By Garrick Brown, Vice President of Retail Research, Americas
I know that in the last edition of the Newsline I promised you that I would be covering the issue of store closures next year (they will be going up) and dying malls. I promise you that I will tackle these next week.
But we just had to cover the Amazon/Whole Foods deal this week. We had to not just because this is the biggest story going… but also because so few are getting it right. I have already seen at least one “Grocery Apocalypse” headline and at least ten with the word ‘disruption” in the title. No doubt Amazon’s move will create disruption ahead… but probably not in the way that most people think. Urban grocers, should you be worried? Yeah, at least a little bit. Two years ago our resident eCommerce expert Ben Conwell and I started saying that existing urban grocers had an advantage over Amazon—they already had space. All they needed to do was create their eGrocery platforms. If you listened to us, you probably don’t have to worry that much. If you didn’t (and most didn’t), you might have a problem ahead. Once Amazon/Whole Foods full frontal assault on this space begins, I have no doubt that there will be at least a few grocery banners that go away.
But landlords who read the news of Amazon’s acquisition should have been breathing a giant sigh of relief. And yet most coverage has ignored this… What happened last week was that Amazon essentially tipped its hand…their eGrocery ramp-up is not going to be in industrial space folks. It is going to be in retail bricks-and-mortar!
The eGrocery Onslaught?
On Friday, June 16, 2017, Amazon sent shock waves through the grocery world when it announced that it was acquiring Whole Foods for a whopping $13.7 billion. Stock prices tumbled for Wal-Mart, Kroger, Costco and others as the marketplace reacted with concerns that the same kind of Amazon-fueled disruption that has led to sharp contraction in other retail categories would finally be hitting the, until now, relatively eCommerce resistant grocery sector. For Amazon the deal reflects its largest acquisition ever. Though Amazon has acquired nearly 80 other companies since its founding in 1997, the eCommerce giant has typically pursued smaller deals involving complementary companies in the tech arena like video game streaming site Twitch, audiobook service Audible, entertainment information provider IMDB or others. In fact, Amazon’s previous largest acquisition to date had been their 2009 purchase of pure play online shoe retailer Zappos.com for roughly $1.2 billion. Of course, the Whole Foods purchase (which is expected to close over the final half of 2017) not only dwarves that total in terms of deal size, but in terms of potential impact on the marketplace. And that is what has sent markets into a frenzy.
With Amazon leading the way, overall eCommerce sales have accelerated at an aggressive pace for nearly every major retail category over the last few years. Since 2010, overall retail sales in the United States have grown annually in the 2% to 3% range. Meanwhile, overall eCommerce sales consistently increased during this same period in the 15% range each year. It is no secret that as his has occurred, the same pattern of disruption has followed; as eCommerce market share has climbed in one retail category after another, so too have bankruptcies from failing bricks-and-mortar players within those categories and heightened levels of strategic closures from other retailers in that space.
The latest category to feel the pain has been apparel/accessories. In 2012, total US apparel sales approached $210 billion, with eCommerce accounting for $31.8 billion, or 15.2% of all sales. Amazon has been aggressively ramping up its apparel offerings for the past couple of years. As of the close of 2016, total US apparel sales were just under $226 billion. Accounting for just over $60 billion in total sales, overall eCommerce share stood at 26.7%. Amazon’s growth in the apparel marketplace has taken it from a 6.7% market share in 2015 to a likely 11.0% share by the close of this year. In fact, Amazon should overtake Macy’s sometime in 2017 to become the largest apparel retailer in the United States (their apparel business reached $16.3 billion in 2016, compared to Macy’s $22.2 billion, and is expected to approach $28 billion in 2017). Just four years ago, Macy’s apparel sales were five times greater than Amazon’s.
Of course, this coupled with the rise of race-to-the-bottom discounting and an over-retailed landscape to begin with, has served as the catalyst for the ongoing spike in apparel and department store closures and bankruptcies that is being referred to hyperbolically by the media as “the retail apocalypse.”
All told, the market could see as many as 9,000 major chain closures in 2017, an increase of 125% over last year. We anticipate that those numbers will grow further in 2018 to as many as 13,000 major chain closures thanks to the extremely strong likelihood of at least a couple of major retailer bankruptcies and a probable surge in strategic closures.
