to not be very important in the end.

Amazon.com is a great example. Who buys a lot of books anyway? Who really wants an assortment that goes well beyond the best seller list? Who is happy to pay for the convenience of home delivery?

Let’s try journalists, academics, highly educated people, and affluent people. It’s a phenomenon that has come to be known rather derisively as “rich white boys on the net”. The nomenclature is not really fair. Journalists and academics are not necessarily rich, but all together, these are the early adopters, and it is interesting that in a country where serious books are a preoccupation of only a tiny minority, it is books that became the emblematic product sold on the net.

In thinking about the various Internet grocery services, one runs the same risk. Somehow the ad agencies always find some web designer married to an investment banker living in one of those loft apartments with exposed brick in San Francisco to comment how much they love the option to buy groceries on line.

The initial rollout target cities never seem to be Birmingham or St. Louis, but always Boston or San Francisco.

Keeping A Watchful Eye

So whatever statistics are trumpeted now, skepticism is in order. We just don’t know enough to think that whatever sample of the population has tried these services is sufficiently representative of the population at large to mean something.

There is another reason for skepticism. Generally, shifts in the way business is done have come about when explicit costs have been turned into covert costs. The rise of self-service grocery stores is a perfect example. In the old days, the grocer personally picked out the clients’ orders. In the new system, clients picked out their own orders. Now there is no total saving of time or labor here. But what the self-service model did was hide this cost. The grocer no longer had to charge for this labor.

Right now consumers around the country get in their cars, drive to the store, buy what they need and bring it home. Tied into that act are loads of costs, such as depreciation, gas, oil, time, but they are not explicit costs of buying groceries. They are hidden.

What the Internet sellers are proposing to do is to take that hidden cost and make it explicit. To buy vans, hire Teamsters (the drivers may not be unionized yet, but give it time), wear out tires, etc., the Internet sellers will have to pay for all this and thus charge consumers for it as well. If the masses find that appealing, it will be the first time in recorded history.

Still, it would be a mistake to simply ignore these services. Market research firm Jupiter Communications has estimated the online grocery market will generate $7.5 billion in three years. And, in any case, these services offer what is just about the only hope for new competition in many areas.

To propose to build 18 large superstores in the Bay Area would be very tough. There are few good sites available, the zoning isn’t right; if you tried to build the stores, one would be tied up in lawsuits forever.

But Webvan did build a distribution center and, in effect, opened a new chain in San Francisco. That is a more than modest achievement.

Why Stock Market Values Matter

The battle over Internet shopping may be over before it fully started. For a brief moment the stock market was valuing these companies at multiples so high that the companies had a real shot at raising the capital they needed to roll out distribution centers and become a genuine competitor to conventional supermarket chains. But that is now ancient history.

Webvan’s stock is trading under $2 as I write this, down from its high of $34. Put another way, the market is now valuing the company at around $600 million, and this after it merged with Homegrocer.com, but the company used to be valued at more than $15 billion.

The decline means that Webvan is unlikely to raise the money to build out its planned distribution center network. It means that the chance of doing a “minnow swallows the whale” – a la AOL and Time-Warner – acquisition of a conventional supermarket chain is not possible.

Indeed it means that the most likely thing to happen is for conventional supermarket chains to buy into or buy out their web based rivals. Indeed it is already happening. With $73 million, Royal Ahold rescued Peapod from the edge of bankruptcy and got 51 percent of the stock. Safeway has agreed to invest $30 million in GroceryWorks.com thus buying Safeway a 50 percent stake in this online seller of grocery items to Texas consumers.

Of course, if the same players wind up owning both the old brick-and-mortar stores and the new online stores, then it is unlikely that Internet retailers will open new opportunities for shippers to sell into markets they were previously shut out of.

Ready for Online Slotting Fees?

Of course the problem produce sellers report is that the Internet-based retailers are being run the same way as conventional supermarkets when it comes to purchasing. Requests for slotting fees and other programs are rife.

