How Micro-Fulfillment Can Resolve Online Grocery Retailers’ Cost Margin Crisis

Major grocery brands face an existential threat: with the rise of online shopping, many have struggled to properly adapt.

Instead, they have assembled shockingly unsustainable fulfilment systems, which are quickly turning their already-thin margins negative.

The problem is simple: consumers increasingly prefer on-demand fulfillment, and this requires a level of supply chain agility few retailers can currently achieve whilst remaining cost-effective. Combine this with rising labor costs and growing market competitiveness, and you get accountants around the country working overtime to justify their business’s out of control expenses.

To remain competitive, retailers must meet customer’s demand for world-class service and convenience. But they must also find new ways to reduce the cost of such high-speed fulfilment, in order to remain profitable.

The most effective way of doing this is to use micro-fulfilment centers – small, automated facilities that are housed within existing stores or other real estate assets. By shrinking the last mile and fulfilling orders in a faster, more cost-effective way, they can help grocers claw back a competitive advantage and thrive in the age of e-commerce.

Shrinking Margins

Grocers have always operated on low margins – according to FMI, the average profit after tax is just 1%. This means extremely high volumes of trade are required simply to turn a respectable profit, and businesses are unusually vulnerable to unexpected fluctuations in consumer demand.

These weaknesses have been exacerbated by e-commerce, which shrinks margins even further. In a traditional retail setting, the customer incurs the cost of travelling to the store and transporting their goods home; with online orders, this is not so.

Instead, grocers are expected to co-ordinate and fulfil the delivery of every order – all at surprisingly great cost. According to Jeffries, if a business pays an employee to fulfil online grocery orders, their net loss per order amounts to between $5 and $15; we explore the complex reasons for this in our grocery report, published here.

Confronted with such losses, retailers have a few options:

  • Accept the losses, and hope things get better. This is a popular approach, not least because it doesn’t require decisive action. But the reality is these trends – the increase in online grocery shopping, the demand for faster fulfilment – are only going to grow in a post-pandemic world.
  • Outsource fulfilment to a third-party, such as Instacart. This is a short-term solution, however, and it risks reducing the grocer’s control over customer relations and quality control, as well as limiting their access to vital data. It also keeps them from meaningfully adapting, and many businesses who take this route end up stifling their own growth.
  • Attempt to reduce online orders, hoping their traditional bricks-and-mortar approach can survive the digital upheaval. As competitors like Amazon and Walmart adapt to the online economy, however, this will become less and less tenable, ultimately resulting in a radical loss of market share.

Most major retailers fall into one of these three categories, but it should be clear by now that such approaches are inadequate. Instead, retailers need to proactively adapt their fulfilment model to meet demand, investing in technology that enables them to lower costs by reducing human labor and fulfil online orders profitably.

This is where automation comes in.

The Challenges of Automation

Automation is everywhere: in 2021, it is projected to generate $214 billion worldwide. With its promise of extremely cost-effective labor replacement, some grocers have rightly seized on it as a potential solution to their cost margin crisis.

Unfortunately, most have taken the wrong approach with automation, implementing it within large, centralized warehouses under the assumption that simply replacing human labor with machines will make their fulfilment more cost-efficient and scalable.

The problem is these facilities are generally located too far away from customers, meaning they physically cannot fulfil orders fast enough: few can handle the popular two-hour delivery windows some major competitors offer, and many can’t even manage same-day deliveries.

Worse still, building these regional automated warehouses is a slow, expensive process, costing tens of millions of dollars and taking a number of years to complete. The challenge most retailers face is too urgent to wait so long for a solution, and the current rate of innovation means many will find their warehouses already outdated by the time they’re up and running.

As a fulfilment method, automation is unquestionably the right direction for retailers. But it must be implemented at the right location and with a far great level of in-built agility – and this is only possible with micro-fulfilment centers.

How Micro-Fulfilment Combines Speed and Profitability

The reality is, if online grocers cannot provide the service customers expect, it doesn’t matter whether a new fulfilment model increases their margins – they won’t make enough sales to capitalize on it.

This is why micro-fulfilment centers are so powerful: they combine all the cost-efficiency of centralized automation whilst enabling faster, more dynamic delivery. They can be deployed in existing real estate assets that grocers have already carefully chosen due to their proximity to their customers, so that deliveries can be made more quickly and at a lower cost.

They also present a far more immediate solution: micro-fulfillment centers can be built within 100 days, and at a fraction of the cost of a large, regional fulfillment center. This holds retailers in good stead for the future, enabling them to be more proactive in their response to future innovation or changes in the market.

Ultimately, micro-fulfilment centers are vital for grocers to truly make use of the opportunities this explosion in e-commerce presents. And that fact is borne out in the data: according to a P&L from Jeffries, micro-fulfillment produces the highest margins of any type of grocery operation – a staggering 12-16%.

We explore this fact, and what it means for the future of online grocery, in our report. You can download it here – we’d love to know what you think about these fascinating shifts in the e-commerce landscape.