Against this backdrop, the grocery world has stood out as being one of the few retail categories where eCommerce disruption has been minimal, at best. Grocery, if not viewed as eCommerce “proof,” has at least been considered eCommerce resistant. Total online grocery market share in the United States stood at just 1.4% as of the close of last year, or just under $8 billion of the total $989 billion of food and drug retail sales posted nationally in 2016. If you narrow that to just groceries alone, the number is in the 4% range. Regardless, with that much room for growth, many landlords, investors, developers and market watchers were already openly wondering if the grocery industry would be next to feel the full weight of disruption from Amazon. And, if this were to be the case, what exactly would the full weight of that disruption be? And what would its impact be on commercial real estate?
And so it should come as little surprise that the June 16th announcement of Amazon’s planned acquisition of Whole Foods has sent shock waves throughout both the grocery and commercial real estate worlds. Market players and market watchers alike have responded with varying levels of concern as both gird themselves for yet another wave of retail disruption to play out across the marketplace. Many analysts and publications are already proclaiming that grocery will be the next proverbial “shoe to drop” at a time in which it seems that bricks-and-mortar retail is being challenged on virtually all fronts. Yet is this really the case?
We have known that Amazon was planning on ramping up its eGrocery efforts for some time now. Over the past couple of years Amazon has continued to roll out Amazon Fresh. It has expanded into new markets. It has continued to add grocery distribution hubs and spokes to its massive distribution network. And in April 2017, Amazon even launched a new cashier-less convenience store concept in Seattle (Amazon Go) that may or may not be a central part of Mr. Bezos’ urban eGrocery rollout strategy. For certain, it demonstrates Amazon’s practice of piloting multiple new technology platforms to make last mile easier, cheaper and faster. Clearly the acquisition of 461 Whole Foods stores by the nation’s fastest growing and deepest pocketed retailer has major implications for the grocery marketplace. But does the deal actually fundamentally change any of the inherent challenges that have kept eCommerce penetration of the grocery market to a minimum so far?
To answer these questions and more, we turn to two of our resident experts on the topic of eCommerce and bricks-and-mortar retail, Ben Conwell and Garrick Brown.
Ben Conwell is Senior Managing Director and Practice Leader for Cushman & Wakefield’s eCommerce and Electronic Fulfillment Specialty Practice Group for the Americas. His responsibilities include counsel on strategy, site selection, design and execution for leading retail and logistics occupiers and investors, intellectual property presentation and business development. He is a Senior Certified Supply Chain Professional and a member of the Council of Supply Chain Management Professionals. Ben writes and speaks nationally on eCommerce, last mile and associated impacts on retailing, fulfillment, real estate development and investment. Prior to joining Cushman & Wakefield in 2015, Ben was Director of North America Logistics Real Estate for Amazon Fulfillment Services, the logistics and operations subsidiary of Amazon.com. His wealth of experience from the occupier perspective comes from having led the largest and fastest expansion of network capacity in Amazon’s history, doubling the size of the logistics footprint.
Garrick Brown is one of the leading retail real estate analysts in the United States; he speaks frequently at industry events and is regularly quoted on retail matters by the Wall Street Journal, NBC News, National Public Radio, Women’s Wear Daily and dozens of Business Journals and other industry publications. He is the editor of the Cushman & Wakefield Retail Newsline, a popular publication that reaches approximately 30,000 real estate professionals weekly. Garrick manages Cushman & Wakefield’s staff of retail researchers and is responsible for producing the firm’s retail analyses and forecasts for the United States, Canada and Latin America. He also produces a number of Cushman & Wakefield’s national publications focusing on the retail and investment markets and frequently authors white papers on prescient commercial real estate topics. He speaks frequently on retail topics at industry events and has served as keynote speaker at symposiums, conferences and market forecasting events for groups like the Appraisal Institute, BOMA, the CCIM Institute, CREW, the International Council of Shopping Centers (ICSC), Lambda Alpha International, NAIOP, the Professional Retail Store Maintenance Association (PRSM), SIOR and the Urban Land Institute (ULI).
Brown: Ben, you called this one. In the May edition of your regular publication, the eCommerce Reader—released about a week prior to this news—you tackled the topic of M&A activity and stated the following, “As it moves towards a larger physical store presence and to complement its Fresh offering, it has been speculated that Amazon is interested in acquiring a major grocery player, such as Whole Foods. While other potential acquirers have been rumored to be interested as well, we do not think it’s out of the question Amazon may make a bold move that would accelerate its physical store and Fresh rollouts.