Of course none of this is surprising. The venture capitalists and technology folks that have put together these companies know nothing about produce so they look to hire people from supermarkets who bring with them their old ways of doing things.

That is a shame because the web is a new technology with its own distinct capabilities. The selling methods that worked in a physical store don’t work the same way on line, which opens up many new opportunities for produce marketing – if buyers and sellers can break out of their old paradigms.

The most dramatic change for the produce industry is that web-based selling opens up to produce the use of marketing tools that were impractical in the brick-and-mortar world.

The greatest obstacle to incorporating marketing of produce to consumers is that very few brands, and even fewer particular products under a particular brand, are in every produce department nationwide. This is different from grocery items. Campbell’s Soup really is in virtually every store in America, as is Heinz Ketchup, Coca-Cola and on and on.

This universal availability has made all kinds of marketing feasible for grocery brands and difficult for produce brands.

Thinking of running a coupon? Well a powerful brand like Chiquita bananas might be in a third of U.S. supermarkets at any one time. So if you mail everyone a coupon, or put it in the newspaper or a freestanding insert, in two thirds of the supermarkets, people who will walk in the supermarket clutching your coupon will walk away without your product.

This is the real reason why mass advertising, such as TV commercials, doesn’t really make sense in produce. If one’s TV commercial was so successful that it made everyone leap up and rush to the market to demand a given company’s product – well, the odds are that that product won’t be there at any given supermarket.

But Internet shopping changes that because it makes possible a very specific kind of micromarketing. It enables a promotion to be directed to people who can buy a specific produce item and brand. So, now, Chiquita can run on-line ads, give on-line coupons and do other promotions with 100 percent certainty that if the customer clicks on buying Chiquita bananas, the Internet store has them in stock and ready to go.

Of course the real revolution may be that one doesn’t have to be a major consumer brand to do this kind of marketing. A family-owned grape ranch could tell its full story and offer a coupon or discount and know that the sale is going to go to the ranch’s own grapes.

Now it is very good that these new types of marketing approaches are possible because the traditional type of produce merchandising techniques that the industry uses to boost sales won’t work nearly as well on the web. Color breaks and waterfall displays, for example, are moot, and the general wonderful color of produce is muted in even the best photographs. Forget about the wonderful scent one normally experiences from visiting a produce department.

Indeed the produce industry probably can’t count on the Internet grocers to even do things like automatically announce new seasons and so forth. The real estate – the space on that opening screen – is likely to be scarce and valuable and…sold.

For the Internet retailers, their capabilities mean that they can introduce their consumers to unique products, regional brands, specialty items, etc. They can provide recipes, nutritional information and much more. For shippers, they can finally interact directly with consumers and know that if they are persuasive, they will get the sale.

For the industry to capitalize on all this, though, mindsets have to change. Instead of just asking for bucks to the Internet retailer’s bottom line, the buyer needs to be asking shippers, “What are you going to do to take advantage of this new environment to help us sell more of your product?”

And shippers, even small ones, will find themselves needing to acquire marketing expertise – and fast. Because the expectations will change quickly, and those shippers who aren’t trying to market with the Internet retailers will fall by the wayside.

Will Consumers Buy?

When Internet shopping was first being theorized, it was generally accepted that consumers would be very hesitant to purchase most perishables online. Sure they might buy canned green beans or Pampers – items they didn’t need to see and feel – but they wouldn’t trust a company to pick out tomatoes or steak.

It’s still early in the game. But initially it seems that the early adopters at least are perfectly happy to have the online grocers do the selecting.

Some interesting research out of Cornell’s Food Industry Management Program pointed to a possible reason: people felt themselves less than fully competent at selecting produce and were happy to have an “expert” do the picking.

The problem, of course, is that the pickers are not always experts at online stores, and, even if they are, they can only pick out of what is in inventory. This points out one of the real pitfalls of ensuring customer satisfaction via online shopping – the difficulty of improvisation.

