FRESHDIRECT: HOW FRESH IS IT?* On its website, FreshDirect boldly proclaimed, “Our food is fresh, our customers are spoiled. Order on the web today and get next-day delivery of the best food at the best price, exactly the way you want it, with 100 percent satisfaction guaranteed.”1 Recently, however, many consumers questioned the freshness of the food delivered by FreshDirect. Since online shopping did not give customers the chance to feel and choose the products themselves, they had to rely completely on FreshDirect to select the food for them. Since 2001, operating out of its production center in Long Island City, Queens, FreshDirect had offered online grocery shopping and delivery service in Manhattan, Queens, Brooklyn, Nassau County, Riverdale, Westchester, select areas of Staten Island, the Bronx, the Hamptons, New Jersey including Jersey Shore, Philadelphia, Delaware, and parts of Connecticut. FreshDirect also offered pickup service at its Long Island City facility, as well as corporate service to select delivery zones in Manhattan and summer delivery service to the Hamptons on Long Island. In 2012, the company decided to move its facility from Long Island City, Queens, to a new 800,000-square-foot property in the Bronx, and received court clearance to do so. FreshDirect had threatened to relocate its operational hub and headquarters to New Jersey, but New York City and the State of New York offered close to a $130 million subsidy package, including tax breaks and abatements, to keep the online grocer in New York City. A petition by the community group South Bronx United had earlier challenged the move arguing that the city had failed to properly analyze the potential environmental impact (e.g., air and noise pollution) that would result from a “truck-intensive” business. However, the court ruled in FreshDirect’s favor in 2013.2 FreshDirect’s new headquarters was slated to open by 2016 (this would be slightly delayed), and CEO Jason Ackerman was delighted with the court’s decision. “We are eager to move forward with our plans to bring thousands of jobs to the Bronx and make it easier for people to get fresh food,” he declared.3 During the early years of the company, FreshDirect had pronounced to the New York City market that it was “the new way to shop for food.” This was a bold statement given that the previous decade had witnessed the demise of numerous online grocery ventures. However, the creators of FreshDirect were confident in the prospects for success of their business. Their entire operation had been designed to deliver on one simple promise to grocery shoppers: “higher quality at lower prices.” While this promise was an extremely common tagline used within and outside the grocery business, FreshDirect had integrated numerous components into its system to give real meaning to their words. Without a retail location, FreshDirect didn’t have to pay expensive rent for a retail space. To offer the highest-quality products to its customers, FreshDirect had designed a state-of-the-art production center and staffed it with expert personnel. The 800,000-square-foot production facility newly located in the Bronx would employ about 700 workers when it opened in 2018. The current facility in Long Island City, Queens, would operate until the new building came online. In each FreshDirect warehouse, twelve separate temperature zones ensured that each piece of produce, meat, and other food was kept at its optimal temperature for ripening and/or preservation. The company claimed the entire facility was kept colder and cleaner than any other retail environment.4 Further quality management was achieved by an SAP manufacturing software system that controlled every detail of the facility’s operations. All of the thermometers, scales, and conveyor belts within the facility were connected to a central command center. Each specific setting was programmed into the system by an expert from the corresponding department—everything from the ideal temperature for ripening a cantaloupe to the amount of flour that went into the French bread. The system was equipped with a monitoring alarm that alerted staff to any deviation from the programmed settings. FreshDirect maintained extremely high standards for cleanliness, health, and safety. The floor was immaculate. All food-preparation areas and equipment were bathed in antiseptic foam at the end of each day. Incoming and outgoing food was tested in FreshDirect’s in-house laboratory, which ensured adherance to USDA guidelines and the Hazard Analysis and Critical Control Point food safety system. In all respects, food passing through the FreshDirect facility met the company’s high health and safety standards.5 System efficiency was the key to FreshDirect’s ability to offer its high-quality products at low prices. The middleman was completely eliminated. Instead of going through an intermediary, both fresh and dry products were ordered C-47from individual growers and producers and shipped directly to FreshDirect’s production center, where its expert staff prepared them for purchase. In addition, FreshDirect did not accept any slotting allowances.6 This unique relationship with growers and producers allowed FreshDirect to enjoy reduced purchase prices from its suppliers, passing the savings on to its customers. Each department of the facility, including the coffee roaster, butcher, and bakery, was staffed by carefully selected experts. FreshDirect offered premium fresh coffees (roasted on site), pastries and breads (baked on site), deli, cheese, meats (roast beef dry-aged on site), and seafood. Perishable produce was FreshDirect’s specialty—by buying locally as much as possible and using the best sources of the season, it was able to bring food the shortest distance from farms, dairies, and fisheries to the customer’s table. FreshDirect catered to the tastes of its busy Manhattan clientele