Is Amazon done in the online retail M&A game and instead focusing exclusively on growing its next gen offerings internally? Don’t bet on it.”
Conwell: The deal makes a lot of sense and really should not come as much of a surprise, though it was rumored that Amazon took a hard look at acquiring Whole Foods last year but elected not to move forward at that time.
Regardless, I think it ties in to what we have both been saying over the last couple of years, which is that the big breakthroughs in grocery logistics and delivery would be primarily through existing retail store platforms.
Brown: Though they aren’t doing it and the tone in media coverage has been one of gloom, I think some landlords should be breathing a huge sigh of relief right now.
Conwell: I would agree. Amazon didn’t go out and lease, build or rehab millions of square feet of industrial space in order to ramp up its grocery delivery platform. It bought existing retail assets and it did so because the final mile delivery issues for grocery are radically different than those for other retail goods.
Brown: Yes, I am not sure that many who are expecting eGroceries to eventually wreak the same level of havoc in the bricks-and-mortar grocery space as eCommerce has in other retail categories fully understand the importance of final mile delivery costs in the grocery space.
Grocery margins are already razor thin and it is critical that anyone operating in this space finds ways to keep final mile delivery costs low. This is why eGroceries have been almost an exclusively urban phenomena.
Conwell: Agreed. Right now final mile delivery costs are the greatest determinant of success for any eGrocery platform. Last year, over 52% of all online grocery sales in the United States came from just eight states. More specifically, they came from dense urban markets within those states; New York City, San Francisco, Chicago, Philadelphia, Miami… We have still yet to see any large scale successes in the eGrocery space when it comes to sprawl markets or more sparsely populated areas. To succeed, operators must be able to deliver from sites that are close to the consumer. And delivering online orders of perishables, especially fruits and vegetables is unbelievably difficult. Doing it successfully is what I call the Holy Grail of fulfillment.
Brown: And that means population density is at the heart of everything eGrocery regardless of all of the other implications of this deal. And that means urban, or the densest suburban sites were going to be where Amazon was going to have to make some moves to ramp up Amazon Fresh… not exactly places where you could find a lot of existing distribution centers on the market, much less modern ones outfitted with freezer and cooler space.
Conwell: Right. I think it is safe to say that, until this deal was announced, existing urban grocers had a clear advantage over Amazon in this space in that they already had locations and store infrastructure for freezer and cooler space as well as labor.
Brown: And yet we saw little in the way of eGrocery expansion from the lion’s share of active urban grocers over the past couple of years at a time in which they had an advantage over Amazon. They already had locations and boots on the ground.
Conwell: One can’t help but feel that many were just waiting to see what Amazon would do, but clearly now there is immense pressure on chains like Safeway, Albertson’s, Kroger and others to respond.
Brown: Because what Amazon has essentially done in the Whole Foods deal is purchase roughly 460 distribution centers. We crunched the numbers over the weekend and while only about 30% of these stores would be within what we would call traditional CBD areas, the reality is that nearly every single location is situated in either a dense urban or suburban environment. Typically none of the stores in Whole Foods’ portfolio are in areas where there are less than 200,000 people within a ten-mile radius.
Conwell: The addition of a suburban footprint is good for Amazon but the real impact is with Amazon gaining a significant urban footprint with Whole Foods. This has an even more strategic value for Amazon. This move gives Amazon an instant physical presence in hundreds of markets with excellent complementing demographics.
And we can’t overlook one of the more intriguing indirect details: this gives Amazon a stake in Instacart – still one more opportunity for Amazon to learn from/leverage technologies and processes for last mile delivery. Instacart surely didn’t see this coming when it expanded its relationship with Whole Foods 18 months ago to include Whole Foods taking an equity position. I find this both intriguing and ironic.
Brown: The issue of complementary demographics is something that I find very intriguing about this deal. I see there being great synergies between the Amazon and Whole Foods customer and I see that overlap only strengthening when it comes to the target audience that Whole Foods 365 was chasing with its initial rollout, before Whole Foods put the brakes on growth earlier this year.
