Retail Industry Insights: Same Day Delivery Explained

I’ve decided to start an “industry insights” series to help us all learn more about what’s going on in the business world right now (from a consulting perspective).

Knowledge of this stuff can really help you stand out in interviews.

I recently had an interview where I talked about Affordable Care Organizations / value based health care and really impressed my interviewer (i.e. he even asked me “How did you know about this stuff? We interview a lot of MBAs and even they don’t know what’s going on in the industry.”)

However, it’s really difficult to keep up with all of this because of how much you need to read. Luckily, I can summarize things down to a reasonable length to save you some time / effort and will provide links if you want to learn more.

This series will be based on interviews with partners at the consulting firms, articles from the literature, consulting magazines, and the news.

The value to you is:

1. Many of the cases you’ll get in actual interviews will be based off of projects your interviewer is facing right now. This series will keep you abreast of what’s going on in the industry.

2. You’ll be able to talk competently with consultants about their work. Don’t underestimate how impressive it is to meet a 21 year old who understands the intricacies of same day delivery, corporate governance, or value based health care.

3. This will also help you determine what industry you’d like to specialize in eventually and can help you connect your answers in the “why consulting, why our firm” questions to your interviewer’s interests.

Now let’s talk about same day delivery. Today’s article will have the following sections:

1. What is Same Day Delivery (SDD), and why is it trending now?

2. What is its history?

3. What are some of the challenges involved?

4. What are the opportunities?

5. What are the open questions?

What is Same Day Delivery? (SDD)

Same day delivery is a trend in the retail / tech / logistics industry whereby customers can order things online and receive them within 24 hours.

And everybody seems to be getting in on it:

1. The U.S. Postal Service has been experimenting with SDD in San Francisco and New York.

2. Google has been testing it in both NorCal and SoCal.

3. Silicon Valley based startup Deliv recently raised $4.5 million in venture funding.

4. London based startup Shutl was bought out last year by eBay.

5. Amazon has recently spent > $1 billion to build new fulfillment centers in key locations all around the U.S in an effort to build same day delivery capacity.

Why are so many companies entering it?

A couple reasons:

1. It’s a new market segment. Amazon dominates e-retailing for pretty much everything. However, many of the companies entering SDD see it as a new segment of the market.

This is because SDD would probably be used for order sizes / items that you would be too small to order on Amazon, and would allow you to buy from local businesses, which you can’t do with Amazon.

2. It’s Low Overhead. For example, Google and eBay are basically just serving as an intermediary. They make contracts with local businesses who provide the goods, subcontract out to drivers, and take a cut of the money without handling anything themselves.

3. There’s A Ton Of Data. Think about it – with SDD you get data about what customers are ordering, where they live, what times they order, etc. This has huge potential for companies like Google, which cuts its teeth on advertisements.

4. There Are Synergies. Both Google and eBay have their own payments systems (Google Wallet and PayPal, respectively). They can use SDD to drive usage of these payment methods, popularizing multiple services at once.

5. It Allows E-Retailers To Differentiate Themselves. Ordering online used to be cheaper than buying things in store because you didn’t have to pay sales tax. That’s over now, so for online retailers to differentiate themselves from brick and mortar retailers / each other they need to offer new services such as SDD.

6. Small Businesses Want It. SDD services will allow small businesses to compete with the likes of Amazon because they’ll be able to ship their goods directly to customers.

Note, however, as of now:

1. The service is simply not profitable. USPS ran a pilot in San Francisco that lasted 5 months. They lost $10,000 on the program, even though they already had all of the equipment, vehicles, and personnel.

2. The service isn’t popular yet with customers. USPS’s pilot program delivered 95 packages in 5 months (way less than the 200 / day estimated).

History of SDD

Same day delivery is not a new concept. Two of the most notorious flameouts of the dotcom boom, Kozmo.com and WebVan, were pioneers in SDD. In this section we’ll discuss each of these companies and why they failed.

Kozmo.com was a same day delivery service started by two Goldman Sachs investment banking analysts. The company ended up raising $232 million in venture funding, and creating partnerships with both Amazon and Starbucks.

Their business model was simple – you could place an order online and have movies, video games, or other small convenience items delivered to your home in under an hour.

In the case of rented movies, they originally tried to set up drop boxes so people could return them (however, many of the drop boxes were broken into). Eventually they set up a partnership with Starbucks wherein you could drop rented movies back at specific Starbucks locations.

Unfortunately, the economics simply didn’t work. Kozmo ended up taking a $60 million loss in its last year ($30 million revenue and $90 million costs).

This was mainly attributed to their business model – they chose not to charge a delivery fee to their customers. However, I’m not sure they could have charged a delivery fee and maintained their customer base. The average size of an order was something like $28, and a delivery fee of even $10 would probably result in the loss of many customers.

Therein lies the paradox of SDD – it’s hard to get customers to pay for delivery when they can just walk down to the store and get what they need.

