Online grocery business can work if done right, says industry veteran

Despite recent Census Bureau research indicating online sales of food and beverages represent just 2 percent of total U.S. e-commerce sales, a veteran of the dot-com boom says making money selling groceries online from distribution centers is feasible -- if retailers don't try to charge delivery fees.

Back in the late 1990s, was ringing up more than $1 million a day in e-commerce sales of groceries. It was one of the fastest-growing dot-coms, hitting $400 million in sales by 2000 and employing 2,400 workers in eight markets when it merged with Webvan only to fail soon after. "Expanding fast was the only way you could raise money," explained co-founder Terry Drayton in an exclusive interview with Retail Leader. "We got a lot of it [right], but we didn't have time to get it all right," said Drayton, who was also the company's president and chief executive officer and has been involved in other struggling startups. He is currently co-founder and managing member at Votocracy LLC, provider of a social media app and community for politics, and an adviser to Mile High Organics and other online grocery companies.

After several rounds of venture capital and an initial public offering that raised more than $200 million, needed more capital to support its aggressive plans to open a new warehouse facility each month with each supporting about 250 workers, Drayton said. A sale to Webvan would give the company the capital it needed, or so thought.

When Webvan bought the company in 2000, Drayton exited. Unfortunately, the merger wasn't successful. "They burned through $700 million in the space of 10 months," he said. "You almost have to light it on fire" to go through money that quickly. The failure put a damper on other online grocery retailers' ability to attract investment dollars for years.

In the following Q & A, Drayton provides a candid look at the opportunities and challenges facing online grocery retailers today. Drayton's comments have been edited for clarity.

Q. What are the opportunities and challenges that grocery retailers face in e-commerce?

The opportunity is huge as grocery is a $600 billion [business], and home delivery of groceries has been around for 100-plus years. Becoming a profitable, billion-dollar retailer in seven years on a $100 million investment is completely realistic. The challenge is the logistical complexity, which is why it takes that amount of capital and time to solve it. Two companies (FreshDirect in Manhattan and Ocado in the U.K.) have created profitable, half-billion-dollar businesses in the space, with both investing hundreds of millions of dollars and each taking a decade to make them work. That’s not for the faint of heart or quick-buck financial engineers.

Q. Why is it taking so long for food and beverage e-commerce to catch on?

A. Some of the factors include a poor value proposition for consumers who are smart and won’t pay more for e-commerce than they do for their current alternatives, and poor execution, which is mainly the result of trying to add e-commerce onto existing models (i.e., supermarket delivery) instead of purpose-built facilities. Most offerings require a delivery fee, which experience shows is a fatal flaw. And they focus on the wrong customers (tech-savvy) instead of the ones who buy all the groceries (soccer moms). Delivering 100 percent of what’s ordered is critical, which is impossible in a store-pick model. Other factors include poor produce and perishable quality, which is the signature item for consumers, and incomplete product offering, which results in small order size. FreshDirect and Ocado built infrastructure that is perfectly suited for Manhattan and London but doesn’t transfer to other markets.

Q. What has changed since the first dot-com companies entered the space?

A. Off-the-shelf technology is now available for a fraction of the cost. Acceptance of e-commerce is now mainstream, and email marketing, search-engine marketing, Facebook ads and Groupon make it way easier to generate trial to attract and retain customers. Smartphones and apps are huge, especially for product bar-code scanning. Webvan’s implosion, however, plus the $100 million-plus capital and seven- to 10-year realistic timeline, has made raising the capital to do this nearly impossible.

Q. What mistakes should they avoid making?

A. Avoid trying yet another store-pick model (e.g, Albertsons, Safeway) or limited-selection model (Amazon Fresh). At best this approach generates a money-losing $45 order once every six weeks.

Q. What's the long-term outlook for the food and beverage e-commerce sector?

A. It will eventually evolve, and portions will move online where a compelling value proposition is offered.

Watch for a in-depth report on e-commerce in the upcoming July/August issue of Retail Leader magazine.