by offering a full line of heat-and-serve meals prepared in the FreshDirect kitchen by New York executive chef Michael Stark (formerly of Tribeca Grill) and his team. Another celebrity chef, Terrance Brennan of New York’s French-Mediterranean restaurant Picholine, oversaw creation of “restaurant-worthy” four-minute meals. Made from raw ingredients delivered in a “steam valve system” package, these complete meals were not frozen but were delivered ready to cook in a microwave. The proximity of FreshDirect’s processing facility to its Manhattan customer base was a critical factor in its cost-effective operational design. The processing center’s location in the South Bronx put approximately 4 million people within a 10-mile radius of FreshDirect, enabling the firm to quickly deliver a large volume of orders.7 Further, cost controls had been implemented through FreshDirect’s order and delivery protocols. Products in each individual order were packed in boxes, separated by type of item (meat, seafood, and produce packed together; dairy, deli, cheese, coffee, and tea packed together; grocery, specialty, and nonrefrigerated products packed together), and placed on a computerized conveyor system to be sorted, assembled, and loaded into a refrigerated truck for delivery. Orders had to be a minimum of $40, with a delivery charge between $6.99 and $7.99 per order, depending on the order dollar amount and delivery location. Delivery was made by one of FreshDirect’s own trucks and was available only during a prearranged two-hour window from 6:30 a.m. to 10 p.m. every day of the week. To attract more customers and to encourage repeat purchases, FreshDirect also offered DeliveryPass that enabled customers to get unlimited free deliveries by purchasing a free delivery subscription for 6 or 12 months. The DeliveryPass price for 6 months was $79 and for 12 months was $129. Competing with other online grocers like AmazonFresh, specialty gourmet/gourmand stores in Manhattan, and high-end chain supermarkets like Whole Foods, Trader Joe’s, and Fairway, FreshDirect was trying to woo the sophisticated grocery shopper with an offer of quality, delivered to the customer’s door, at a price more attractive than others in the neighborhood. Operating in the black for the first time in 2005,8 by choosing to remain a private company and expanding gradually, FreshDirect’s owners hoped to turn a daily profit, steadily recovering the estimated $60 million start-up costs, silencing critics, and winning converts.9 An interesting idea for expansion was to cater to home cooks who liked to cook from scratch. FreshDirect teamed up with online recipe website Foodily to launch a new service called Popcart. Users could order deliveries of food ingredients directly applicable to online recipes. The Internet was a popular recipe source for home cooks, but shopping for ingredients was widely seen as an unpleasant chore. The new Popcart technology alleviated this burden by linking with the FreshDirect portal and providing next-day deliveries of whatever a recipe called for. “This is really at the heart and soul of making food shopping easier for consumers. About 70% of New Yorkers cook from scratch multiple times a week, and 30% cook multiple times a day. Think about that opportunity,” said Jodi Kahn, chief consumer officer for FreshDirect.10 In January 2016, aiming a direct attack on the heated competition in online food delivery services, FreshDirect introduced a new service called FoodKick, which promised to deliver food and liquor within an hour of a customer placing an order. FoodKick was initially available in particular areas of Brooklyn and Queens; however, the company planned to expand this service nationwide.11 Founding Partners Cofounder and its first chief executive officer Joseph Fedele was able to bring a wealth of experience in New York City’s food industry to FreshDirect. In 1993 he had cofounded Fairway Uptown, a 35,000-square-foot supermarket on West 133 Street in Harlem. Many critics originally questioned the success of a store in that location, but Fairway’s low prices and quality selection of produce and meats made it a hit with neighborhood residents, as well as many downtown and suburban commuters. Cofounder Jason Ackerman, FreshDirect’s vice chairman and chief financial officer, had gained exposure to the grocery industry as an investment banker with Donaldson Lufkin & Jenrette, where he specialized in supermarket mergers and acquisitions. Fedele and Ackerman first explored the idea of starting a large chain of fresh-food stores, but they realized maintaining a high degree of quality would be impossible with a large enterprise. As an alternative, they elected to pursue a business that incorporated online shopping with central distribution. Using the failure of Webvan, the dot-com delivery service that ran through $830 million in five years of rapid expansion, as their example of what not to do, Fedele and Ackerman planned to start slowly, use off-the-shelf software and an automated delivery system, and pay attention to essentials such as forming relationships with key suppliers and micromanaging quality control.12 C-48 FreshDirect acquired the bulk of its $100 million investment from several private sources, along with the contribution that was expected to come from the State of New York in tax breaks. By locating FreshDirect’s distribution center within the state border and promising to create at least 300 permanent, full-time, private-sector jobs in the state, FreshDirect became eligible for a $500,000 training grant from the Empire State Development Jobs Now Program. As its name implied, the purpose of the Jobs Now program was to create new, immediate job opportunities for New Yorkers. CEO Successions Although the press was mostly positive about FreshDirect’s opportunities, growth and operational challenges remained. In the words