Surprisingly though, many New Yorkers lamented the loss of Kozmo. It was an interesting idea, and I can certainly see the appeal of having food or a video (before the age of streaming video) delivered straight to my home or workplace at any time of the day.

WebVan was a grocery delivery service started around the same time as Kozmo. The difference was Webvan actually went public and was able to raise about $375 million from their IPO.

The business model was that you could order groceries online and have them delivered to you in a 30 minute slot of your choosing.

Again, the economics didn’t work. Webvan spent $1 billion on infrastructure investments alone, and their average spend / order was $81 (less than the $103 necessary to make the service profitable).

Delivery alone cost $27 / order, and WebVan charged only $5 / order as a delivery fee. When you take into account the 2-3% margins in the grocery business you can see that this was a recipe for disaster.

Could they have increased their delivery fee? Possible, but not likely with all the investments they made. They were already starved for customers (they only serviced 47,000 households in San Francisco in Q4 2000, which is a tiny fraction considering there are millions of people in the greater SF area and that it was their main hub).

In its last year, WebVan managed make about $175 million in revenues on costs of $500 million.

Also like Kozmo, the service was popular amongst the customers it had (typically the affluent or recent parents), meaning that there is some demand out there for similar services.

The really interesting question to me is, could WebVan have made it work? Former WebVan CTO Peter Relan seems to think so. He believes that WebVan made three critical mistakes:

1. Targeting the Wrong Customer Segment. WebVan went for the price sensitive mass market, but it should have went for the price insensitive portion of the market who wanted both convenience, selection, and was willing to pay for it.

2. Complex Infrastructure. WebVan made over a billion dollars in infrastructure investment including trucks, drivers, sorting technology, software to manage routing and sorting, etc.

3. Expanded Too Quickly. The company expanded before it figured out how to be profitable. It ended up burning through all of its cash before it could figure out how to make money.

So now let’s talk about some of the challenges (in the present day) of SDD and how to make it work.

Note: See this article by BCG for more info on SDD.

Challenges Involved

1. There’s limited consumer demand as of now. It’s not that customers don’t want SDD, it’s just that most customers care more about lower prices or free delivery than speed of delivery.

SDD Exhibit 1

2. Customers aren’t willing to pay. The economics still don’t work any better now than they did 15 years ago. Customers are willing to pay $6-10 as a delivery fee, but it would cost at least $10-15 for these services to turn a profit.

SDD Exhibit 2

Opportunities

1. There is an interested customer segment. BCG calls them “Affluent Millennials” (consumers 18-34 with $150k+ in income). They spend almost twice as much per quarter on online orders and are twice as likely to use a SDD service.

SDD Exhibit 4

2. There’s opportunities to run pilot programs in favorable cities. BCG identified San Francisco and New York as being the two areas that are likely most ripe for a service like this (based on number of affluent millennials and population density).

SDD Exhibit 3

3. SDD can help improve brand perception. 38% of survey respondents said that a company having a SDD service would positively influence whether or not they use that retailer, even if they don’t use the service itself.

Open Questions

From my perspective there are three open questions:

1. Is SDD worth investing in over improving existing services?

SDD Exhibit 5

This is something I’m not sure about. From the above graph it’s pretty obvious that customers care much more about things such as lowering delivery costs, making returns easier, being able to track deliveries online, and the like.

It might actually be even more profitable for companies to work on improving their existing services than to worry about SDD, which probably won’t be profitable for awhile. However, that takes me to the next question:

2. Is this an example of the Innovator’s Dilemma?

The Innovator’s Dilemma says that disruptive technologies arise in new customer segments that are (at least in the beginning) too small or not profitable enough for existing players to enter.

As a result, existing players typically ignore these segments and get wiped out when they become more important. What we could end up seeing is that some of these smaller SDD companies popping up in SF / NY could be the next great player in the e-retailer space and could help small businesses resist the dominance of Amazon.

If that’s the case, it would be worthwhile for some of the major players in the e-retail space to start offering SDD. That takes us to the next question:

3. Is SDD worth investing in to gain a competitive advantage?

Sure, the economics aren’t great right now but that could change. Delivery costs will go down with time and SDD may gain popularity as it gets out there more.

It might be worthwhile for online retailers to push SDD to get on the bandwagon early, get customers used to / demanding it, and figure out how to control the costs. We’ll see what happens soon enough.

Conclusions

To summarize: same day delivery is a trend in the retail / tech / logistics industry whereby customers can order things online and receive them within 24 hours.

Everybody from Amazon to the USPS has been piloting programs to see if they can make the economics work.

However, SDD has a sordid past with the failure of both Kozmo and WebVan. Both of these failures were because the economics didn’t work – people weren’t (and still aren’t) willing to pay a premium for products that can just go and buy down the street.

However, SDD programs may be worthwhile to build to help improve brand perception and prevent disruption innovation.

I hope this first article in our industry insights series has been helpful!

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