Conwell: There is also an intriguing overlap of customer profiles with similar demographics. The Whole Foods customer and the Amazon base customer are similar. Recent metrics suggest, the Amazon customer isn’t shopping Amazon Fresh at anywhere near it is shopping other Amazon offerings. That customer is likely to do their grocery shopping at organic, boutique retailers like Whole Foods than Amazon Fresh, still another reason why this is such an attractive deal.
Ultimately, this is a tremendous shot in the arm for Amazon’s efforts to finally find a way to run its Fresh and nascent retail store offerings profitably. Growing its offerings organically poses too many challenges for Amazon to get to meaningful scale in the grocery space; a significant acquisition such as this is necessary to (paraphrasing an early Bezos motto), “Get bigger fast.”
Brown: Ben, I think that last point is key. This is just the beginning. I think it is safe to say that Amazon is likely to continue to ramp up its grocery presence in both the online and bricks-and-mortar world and to do so with a wide variety of formats. I also still think that Amazon’s small format convenience store concept Amazon Go is going to be a part of Mr. Bezos’ acceleration of efforts into the grocery space. We should expect to see Amazon infusing Whole Foods stores with some of its super-innovative technologies, some of which will come from the Amazon Go pilot.
Conwell: While not perfect, the Whole Foods supply chain infrastructure is a hugely valuable asset. And nobody is better suited and capable of taking the existing Whole Food supply chain infrastructure and making it much more efficient than Amazon is. As with the stores, we can expect to see Amazon transfer significant technology, processes and lessons learned from its world class logistics operation to legacy Whole Foods distribution centers. There is great opportunity for improvement there. The status quo is only the start here.
I think it safe to say that Amazon’s strategy will continue to evolve and is likely to play out across a mix of formats. At this point you certainly can’t even rule out additional acquisitions by Amazon in the months ahead and some of those may not be what anyone expects.
Brown: I definitely continue to hear investors speculate about the possibility of a purchase of Uber or Lyft, which could have huge implications in terms of final mile.
Conwell: It is fun to theorize where Amazon will place the next big bets. The Amazon/Whole Foods deal is the biggest example of the very active M&A deal flow that we have continued to see in the online retail and logistics industry over the past couple of years. This trend is far from over.
We are going to continue to see M&A activity being a significant factor in this space as players expand brand reach pursue exit events for select operators and seek scale and economies in logistics to move forward in launching eGrocery platforms. Amazon could make additional moves and when you are dealing with Amazon you are dealing with a company that is willing to think way outside of the box and one that is willing to take some chances. And a company that is built on long-term thinking and customer obsession.
That said, I think it is even safer to say that there is now immense pressure on traditional grocers to make some sort of move into this space…
Brown: Agreed. I would be shocked if we didn’t see a move from Kroger, Safeway, Albertson’s or even some of the bigger and more successful regional grocery players like Publix or HEB into the egrocery space and with Wall Street pressure mounting on the publicly traded players, I would have to assume that M&A activity would be the most likely way this plays out.
I wouldn’t be surprised if we might not even see one of the recipe delivery services like HelloFresh or Blue Apron being acquired by one of the traditional grocery chains as part of an eGrocery ramp up. Blue Apron’s filing for an IPO is one exit strategy, but it isn’t the only option.
Conwell: Stranger things have happened.
Brown: So, Ben, from an eCommerce and logistics point of view, ultimately how do you see this deal playing out in the long-term in terms of impact on the overall marketplace and the level of disruption that it will create in the bricks-and-mortar world?
Conwell: This deal pours fuel on Amazon’s already hot growth fires. I don’t see it having a significant disruption to logistics and retail grocery real estate. Amazon will use and improve the Whole Foods distribution assets. Similarly, the Krogers and HEBs of the world are not going away. The tie-up ups the ante for other grocers to perform and that will mean better utilization of retail assets for last mile. Retail and logistics real estate should see some net positive impact, if any over the near-term.
Brown: My take is this; this move will create a massive amount of disruption in the grocery industry but not for the reasons one might think.