of an ex–senior executive of FreshDirect, “The major problem seems to be constant change in Senior Management. I think they are now on their 4th CEO.”13 At the time, the company was actually on its fifth CEO, and it later named its sixth. FreshDirect cofounder Joseph Fedele had remained CEO until January 2004, when cofounder Jason Ackerman succeeded him. Ackerman served as CEO of FreshDirect for a little over seven months; Dean Furbush succeeded him in September 2004. Ackerman remained vice chairman and chief financial officer. The tenure of Dean Furbush lasted a little over two years. Steve Michaelson, president since 2004, replaced Furbush as CEO of FreshDirect in early 2007.14 In 2008 Michaelson left for another firm, and FreshDirect’s chairman of the board, Richard Braddock, expanded his role in the firm and took over as CEO. Braddock said, “I chose to increase my involvement with the company because I love the business and I think it has great growth potential.” Braddock had previously worked at private equity firm MidOcean Partners and travel services retailer Priceline.com, where he’d also served as chairman and CEO.15 Braddock wound up leaving the company in March 2011. Jason Ackerman returned to the role of CEO for a second time. Business Plan While business started out relatively slowly, FreshDirect hoped to capture around 5 percent of the New York City grocery market. Availability citywide was originally slated for the end of 2002. However, to maintain its superior service and product quality, FreshDirect chose to expand its service area slowly. This business model seemed to be working well for FreshDirect, as the company continued to gradually expand successfully into new areas surrounding its Long Island City facility. With the success of its business model and its steady growth strategy, by the spring of 2011, FreshDirect had delivery available to select zip codes and neighborhoods throughout Manhattan and as far away as Westchester, Connecticut, New Jersey, and the Hamptons on Long Island (in the summer only). By early 2017 FreshDirect was serving the Delaware, Jersey Shore, Hamptons, and Philadelphia area, particularly in and around Center City, with plans to eventually expand the service region to the greater Philadelphia area suburbs depending on customer response. The company had a cross dock on Richmond Street, Philadelphia, where orders were sorted after arriving from New York. The company employed a relatively low-cost marketing approach, which originally consisted mainly of billboards, public relations, and word of mouth to promote its products and services. FreshDirect hired Trumpet, an ad agency that promoted FreshDirect as a better way to shop by emphasizing the problems associated with traditional grocery shopping. For example, one commercial stressed the unsanitary conditions in a supermarket by showing a shopper bending over a barrel of olives as she sneezed, getting an olive stuck in her nose, and then blowing it back into the barrel. The advertisement ended with the question, “Where’s your food been?” Another ad showed a checkout clerk morph into an armed robber, demand money from the customer, and then morph back into a friendly checkout clerk once the money was received. The ad urged viewers to “stop getting robbed at the grocery store.”16 FreshDirect enlisted celebrity endorsements from New York City personalities such as film director Spike Lee, actress Cynthia Nixon, former mayor Ed Koch, supermodel Paulina Porizkova, and chef Bobby Flay.17 The company planned to change its marketing strategy by launching a new testimonial-based campaign using actual customers, rather than celebrities. FreshDirect was number 73 in the Internet Retailer Top 500 Guide of 2016. Operating Strategy Building on its efficient low-cost supply chain that eliminated the middleman and sourced direct from farms and fisheries, FreshDirect was able to pursue a make-to-order philosophy.18 By focusing on providing produce, meat, seafood, baked goods, and coffees that were selected or made to the customer’s specific order, FreshDirect offered its customers an alternative to the standardized cuts and choices available at most brick-and-mortar grocery stores. This strategy created a business model that was unique within the grocery business community. A typical grocery store carried about 25,000 packaged goods, which accounted for approximately 50 percent of its sales, and about 2,200 perishable products, which accounted for the other 50 percent of sales. In contrast, FreshDirect offered about 5,000 perishable products, accounting for approximately 75 percent of its sales, but only about 3,000 packaged goods, which made up the remaining 25 percent of sales.19 While this stocking strategy enabled a greater array of fresh foods, it limited the brands and available sizes of packaged goods such as cereals, crackers, and laundry detergents. However, FreshDirect believed that customers would accept a more limited packaged-good selection in order to get lower prices, as evidenced in the success of wholesale grocery stores, which offered bulk sales of limited items. C-49Jason Ackerman identified the ideal FreshDirect customers as those who bought their bulk staples from Costco on a monthly basis and bought everything else from FreshDirect on a weekly basis.20 FreshDirect’s Website FreshDirect’s website not only offered an abundance of products to choose from but also provided a broad spectrum of information on the food that was sold and the manner in which it was sold (see Exhibit 1). Web surfers could take a pictorial tour of the FreshDirect facility; get background information on the experts who managed each department; get nutritional information on food items; compare produce or cheese on the basis of taste, price, and usage; specify the thickness of meat or seafood orders and opt for one of several marinades or rubs (see Exhibit 2); search for the right roast and variety of coffee according to taste preferences; and read nutritional information for fully prepared meals. A large selection of recipes was available depending on the items chosen. EXHIBIT 1 FreshDirect Website EXHIBIT 2 Example of FreshDirect Seafood Selection For example, if you wanted to purchase chicken, you were first asked to choose from breasts and cutlets, cubes and strips, ground, legs and thighs, specialty parts, split and quartered, whole, or wings. Once your selection was made—let’s say you chose breasts and cutlets—you were given further options based on your preference for skin, bone, and thickness. The final selection step offered you a choice of rubs and marinades, including teriyaki, sweet and sour, garlic rosemary, poultry seasoning, lemon herb rub, and salt-and-pepper rub. Throughout, the pages offered nutritional profiles of each cut of meat as well as tips for preparation and storage. As for FreshDirect’s several delivery models, customers within the city were attracted to the FreshDirect service (prearranged two-hour delivery window) because it eliminated the need to carry groceries or park a car near their apartments to unload their purchases. Suburban customers were served in a slightly different manner. Many suburban customers worked at corporations in the tristate area that could arrange for depot drop-off in the office parking lot, creating a central delivery station. FreshDirect sent a refrigerated truck, large enough to hold 500 orders, to these key spots during designated times. Suburbanites, leaving their office building to go to their cars, swung by the FreshDirect truck, picked up their orders, and headed home. FreshDirect could also provide delivery to the parking lot of football or concert events for tailgate parties or picnics. Customers could also pick up their orders directly from the processing center. Orders were ready at the pickup desk 5 to 10 minutes after they were called in. For business customers in Manhattan, chef-prepared breakfast and luncheon platters and restaurant-quality individual meals were delivered right to the office. FreshDirect offered catering for business meetings and upscale events. FreshDirect provided dedicated corporate account managers and customer service representatives for corporate clients; however, FreshDirect provided only delivery, not setup and platter-arrangement services. The corporate delivery minimum order was $50, and delivery costs were $14.99 (see Exhibit 3). EXHIBIT 3 FreshDirect at the Office C-50 The Retail Grocery Industry In the United States, supermarket chains make over $649 billion in sales annually. The typical supermarket carries 39,500 items, averages about 42,800 square feet, and enjoys over $18 million in sales annually.21 The top 10 supermarket chains in the United States command a large share of the total grocery industry business (see Exhibit 4). EXHIBIT 4 Top 10 North American Food Retailers, 2016 Supermarket Chain Store s 2016 Sales ($ billions) Comments Wal-Mart Stores 5,708 $355.2 Includes Sam’s Clubs Kroger 2,796 109.8 Includes jewelry sales 118.72 Groceries were 72% of total sales 2,230 45.8 Headquarter ed in Boise, Idaho 769 26.4 Delhaize Group & Ahold USA Loblaw Cos. 1,250 34.3 Based in Brampton, Canada Target Corp. 1,67 2 69.8 Based in Minneapolis 30 Based in the New Hampshire Costco Wholesale Corp. Albertsons Ahold Delhaize C&S Wholesale Grocers 602 5 0 Sobeys 1,500 18.8 Headquarter ed in Nova Scotia, Canada Supervalu Inc. 1,370 17.53 Headquarter ed in Minnesota Source: Supermarket News 2017. http://supermarketnews.com/2017-top-75-clickable-list. (Estimated sales and stores count.) The supermarket business is a low-margin business with net profits of only 1 to 2 percent of revenues. Store profits depend heavily on high customer traffic and rapid inventory turnover, especially for perishables such as produce and meat. Competitors must operate efficiently to make money, so tight control of labor costs and product spoilage is essential. Because of modest capital investment—mainly construction of distribution centers and stores—supermarket chains realize 15 to 20 percent returns on invested capital. Online grocery retailers, like FreshDirect—because of the flexibility of information control, automated order fulfillment, and reduced real estate costs—could potentially have operating margins up to 10 percent, rather than the 3 to 4 percent of traditional supermarkets.22 The Online Grocery Segment Total online grocery shopping sales were estimated to be about $27 billion for the 12 months ending June 2016. 23 This accounted for about 4.4 percent of total grocery sales. Online grocery shopping was slow to catch on in the 1990s, and industry newcomers had encountered high start-up and operating costs. Sales volumes and profit margins remained too small to cover the high start-up costs. The problem, according to industry analysts, was that consumers had been disappointed in online service, selection, and prices. Coupled with the extensive investment needed in warehousing, fulfillment, and inventory control, this meant the “pure play” e-grocery models were risky. There was a belief then that better success would C-51come from traditional grocery retailers that chose to venture online.24 However, some analysts expected online grocery sales to grow at a rapid pace as companies improved their service and selection, computer penetration of households rose, and consumers became more accustomed to making purchases online.25 An article in Computer Bits examined the customer base for online grocers, looking specifically at the types of consumers who would be likely to shop online and the kinds of home computer systems that were required for online shopping. An Andersen Consulting report identified six major types of online shoppers (see Exhibit 5), and FreshDirect’s Richard Braddock predicted that online grocery sales could account for as much as 20 percent or more of total grocery sales within the next 10 years.26 A MARC Group study concluded, “Consumers who buy groceries online are likely to be more loyal to their electronic supermarkets, spend more per store ‘visit,’ and take greater advantage of coupons and premiums than traditional customers.” 