Ecommerce is the number one growth channel globally, and at Edge by Ascential we forecast it will reach 30% of global chain retail by 2024, accounting for almost 50% of $ sales added over the next five years. Much of this growth is being led by the rampant expansion of pureplay marketplace giants such as Amazon, Alibaba and JD.com.
As a result, most retailers (whatever the channel they operate in) are trying to figure out how to get their fair share of this growth and how to accelerate their digital strategy. However, ecommerce is complex, costly and requires significant investment in technology and fulfilment capability and is putting retailer profitability under real pressure.
So, how are retailers funding this investment? For the pureplay ecommerce leaders like Alibaba and Amazon, their extensive digital ecosystems provide a rich source of alternate profit streams. In the case of Amazon, this includes its AWS cloud computing arm, which in 2018 generated a profit of $7.3bn, equating to 59% of Amazon’s total operating income (from just 11% of sales).
Of course, pureplay leaders like Amazon are also playing a long-term game for profitability In his 1997 shareholder letter, Jeff Bezos said “We will continue to make investment decisions in light of long-term market leadership considerations rather than short-term profitability considerations or short-term Wall Street reactions.”
These words still hold true, although for omnichannel retailers, who operate on a much shorter-term time frame, this long-term thinking and rich source of alternative revenue is simply not an option.
The Omnichannel Profit Challenge
For leading omnichannel retailers, operating margins continue to fall as they face a perfect storm of heightened competition, slowing physical store sales at the same time as having to invest in expensive and complex digital transformation plans. The chart below shows the impact this has had on the margins of five leading omnichannel retailers since 2014:
In fact, the average operating margin across these five retailers has fallen from 4.1% in 2014 to just 2.7% in 2018, and we can expect further falls to come. In fact, looking at the retailers in this chart:
- Target has spent $10bn on capital expenditure since 2017, including its $550mn acquisition of delivery intermediary Shipt
- Walmart’s ecommerce losses are estimated to be $1bn and when asked why it was taking longer to achieve online profitability, CEO Doug McMillon told analysts in February 2019 that "We're pedalling fast trying to make that happen, and disappointed that it's taking as long as it is."
- Kroger is forecast to spend $3bn in 2019 on capital expenditure and admits “it is likely to grow in future years” as it rolls out automated distribution centers in partnership with Ocado
- While Carrefour and Auchan are exiting markets such as China (Carrefour), Vietnam and Italy (Auchan) as they look to refocus, restructure and reallocate investment.
So, what strategies can retailers use?
We are seeing several levers being used by omnichannel retailers as they look to build their digital capability and ecommerce offer while seeking to maintain profitability. These include the following:
- Leveraging stores for click and collect / online pick up: with Walmart leading the way as it makes store-based fulfilment central to its online proposition. Its online pick up service will be available at more than 3,000 stores in the US by the end of 2019, enabling it to reach 80% of the US population
- Partnerships with delivery intermediaries: an area which has seen explosive growth, pioneered by not only Walmart (which is now working with around 20 delivery partners), but also Carrefour which this year signed partnerships with Rappi in Brazil and with Glovo across four markets (France, Spain, Italy and Argentina)
- Outsourced digital capability: in areas like distribution capability, where Ocado has had great success partnering with retailers including Kroger, Casino, Coles, Sobeys and Morrisons. Although this does require a significant upfront payment, it provides quick entry into online grocery while leveraging Ocado’s world-beating technology
- Develop new profit streams: such as Walmart’s focus on monetising advertising spend or Kroger’s Precision Marketing solution, established by its 84.51° analytics and technology division to provide vendor partners data to drive sales
- Develop a more profitable 3P marketplace: which is exactly what Walmart and Target are looking to go – where the commission from sellers makes this a more profitable model than their first-party websites
The chart below shows some examples of the levers being used to drive profitability across these areas.
Partnerships will provide the key to profitability
Omnichannel retailers will need to increasingly partner with third parties in several areas to ensure they can compete and win in today’s ecommerce-driven landscape. Edge by Ascential has analysed the global partnerships between retailers and digital companies, which can be grouped into one of three types, ‘Strategic’, ‘Capability’ or ‘Distribution’”
- Strategic: i.e. formal partnerships and joint ventures to develop digital capability (e.g. Auchan and Alibaba)
- Capability: i.e. to jointly develop solutions in areas such as cloud computing, artificial intelligence and voice (e.g. Kroger and Microsoft)
- Distribution: i.e. partnerships in areas such as last-mile fulfilment and online distribution (e.g. Carrefour and Rappi)
As the diagram shows, many partnerships we have tracked are in the ‘Distribution’ category, with almost three times the number in other areas.
This in turn is dominated by last-mile delivery partnerships with digital intermediary platforms, such as Instacart, Glovo, Postmates or Uber Eats. These businesses provide retailers with a potential path to profitability by enabling them to outsource the complexity and cost of last-mile fulfilment, whilst providing consumers with easy and fast delivery – often in as little as 30 minutes.
Analysis of the number of partnerships by retailers since January 2018 (chart below) clearly shows how Walmart is leading the way, closely followed by Carrefour and Alibaba.
In a world of ecommerce disruption, where ecommerce is the number one growth engine, retailers will need to develop multiple partnerships as part of an agile ‘fail-fast’ and ‘test-and-learn’ mentality.
For CPGs, delivery partnerships are also becoming a key area of competitive advantage and businesses should look to get ahead now. This could include dedicated strategies and teams who can assess learnings and develop bespoke solutions, for both retail customers and with the delivery intermediary directly.
These partnerships won’t provide all the answers to the profitability challenge of ecommerce, but without them retailers will continue to see margins erode, will fail to innovate at the pace required and will simply find themselves overtaken by their faster moving competitors.
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