“Amazon wrecked the mall. Now it’s coming for the grocery store.” Chris Isidore CNN Money
“The 40,000 square foot market as we know it is a dinosaur.” Phil Lempert NBC
“It appears we have appointed our worst generals to command forces, and our most gifted and brilliant to edit newspapers.” Robert E. Lee
A month ago, we asked how long it would take Amazon to become the country’s biggest bricks & mortar retailer. Faster than we thought. As of last week, Amazon is buying Whole Foods. According to the media, this move will singlehandedly propel grocers to the abyss. Whether this will prove true remains to be seen. General Lee had a point, and the experts I’ve spoken with, the grocers themselves, are scratching their heads, unsure what this acquisition portends for their industry.
Let’s put end times aside for a moment and instead examine what we actually know.
Groceries are a $781 billion business on which the internet has yet to land a punch. Reports vary, but e-commerce sales of groceries appear to be about 1 percent of total food sales. And Amazon’s share of total e-grocery sales are said to be 18 percent (or about 0.18 percent of total sales). Whole Foods has 1.2 percent of grocery sales (it has about 460 stores compared, for example, with Wal-Mart’s 4,500). The two companies today combined thus have about 1.5 percent of America’s grocery business, meaning that if it were any company other than Amazon buying Whole Foods, the sky would not be falling.
On the other hand, e-commerce industry pundits predict that on-line grocery sales are about to skyrocket and, judging by their own scrambling to effect home-delivery, the major grocers must believe they are right. The grocers would like to think that millennials will come around to acting like their parents, but their uncertainty has them manning battle-stations.
Wal-Mart, the world’s best retailer, is moving faster into e-commerce than Amazon is into bricks & mortar, acquiring one boutique e-commerce operator after another, most recently Bonobos.
More facts: According to the Wall Street Journal, Whole Foods has a gross margin of 34 percent; the industry average is closer to 20 percent (Kroger’s is 21 percent). It has been able to maintain this extraordinary margin because of its cachet with the compassionately-raised kale crowd. But both margin and cachet are slipping and, prior to the merger announcement, Whole Foods’ stock had been sinking like a drought lake, a development that began in 2013 when the traditional grocers began slapping “organic” on their offerings and competing on price. Will that margin and cachet slide even further post-Amazon?
Putting aside the size of Amazon’s ultimate grocery splash, the industry is already knife-fight competitive, teeming with big, highly-capable players (Wal-Mart, Kroger’s and Safeway) and about to get even more cutthroat with the German invasion of Aldi and Lidl.
Anyone reading this magazine already knows that the average net profit margin for the supermarket industry is 1 percent. Why? Because grocery executives constantly shout this fact from their board rooms (as if it were verbal wolf bane against further competition). Given this, the business-minded may have wondered why anyone would want to be in food. Simple: Yes, grocers make 1 percent, but they make that 1 percent 19-20 times a year because they turn over their entire inventory nearly every two weeks, thus earning an annual 19-20 percent a year on total investment. A well-run supermarket–or supermarket chain–is a cash machine.
Final facts: While almost everyone on Wall Street claims Amazon could start coining money any day it wants to–basically the moment it slows its madcap growth–the company has yet to generate any sustainable profitability from its e-commerce retail business. (Fortunately, it makes a bundle on the Cloud).
The e-commerce conundrum–you can have all the customers you want, but only as long as you’re losing money–has not been cracked by any major player. Amazon may finally solve the crushing cost of “last mile” delivery by having you drive it instead, having you go to Whole Foods to pick up both your arugula and your summer reading.
Groceries are the trickiest retail business by far. And while many dry goods retailers have been lured by the siren song of weekly shoppers, almost as many have come to grief by adding groceries to their shelves. That otherwise brilliant retailer, Target, stumbled so badly with its entry into food that it may be wishing it had never heard of groceries.
And, finally, home delivery has been around as long as markets have existed. But rather than a world-changer, home delivery was viewed–and still is by many–as a necessary if not necessarily profitable service a market must offer its customers.
Where does that leave us? With the thought that the supermarket is not going the way of the video, that is, scattered outposts of independent video stores after the unlamented passing of the major chains. That between the challenging logistics of delivering fresh food fresh, frozen food frozen and keeping items flying off the shelves before their sell-by date–not to mention the vast majority’s preference to squeeze and pick its own fruits and vegetables–e-commerce groceries will become a significantly larger, but still insignificant component of the grocery business.
That won’t stop Amazon. Like a voracious AI robot in some Sci-Fi movie, the company is likely to swiftly learn everything it needs to know about running a bricks & mortar chain and move on to its next project. Whether that is Macy’s, Sears, Kmart or J. C. Penney, I don’t know, but buying a true nationwide chain–Penney has 1000+ stores–in a far easier niche to occupy, acquiring its distribution center and outlets for dimes on the dollar has an inescapable logic for a company bent on becoming the world’s largest retailer.
John E. McNellis is a Principal at McNellis Partners in Palo Alto, Calif.
Articles published in our Contributor section do not necessarily represent the views of The Registry or Mighty Dot Media, Inc. They represent a selection of topics chosen for the value of their editorial perspective. We welcome feedback and alternative positions on topics, and we will consider publishing those, as well.
To read more from McNellis, please consider his book Making It in Real Estate: Starting Out as a Developer.