Let us say a customer had ordered fresh apricots to have for dessert that evening. If the apricots are out of stock that customer will be left without dessert. In a store experience, the customer would just pick an alternative – perhaps fresh peaches or perhaps jarred apricots.

But it is also possible that consumers will experience a more consistent shopping experience when they buy online than they do shopping in a store. It is just easier to maintain separate areas for different ripeness levels of bananas, for example, when consumers aren’t picking over each one.

Certainly it is possible to imagine a future in which almost all grocery items are ordered online, but perishable items are still bought in stores. These stores could be smaller, easier to shop and more attractive than the supermarket of today. In a sense the drudgery of shopping – lugging that Tide, for example – is removed, and fresh fruit, nice breads, beef, poultry, fish, flowers, prepared foods, etc., are left to be enjoyed and shopped more leisurely.

How Vital is Produce to the Model?

The Achilles Heel of the Internet Shopping industry is home delivery. In the new economy this is considered a variant on the “last mile” problem. In many fields, such as telecommunications, the vision is clear on how to string high capacity optical fiber around the world. The hard part is how to get that “last mile” to each individual’s home.

And the thing to remember about Internet grocers is that most couldn’t care less about food. All grocery sales are around $650 billion a year; of that, about $500 million is currently being sold over the Internet. But the CEO of Webvan says the market for Web shopping is soon to be a $1.5 trillion-dollar market.

Many of the items that will sell over the Internet carry far higher margins than food, but consumers order food much more frequently than they order most other things. And that explains what is really going on.

Companies like Webvan see the real value-added as being in delivery – note that in Webvan’s name, there is nothing about food – these companies got into food because if you supply everyone’s groceries, you are going to be visiting every house very frequently. That should make it possible for a company like Webvan to carry other items economically.

The thought is that, in time, what Webvan will really be is a kind of giant UPS competitor. Perhaps, more specifically, Webvan could be the distribution arm for e-commerce companies, delivering books for Amazon.com, gifts from Red Envelope.com and all the items one can buy online.

Carrying produce is integral to achieving this goal because its perishability makes it the most frequent reorder item on the web shopping services.

So there you have it, produce – with its need for frequent delivery – is really the linchpin of efforts to build a delivery network that nobody can touch. The network must be the most economical way to deliver to people in a given area.

This gives produce an opening. The truth is that Webvan and the like don’t need to make money selling produce. They would be thrilled if everyone would let them deliver produce at cost because it would guarantee Webvan a weekly delivery to every house. In an economic sense, the last mile problem would be solved, and Webvan or other Internet grocers would own the “last mile.”

Does Home Delivery Work?

The economics of home delivery are daunting enough, the logistics even worse. Webvan lets you order today for delivery tomorrow, and they’ll make an appointment within a narrow window.

Streamline innovated the idea of placing a unit in one’s garage that contains various temperature zones. The idea is that your Streamline delivery man can deliver even when you are not home by placing everything in the correct compartment – frozen, refrigerated, etc.

Of course the emphasis by all these services on home delivery is a function of the Internet firm’s desire to build a “last mile” distribution network. Consumer demand has nothing to do with it.

Sure, in certain urban areas – Manhattan, for instance – where cars are scarce and parking difficult, home delivery is a must. But for many consumers, home delivery is a big inconvenience. In many cases, one has to be home for starters and then what do you do if the delivery guy is late? Wait some more? And even when delivery can be made without one being home, one still usually has to wait at least a day after ordering.

Recognizing the inconvenience of having to wait for one’s order, companies such as Kozmo and Urban Fetch are gearing up to offer immediate deliveries. But this seems only feasible in densely populated urban areas.

Perhaps an alternative model is the building of double drive-through depots perhaps in the parking lots of regular supermarkets. Instead of arranging for home delivery, one arranges at which double drive-through to pick up one’s order.

One zooms in, pops open the trunk, the packages are placed in the car and one is off.

Maybe all this attention to the “last mile” is solving a problem consumers don’t care about.  pb