27 EXHIBIT 5 Types of Online Shoppers and Their Propensity to Be Attracted to Online Grocery Shopping Types of Online Shoppers Comments Traditional Might be older technology-avoiders or simply shoppers who like to sniff-test their own produce and eyeball the meat selection. Responsible Feed off the satisfaction of accomplishing this persistent to-do item. Time-starved Find the extra costs associated with delivery fees or other markups a small price to pay for saving time. New technologists Use the latest technology for any and every activity they can, because they can. Necessity users Have physical or circumstantial challenges that make grocery shopping difficult; likely to be the most loyal group of shoppers. Avoiders Dislike the grocery shopping experience for a variety of reasons. Source: Andersen Consulting. A problem with online grocery shopping was that consumers were extremely price-sensitive when it came to buying groceries, and the prices of many online grocers at the outset were above those at supermarkets. Shoppers also were unwilling to pay extra to online grocers for home delivery. Consumer price sensitivity meant that online grocers had to achieve a cost structure that would allow them to (1) price competitively, (2) cover the cost of selecting items in the store and delivering individual grocery orders, and (3) have sufficient margins to earn attractive returns on their investment. Some analysts estimated that to be successful, online grocers had to do 10 times the volume of a traditional grocer.28 Potential Competitors in the Online Grocery Segment When online grocers started appearing within the industry, many established brick-and-mortar grocers began offering online shopping in an attempt to maintain and expand their customer base. Two basic models were used for online order fulfillment: (1) pick items from the shelves of existing stores within the grocer’s chain, and (2) build special warehouses dedicated to online orders. The demand for home delivery of groceries had been increasing, but in many market areas the demand had not reached a level that would justify the high cost of warehouses dedicated to fulfilling online orders.29 Safeway began an ambitious online grocery venture, GroceryWorks, a shopping system that included warehouses dedicated to filling online orders. Unfavorable returns forced Safeway to reevaluate its system, and it eventually chose to form a partnership with Tesco, a U.K.-based grocer. Tesco filled its online orders from the shelves of local stores in close proximity to the customer’s home. Safeway and Tesco worked together on GroceryWorks in Portland, Oregon, where they received a positive initial response from customers.30 The craze over health food had created room in the grocery industry for organic-food suppliers to enter as an attractive substitute to traditional groceries. When asked what kept him up at night, FreshDirect’s former CEO Dean Furbush said that Whole Foods or Trader Joe’s moving into a FreshDirect neighborhood was his biggest threat, as that hurt FreshDirect the most. Whole Foods, the Austin, Texas–based supermarket chain with the organic-health-food focus, had already threatened FreshDirect’s sales in Manhattan. Trader Joe’s, another specialty food retailer, was opening a store in downtown Union Square, prime territory for FreshDirect.31 Although commentators believed there was enough room for all, including even street farmers’ markets, FreshDirect focused on organic foods to respond to the threats of Whole Foods and other specialty food stores.32 With the shift among some customers to paying attention to local, sometimes organic, suppliers, FreshDirect highlighted its support of and partnership C-52with the local companies that provided their produce, poultry, fish, cheese, milk, eggs, and specialties such as wine (see Exhibit 6). However, its efforts were inconsistent in this area. For example, to help shoppers and checkout operators distinguish between organic and nonorganic produce, FreshDirect wrapped organics in plastic, which in itself is not organic. FreshDirect chairman Jeff Turner recognized the incongruity.33 EXHIBIT 6 FreshDirect Local Market Offerings Rivals in the NYC Online Grocery Segment YourGrocer.com FreshDirect’s most geographically significant competitor in the online grocery industry was YourGrocer.com (see Exhibits 7 to 10). YourGrocer.com was launched in New York City in 1998 with the goal of being the leading online grocery service for the New York metropolitan area. By November 2001 the company ran out of money and was forced to shut down, but in spring 2002, new capital resources were found and the company reopened for business. The second time around, YourGrocer’s approach was a little different. EXHIBIT 7 Profiles of Select Online Grocers Name Minimum Area Covered Delive ry Order Minim um Delivery Charge Method Specializati on FreshDire ct YourGroc er Peapod Manhattan, $40 Queens, Brooklyn, Staten Island, the Bronx, Nassau County, Westchest er County, Fairfield County, Hoboken, Philadelphi a, Jersey City $6.99– $7.99, dependin g on order size and destinati on; tipping optional Trucks; delivers every day 6:30 a.m.– 10 p.m. dependi ng on location Manhattan, None the Bronx, Westchest er, Greenwich, Brooklyn, Queens, Rockland $9.95 for orders > $75; $14.95 for orders < $75 Rented vans; delivers 9 a.m.– 9 p.m. dependi ng on location • Chicago, $60 Boston, D.C., Long Island, Connecticu t, New Jersey, Rhode Island, Milwaukee, Wisconsin, Indiana, New Hampshire , Maryland, $6.95 Trucks; delivery availabl e 6 a.m. to 1 p.m. on Saturda y and 6 a.m.