Natural Foods Merchandiser

Online Grocery Concept Freshens Up

Peapod Inc., once left for dead amid the ruins of other online grocery retailers, now is turning a profit in four of its five markets. Likewise, FreshDirect, a Web-only food retailer, is uploading customers at high speeds. Peapod says organic products are its fastest-growing category, and FreshDirect plans to open an organic section this month. Should traditional naturals and organics retailers be worried about competition from the virtual world?

Forrester Research predicts that 2003 online retail sales of food and beverages will climb more than 40 percent from last year, to $3.7 billion, even as conventional retail sales languish. Already, the average Internet order is $125 versus $73 at grocery stores. "Broadband [Internet access] is becoming more widespread, so it's easier to shop, and there are more women on the Internet," explains Annette McMillan, spokeswoman for Peapod.

On the other hand, naturals customers generally like brick-and-mortar stores. "Our stores are so experiential," says Sonja Tuitele, spokeswoman for Wild Oats Markets Inc., based in Boulder, Colo. The online concept is intriguing, Tuitele allows. But it didn't work when a handful of companies—including Wild Oats—tried it in the 1990s. She doubts that the next generation of online grocers will take a significant bite from naturals stores' share of the pie. "I don't know what they're doing differently now," she says.

One difference: Most are now affiliated with brick-and-mortar stores. Albertsons and Safeway—the No. 2 and No. 3 U.S. grocery chains, respectively—each offer an online service that looks a lot like the delivery your grandma's neighborhood grocer offered—but with a high-tech twist. Instead of phoning in their order, consumers log onto the Web, click on the items they need, specify the time they'd like their order delivered, and for a $5-$10 fee, it comes straight from the local store to their door—albeit by van, not bicycle.

Peapod originally fulfilled orders using local stores from chains in each market. In 2001, Dutch food giant Royal Ahold, which owns Giant Food and Stop & Shop stores, purchased Peapod, giving the online retailer access to existing warehouses, just as major competitor Webvan collapsed under the cost of its infrastructure. "Through Ahold we've been able to get better transportation costs, better costs of goods," says McMillan. "They've helped us refine our category mix," which varies with each market. The company is growing 25 percent annually.

One company, however, is thriving without a physical affiliate. FreshDirect buys food straight from the producers. The absence of middlemen keeps costs down. "You slaughter it, you pull it from the ground, you take it from the sea, you're the only people I deal with," says Chief Executive Officer Joe Fedele, who began the company last year. Fedele was also a co-founder of New York City's gourmet Fairway store.

The company fulfills customized orders from a 300,000-square-foot, climate-controlled warehouse in Long Island City, N.Y. "It keeps food in its pristine condition," says John Boris, vice president of marketing for the e-tailer. Making just-in-time deliveries to its 85,000 customers in a few select New York City neighborhoods, FreshDirect saves on the cost of retail space. And, says Boris, "in terms of economies of scale, we're doing 3,000 orders a day."

"We're about food. We're not about delivery as a convenience."
Wild Oats' Tuitele doubts whether the model would work in other cities. "In New York [an online service] is great," she says, "because nobody has a car, and everybody works long hours." But, says Fedele, FreshDirect is largely misunderstood. "We're about food. We're not about delivery as a convenience."

Fedele brings in highly skilled managers who understand the micromanagement that perishables require and can scale it accordingly. "The end product is, the consumer gets a better product at a better price. That's the [benefit] of this service, not convenience."

The challenges aren't stopping online retail sales giant from getting into the game—it will begin selling gourmet foods such as smoked salmon later this year. Frieda's, the specialty produce retailer in Los Alamitos, Calif., said it will begin delivery to the East Coast and the Midwest, guaranteeing next-day delivery.

Still, online grocers have never gained the popularity of multiproduct Web site, which also sells on pricing. The reason? Consumers believe they must squeeze the produce, poke the meat and smell the fish. "That's the biggest hurdle," McMillan says. "[But] that's our cornerstone." That's possible because, as with FreshDirect, the food comes directly to Peapod. "We never break the cold chain. We keep it at whatever the best temperature is for that product. And our stuff is not picked over."

"Natural foods products are harder to get in some communities."
Store-bought produce is fresh and squeezable. What, then, is the appeal of buying groceries online? "Natural foods products are harder to get in some communities," says Ken Burke, president and chief executive of Multimedia Live, an e-commerce consulting company in Petaluma, Calif. Natural products customers are willing to pay higher prices for products they believe in. Beyond that, says Burke, are the marketing tools inherent to the Internet: e-mail reminders, database marketing and education opportunities.

Burke cautions that naturals retailers should focus on nonperishables; otherwise, the cost of delivery is substantial. That's the major reason Wild Oats isn't getting into the game. "With our percentage of perishables being close to 60 percent, it doesn't work for us," says Tuitele. The investments in technology, delivery trucks, staff and other infrastructure make it impractical, she says. "We would have to make that almost a separate business."

Merchants who do local delivery must have an established "brand" in the community, Burke says. "If they work their site and merchandise their [products], they will have a loyal following no matter where they are."

If you opt for national distribution, let FedEx or UPS handle the delivery, and run your site basically as a mail-order operation. "[Retailers] already have 80 percent of the infrastructure," says Burke. "They have the phone, the credit card clearing [system], the warehouse or fulfillment center, which is their physical store." Burke recommends that newbies use an e-commerce hub like Yahoo! Store. "It's a very inexpensive way to get started."

Nearly everyone agrees that backing online presence with a physical store is important. Says McMillan: "When everyone [in online grocery retailing] went out of business, we had a brick-and-mortar, and that's how we survived."

Natural Foods Merchandiser volume XXIV/number 8/p. 30, 33

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