I have no doubt that eGrocery growth will be ramping up in the immediate future. Most of the think-tanks and analysis firms out there had been forecasting annual growth in the 10% range for the foreseeable future for eGroceries. I suspect the actual growth numbers will end up coming in closer to the 15% range—most likely by 2018 or 2019 as Amazon really starts to ramp up. I think that eGroceries will have an impact on urban and dense suburban marketplaces, but I am still not sold on anyone successfully being able to tackle the issues of final mile when it comes to most suburban markets—though Amazon would be the one player who might be able to make this work thanks to their scale, massive infrastructure and the enormous head start they have. But rural or small town eGroceries? I’ll believe it when I see it.
Where I see the greatest disruption ahead is essentially the emergence of an extremely deep-pocketed grocery player that will likely soon be on an aggressive growth campaign in the bricks-and-mortar space. And because Amazon has always behaved more like a start-up than a traditional grocer—more likely to put profits back into the business than to pay dividends to investors—I suspect they will be able to operate Whole Foods at a more competitive price point and with even lower margins than their competitors.
Do I see them driving some competitors out of business in the near future? Yes, less due to the acceleration of eGroceries than due to the rise of what will essentially be a new bricks-and-mortar player with seemingly unlimited resources, the ability to undercut competition and a desire for aggressive growth. If you are a grocer, this should keep you up at night. If you are a retail landlord, not so much… in the future, the e Grocery supply chain will be inclusive of bricks-and-mortar retail space.
Conwell: Well, the great people over at L2 just did a piece on the sale that is definitely worth checking out. They do a lot of great and compelling work and Scott Galloway predicted this purchase as well. What they found was that throughout the United States, 49% of Whole Foods stores are in markets already served by Amazon Fresh, including California, New York and a number of others. But Whole Foods is also located in 32 states where Amazon has not yet established a grocery presence. They found that the acquisition gives Amazon entry to 239 incremental markets, in addition to expanding coverage areas already served by Amazon Fresh.
Brown: My point to this is that Amazon is sure to ramp up across the board moving forward, and I think they will do it both by employing rapid growth of Whole Foods and the Amazon Go concept and perhaps a few others as well. But at the end of the day, that final mile distribution chain is going to most likely be in the form of bricks-and-mortar locations serving as final fulfillment hubs… there may be some pure industrial plays, but that the lion’s share will be in the form of retail space. I think this is going to result in a surge of bricks-and-mortar grocery growth fueled by Amazon and that the only question is on what timetable? Remember that the giants Amazon has decided to take on here are mostly players with thousands of stores and Amazon/Whole Foods will be starting with just under 500. Kroger, for example, has nearly 3,000 bricks-and-mortar locations. Albertson’s/Safeway has 2,300 give or take. Ahold/Delhaize has about 2,000. To compete, will we see aggressive growth ahead from Amazon/Whole Foods? Could we be talking about hundreds of new bricks-and-mortar Whole Foods, Whole Foods 365, Amazon Go and perhaps some other concepts in the not too distant future? I believe so.
I also think that while much of the media coverage may be about the implications of this deal for mass market retailers in the grocery space like Target and Walmart, I think that the real challenges this will create will be for the grocers in the middle. No doubt there will be plenty of disruption ahead, but I think anyone expecting it to play out in eGroceries the same way that it played out for other retail categories is mistaken—at least from the real estate perspective. eCommerce was a boom for industrial properties at the direct expense of bricks-and-mortar retail. The eGrocery onslaught just might turn out to be a boon for bricks-and-mortar retail properties.
Conwell: I can’t wait to see what tomorrow brings.
Brown: Agreed. There are fascinating times.
By the way, here are some links you might find useful…
Check out our new report on the Craft Brewing trend and its impact on retail and industrial real estate. Click here to check out The Craft Brewing Revolution and our latest Cool Streets video. In this episode I tour Cincinnati… a town where craft brew rules and has also been a driving force in urban renewal—especially in the super cool Over-the-Rhine neighborhood.
Cushman & Wakefield’s Q4 2016 USA National Shopping Center Report.
Our Bricks vs. Clicks Webcast Series Part I and II explores the impact of the 2016 holiday shopping season and eCommerce on supply chain and bricks-and-mortar retail. Bricks vs. Clicks reviews and further analyzes relevant data points, shopping trends and effects on the industry and its consumers in 2017.
Our Main Streets across the World Report tracks high street retail around the world and breaks out the globe’s premier shopping districts by continent and average asking rent.
Cool Streets of North America Report and accompanying video series.