–10 p.m. every other day; pic kup availabl • • Mostly perishable s: fresh produce, meats, baked goods. • • Low prices because there is no middlema n. • Bulk orders of packaged goods. • Partner with Giant Foods and Stop & Shop; items picked from shelves of local warehous es near customer’ s home. Virginia, Pennsylvan ia AmazonFr Select esh Cities of New York, Massachus etts, Maryland, Philadelphi a and California. None $9.99 for orders under $40, in addition to 14.99 monthly member ship e as well • Order by 10 a.m. for delivery by 6 p.m. & Order by 10 p.m. for delivery by 6 a.m. • Nonperish ables as well as packaged goods. • Source: Company websites. EXHIBIT 8 Comparison of Prices for Selected Online Grocers Prices Grocery Item FreshDirec t YourGroce r Peapod Tide laundry detergent $15.99/100 oz. $27.89/156 oz. ($16.39/10 0 oz.) $12.99/10 0 oz. $11.99/100 oz. Wish-Bon e Italian dressing $2.29/8 oz. $4.48/20 oz. $3.69/16 oz. $2.92/16 oz. Cheerios $4.49/18 oz. $4.30/20.3 oz $4.59/12 oz. $3.68/18 oz. Ragu spaghetti sauce $2.99/24 oz. $3.30/45 oz. $2.69/24 oz. $1.79/24 oz. Granny Smith apples $3.99/4 pack (no per-lb. price) Source: Company websites. AmazonFres h $11.89/6 lb. $1.49/each $1.66/lb. bag ($1.98/lb.) EXHIBIT 9 YourGrocer.com Website EXHIBIT 10 YourGrocer’s Service Focus New YourGrocer focuses on providing three benefits that families in the area most value: 1. Easy ordering over the Internet or on the phone to save hours of thankless shopping. You can use your last order as a starting point to save even more time. 2. Delivery right to the home or office, which eliminates the burden of lifting and transporting heavy and bulky items each month. 3. Significant savings with everyday low prices—not short-duration specials—which reduce what you pay for stock-up groceries and household supplies on average by 25% to 30% below local supermarkets. Source: www.yourgrocer.com. YourGrocer was created with a bulk-buying strategy, believing that customers would order large, economical quantities of goods from the website and the company would make home deliveries in company trucks. During YourGrocer’s first life, the ambitious business plan covered a large service area and included the acquisition of another online grocery company, NYCGrocery.com.34 This business plan was modified in its second life. The company reduced the size of its staff, got rid of warehouses, decided to rent instead of owning its delivery vans, and scaled down its delivery routes.35 Nassau County and New Jersey were eliminated from the service area, leaving only Manhattan, the Bronx, Brooklyn, Queens, Rockland, Westchester County, and Fairfield County (Connecticut). C-53 YourGrocer continued to offer a limited selection of items that could be purchased only in bulk. Deliveries were made in varied time slots, depending on the customer’s location in the New York area. There was a $9.95 delivery charge for orders over $75, and $14.95 for orders below $75. Peapod Founded in 1989 by brothers Andrew and Thomas Parkinson, Peapod (see Exhibits 11 and 12) was an early pioneer in e-commerce, inventing an online home-shopping service for grocery items years ahead of the commercial emergence of the Internet. With its tagline “Smart Shopping for Busy People,” the company began providing consumers with a home-shopping experience in the early 1990s, going so far as to install modems in customer homes to provide an online connection. EXHIBIT 11 Peapod Website EXHIBIT 12 Peapod Product Selection From its founding in 1989 until 1998, the company’s business model involved filling customer orders by forming alliances with traditional grocery retailers. The company chose a retail partner in each geographic area where it operated and used the partner’s local network of retail stores to pick and pack orders for delivery to customers. Peapod personnel would cruise the aisles of a partner’s stores, selecting the items each customer ordered, pack and load them into Peapod vehicles, and then deliver them to customers at prearranged times. Peapod charged customers a fee for its service and collected fees from its retail supply partners for using their products in its online service. In 1997, faced with mounting losses despite growing revenues, Peapod management shifted to a new order-fulfillment business model utilizing a local company-owned central distribution warehouse to store, pick, and pack customer orders for delivery. By mid-1999 the company had opened new distribution centers in three of the eight markets it served—Chicago, Long Island, and Boston—and a fourth distribution center was under construction in San Francisco. In late spring 2000, Peapod created a partnership with Royal Ahold, an international food provider based in the Netherlands. At the time, Ahold operated five supermarket companies in the United States: Stop & Shop, Tops Market, Giant-Landover, Giant-Carlisle, and BI-LO. In September C-542000 Peapod acquired Streamline.com Inc.’s operations in Chicago and the Washington, D.C., markets and announced that it planned to exit its markets in Columbus, Ohio, and in Houston, Dallas, and Austin, Texas. All of these moves were made as part of Peapod’s strategic plan for growth and future profitability. Under Peapod’s initial partnership agreement with Ahold, Peapod was to continue as a stand-alone company, with Ahold supplying Peapod’s goods, services, and fast-pick fulfillment centers. However, in July 2001 Ahold acquired all the outstanding shares of Peapod and merged Peapod into one of Ahold’s subsidiaries. By 2017, Peapod offered delivery services from its own warehouses to many areas, including Chicagoland, Milwaukee and southeast Wisconsin, and Indianapolis. Peapod by Stop & Shop provided delivery services in southern New Hampshire, Massachusetts, Rhode