Could Kroger and Ocado disrupt ecommerce in the US?

Date : 19 April 2021

Maxime Delacour

Senior Retail Analyst

This month Kroger officially launched its new grocery delivery service via its first Customer Fulfillment Centre (CFC) powered by Ocado. With this new automated warehouse, Kroger has taken a different approach compared to most other major retailers in the US. But can this unique strategy enable Kroger to win in the competitive online channel?

The Kroger and Ocado fulfilment model

Back in May 2018, Kroger and Ocado formed an exclusive partnership to introduce in the US the Ocado technology and automated fulfilment model. The first CFC finally opened in Monroe, Ohio in this month, the first of 11 announced locations, and 20 planned overall.

The model is a combination of automated picking powered by robots and human picking to consolidate the orders. The robots retrieve the products among the 28,000 available and bring these to the picking stations where staff will prepare the orders. Each step of the process is carefully monitored and optimised to ensure maximum efficiency.

Source: Kroger

Once prepared, orders are directly loaded into the delivery trucks able to hold up to 20 orders. The drivers will deliver the orders in a radius of up to 90 miles from the CFC. Machine learning algorithms dynamically optimise the delivery routes including the consideration of factors like road conditions and optimal fuel efficiency.

Source: Kroger

How does it differ with other retailers’ ecommerce operations  

Kroger is currently the only major US grocery retailer that decided to heavily invest in large automated CFC. The others, including Walmart, Ahold Delhaize and Albertsons are focusing on lower-cost solutions such as, micro fulfillment centres. The Ocado technology is expensive, the first CFC cost around $50 m when a micro-fulfiment centre attached to a store will be c. $3-5m. However, according to Kroger one of its CFCs will have the sales potential of 20 physical stores and will also have the benefit to not cause any disruption to store operations, unlike in-store picking.

Source: Kroger

Through its CFC, Kroger targets home delivery when most retailers tend to focus on pick-up to avoid the high costs related to the last mile. Home delivery also means delivery fees, which in the case of Kroger are priced at $9.95, when pickup services are sometime free or offered at lower cost. In addition, several retailers including Walmart and Amazon offer unlimited free delivery via their membership models. The Ocado technology that prepares order with an impressive 99% accuracy rate, enabling Kroger to provide a high level of service to its shoppers and justify the delivery costs.

What about profitability?

Automated fulfillment centres are currently one of the only ecommerce models being profitable, thanks to their scale and level of automation, but there is a caveat. An automated CFC is likely to become profitable only if it serves a very densely populated area. Ocado has also been able to charge higher delivery fees since the pandemic due to the unique levels of demand.

In England (not the entire UK) where Ocado operates most its deliveries (to affluent shopper enabling it to achieve high average order size) and where it is now profitable, the population density is 432 per sq m, one of the highest in Europe. If we look at Ohio, it’s roughly four times less densely populated at 109 per sq m. So even if the picking and delivery methods become more efficient, Kroger will still need to ensure its delivery service has a high penetration in the large cities where it will operate.

IGD Retail Analysis subscribers can access our series of four reports on Online profitability here.

So, can Kroger and Ocado disrupt ecommerce in the US?

The size of grocery ecommerce in the US is estimated at $67bn in 2020, of which Kroger currently represents $10bn. Ecommerce is forecast to be the fastest growing grocery channel to 2022 adding an extra $15bn. As this is a channel of growth for the future and its paramount for retailers to invest in their online capabilities to seize the most of this opportunity.

Kroger’s decision to partner with Ocado to accelerate its digital transformation is aligned with market trends and the evolution of shoppers’ behaviour. This partnership will give a strong point of differentiation for Kroger in terms of scale and accuracy of service compared to its direct competitors. In addition, the Ocado Smart Platform also enables in-store picking enabling Kroger to offer more rapid delivery services.

Finally, it could be worth considering the pace of evolution of online and technology. Each CFC can take up to two years to build, while Kroger estimates it will take around three years for it to achieve the same level of margins as its physical stores. This is a long-time to wait for, especially in a channel where things are evolving at a fast pace. To succeed and play a disruptive role within the ecommerce channel, it will be paramount for Kroger to take an agile and flexible approach including investing in other online capabilities.

This partnership between Kroger and Ocado might not disrupt the ecommerce market in the US but it will contribute to its growth. It will also encourage most retailers to improve their level of service and evolve towards more automated services.

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