Island, Connecticut, New York, and New Jersey. And Peapod by Giant provided delivery services to Maryland, Washington D.C., Virginia, and Philadelphia and southeastern Pennsylvania.36 In large markets, orders were picked, packed, loaded, and delivered from a freestanding centralized fulfillment center; in smaller markets, Peapod established fast-pick centralized fulfillment centers adjacent to the facilities of retail partners.37 Peapod’s proprietary transportation routing system ensured on-time delivery and efficient truck and driver utilization. AmazonFresh AmazonFresh entered the grocery market in recent years by offering a wide range of dry goods. Amazon was always a threat to other online retailers because of its existing loyal customer base and legendary customer service. The selection of dry goods rather than perishables meant that Amazon, unlike FreshDirect and Peapod, didn’t have to worry about delivery costs on time- and climate-sensitive items. By mid-2016, AmazonFresh service was available in Boston, and rapidly expanding in select areas of California, New York, New Jersey, Philadelphia, Connecticut, and Maryland. AmazonFresh offered over 95,000 different items available for same day delivery if ordered before 10 a.m. and next day early morning delivery for items ordered between 10 a.m. and 10 p.m. The company had difficulty managing the economics of the grocery delivery business, and it kept membership prices considerably higher than competitors. To become an AmazonFresh member, a customer had to subscribe to Prime Fresh in addition to the subscription of Amazon Prime with a total annual cost of about $299. In contrast, FreshDirect and Peapod charged customers for delivery of the goods purchased, without requiring customers to pay subscription charges. Still, AmazonFresh remains a vigorous competitor in the online grocery sector with a proven history of success C-55in online retail. All the existing and rising competition amid growth in online grocery stores threatens FreshDirect’s future profitability. EXHIBIT 13 AmazonFresh Website EXHIBIT 14 AmazonFresh Product Selection Current Challenges As the online grocery retailing business has matured, all players realize they must pay close attention to customer perception. Online grocery retailers need to “serve their online customers just like they would serve the customers who come into their physical stores.”38 Even mighty Amazon has suffered grocery delivery failures, from out-of-stock problems to delivery glitches and website crashes. Unique challenges confront the business model. Even though FreshDirect has been able to woo local New Yorkers, gaining a Fast Company “Local Hero” award, the company has had to absorb “hundreds of thousands of dollars in parking tickets to get its customers its orders within the delivery window.”39 Some investors have shown confidence in FreshDirect’s brand and its strategic approach to expanding outside the New York metro area. J.P. Morgan Asset Management group invested $189 million through its PEG Digital Growth Fund. However, expanding national operations is a challenge for FreshDirect’s business model because most people residing outside metro areas own cars and prefer handpicked grocery shopping at nearby stores. According to research published by Morgan Stanley in 2016, about 67 percent of the consumers surveyed stated that they did not buy groceries online because they liked to select the fresh products themselves.40 The study suggests that buying fresh products online remains an unwelcoming idea for most consumers. Environmental concerns have started to creep in as a major issue for FreshDirect. First, because of the conveyor packing system at the processing facility, FreshDirect is forced to use lots of cardboard boxes to deliver groceries: Produce comes in one box, dry goods in another, and a single tube of toothpaste in its separate cardboard delivery container. Although FreshDirect has transitioned to the use of 100 percent post-consumer recycled paper,41 the reusability of the cardboard boxes is limited and the general public is aware that its tax dollars are used to “collect and dispose of the huge stacks of cardboards that FreshDirect’s customers leave in the trash.”42 As one environmentally conscious consumer observed, “I was baffled by the number of boxes they used to pack things. Groceries worth $40 came in five boxes. And after I unpacked, I had to discard the boxes. There was no system of returning them to FreshDirect to be recycled.”43 A second environmental issue is the additional exhaust fumes FreshDirect trucks contribute to the urban atmosphere.44 Issues of this nature were at the forefront of citizens’ concerns regarding the environmental impact that FreshDirect’s move into the South Bronx would have on their neighborhood. Third, FreshDirect trucks double-parking on busy city streets only makes traffic congestion worse. As one commentator stated, “It’s probably no exaggeration to say that FreshDirect has built its financial success on its ability to fob off its social and environmental costs on the city as a whole.”45 Some city dwellers even express concern about FreshDirect’s adverse effect on the overall makeup of their neighborhoods: “It is not just the impact they have on congestion, pollution, space, etc., but their very adverse impact on the best of businesses in neighborhoods that they can undersell because of their externalized costs. It is these small businesses, farmers markets and local grocery stores, that FreshDirect undercuts, that are some of the best businesses for supporting and preserving our walkable, diverse and safe neighborhoods.”46 In 2015, a New York federal court decided that FreshDirect must pay $1.2 million in response to a class action lawsuit against the company that it withheld $23 million in tips and wages.47 A group of FreshDirect’s delivery workers claimed that the company charged delivery fees in excess of their fuel and delivery costs. FreshDirect’s customers were under the impression that the additional charge was going into the pockets of delivery drivers. FreshDirect had violated regulations under the Fair Labor Standards Act by not paying overtime wages to its workers. As a result, FreshDirect has increased wages for its employees and claims that the average wages for the company’s hourly employees are now $12.52 per hour as compared to the federal minimum wage of $8 per hour.48 A another major issue for FreshDirect is its customers’ concerns about how fresh the produce and meats really are. One of the biggest obstacles to the growth of online ordering of groceries is the inability to view and touch food, particularly fresh produce and meat. Online customers cannot pick up and thump a melon or peel back the leaves on a head of romaine lettuce to check for freshness the same way they could in the grocery store. FreshDirect has received numerous comments from consumers which basically state, “I can’t see, touch, and smell the products. I have to rely on you.” This lack of control over identifying the freshness of the food is a major concern for customers. The company has recognized the problem and spun this negative aspect of online shopping into a positive one by creating a food-quality rating system. Consumer feedback has jump-started a new way of doing business for FreshDirect.49 The company’s Daily Produce Rating System ranks the quality of fruits and vegetables available for delivery the next day. The five-star rating system gives shoppers “a foolproof way to ensure that the ripest fruits and crunchiest veggies are consistently delivered to their doorsteps,” as advertised at the company’s website. The Daily Produce Rating System is based on a daily inspection of all produce in stock by a quality assurance team. Rating criteria include taste, color, firmness, and ripeness. Rankings are based on an easy ratings scale:50 • Five stars: “never better, the best we’ve seen.” Four stars: “great/delicious.” Three stars: “good/reliably decent.” Two stars: “average/inconsistent quality/generally OK.” One star: “below average/expect wide inconsistency in quality/probably out of season.” • C-56 Results are updated each morning on FreshDirect’s website to let customers know which fruits and veggies are the best bets for the following day. FreshDirect also offers the same five-star rating service for seafood; some 50 to 70 percent of its customers use this feature.51 The system aims to simulate the in-store shopping experience, allowing the grocers to showcase their best stuff and customers to decide what looks good. “Not everyone is an expert on the seasonality of a fruit or vegetable, so this system takes the guesswork out of choosing the best available items,” says FreshDirect’s former chief marketing officer Steve Druckman. “Each of the buyers and managers who rate the produce have years on the job, so they have great expertise. I am not aware of any other online or conventional grocer that’s developing a system such as this.”52 However, the strategy comes with a big risk: To gain customers’ trust, FreshDirect has had to acknowledge that not every item it stocks is picture-perfect every day. Before implementation not everyone at the company was enthusiastic about the idea. Many feared backlash from consumers about FreshDirect’s products’ not always being top quality. “Was it scary? Yeah!” recalls Glenn Walsh, the produce manager. “I thought it was insane in the beginning.” 53 Despite the risk, the company claims that the rating system has changed consumer buying patterns. Around 70 percent of customers say they have purchased something they wouldn’t have if it weren’t for the rating system. Druckman asserts, “One hundred percent of customers changed buying patterns. The rating system works. If we put something out like black seedless grapes or golden pineapples with four stars, we’ll sell twice as many of those because of their rating than otherwise.”54 FreshDirect has upgraded the company’s website, using an internal database to profile customers and serve a customized online experience. For example, the site’s software analyzes order patterns, reminding customers of their favorite products and suggesting other items they might like, a marketing tool that works well for Netflix and Amazon. The database recognizes whether a visiting customer is a new, infrequent, lapsed, or loyal customer—and provides appropriate messages and ads. A final major issue for FreshDirect is its new second distribution center in Prince Georges County, Maryland. In the second quarter of 2017, FreshDirect started offering service in Washington, D.C., Virginia, and Maryland as part of a business expansion plan.55 It is yet to be seen whether FreshDirect will achieve success from the expansion, as Peapod has a strong foothold in the Washington, D.C., market as well as in the nearby cities. Relay Foods, a Charlottesville-based online grocer, has been operating in the Washington, D.C., market since 2008.56 FreshDirect also faces competition in the area from large supermarket chains, including Giant and Safeway, offering delivery service. FreshDirect’s second distribution center appears to face more competitors from the start, offering yet another challenge for FreshDirect managers. According to research conducted by Morgan Stanley, comparing the year ending 2015 to the year ending 2016, “In the U.S., online grocery penetration [is] expected to increase from 8% to 26% for fresh foods, and 16% to 28% for packaged foods.”57 But despite all the innovations in e-commerce and service offerings, given the rising competition in online grocery services and the persistent preferences of most consumers to handpick fresh food, FreshDirect may still have a long way to go.
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