The Big Grocery Shake-Up

Bruno Berretta

Vice President at Clarion Partners Europe

Published Aug 25, 2020

Covid-19 and beyond

The Covid-19 pandemic has catapulted food retailers into the spotlight. They have scrambled to keep shelves full in response to mass panic-buying and fulfil a spate of online orders as many people bought their groceries online for the first time. Some of the behavioural changes triggered by the pandemic look set to be long-lasting. With this mind, we have reviewed supermarkets’ recent activity in the logistics sector in the context of their broader strategic planning and assessed how the trends accelerated by Covid-19 may impact their logistics property requirements going forward.

Importance of supermarkets for UK logistics property

Discounters lead take-up

The supermarkets chains examined have taken directly or through third parties around 12 million sqft of distribution space since 2015, equating to 7% of gross take-up. However, portfolio consolidation by more established operators has diluted net absorption driven by discounters’ rapid network expansion. Over the last three years, for example, Tesco vacated some 2 million sqft of warehouses. Overall, food retailers are estimated to occupy over 70 million sqft of distribution space nationally.

Typically, freehold has been the preferred form of occupation for larger, strategic requirements (accounting for 60% of the space taken over the last five years, but only 38% of the number of units) but one size does not fit all. Around the Global Financial Crisis (GFC), for example, Sainsbury’s sold and leased back many of its distribution warehouses.

South East Focus

Activity has traditionally spread out geographically to support regional stores’ network growth. The focus appears to have shifted towards the South East lately, as discount retailers have looked to fill in gaps in their national distribution networks traditionally more geared towards the North/Midlands. Around 50% of distribution space taken by supermarkets since 2015 is in London and the South East.

Food retailing trends relevant to logistics property

To satisfy changing consumer expectations, food retailers are gradually embracing the “Amazonification” experienced by the rest of the retail world. Three main trends are taking shape:

Food demand is “ripe” for online

So far, both demand and supply factors have held back online groceries sales. On the demand side, “convenience” considerations have traditionally steered consumers towards their local shops for grocery shopping. While no doubt many will go back to shopping in-store as soon as the pandemic subsides durably, some of the newly acquired online customers will continue to shop online. M&S said 365,000 of its existing customers had used its website for the first-time during lockdown, while another 315,000 had either tried it out or returned as shoppers.[1]

Capacity is building

On the supply side, the pandemic has forced supermarkets to rapidly ramp up their online capacity to meet demand. Tesco for example has increased capacity from 600,000 to 1.3m slots per week[2]. This means many brands are now better placed to service existing and new online customers. Supermarkets with limited or no digital offering were already considering a move into the online space pre-Covid 19. Lidl, for example, is rumoured to be on the verge of launching its online platform sometime this year[3].

The cost of fulfilment has been an issue for most food retailers – the average cost of fulfilment is upwards of £10 per order – considering the charge for delivery to the consumer is anywhere between £1.50 and £5, then the cost of online delivery is high for the retailer. Given the rapid increase in capacity during the lockdown, it is likely that the cost of fulfilling each order will have fallen. Generally, the scope to increase delivery fees may be constrained by growing competition. Amazon for example has recently announced it is waiving fees for 2-hour delivery slots for its Prime memberships in London and a number of other areas[4].

Given these ongoing changes, even when the Covid-19 crisis is over, it is not unrealistic for the share of online groceries sales to remain in double digit, from 5-6% pre-Covid-19. According to the ONS, in July online sales accounted for 11.0% of the total food retail sales, only marginally down from the peak of 11.3% in May/June.

Faster deliveries

The grocery sector got a shakeup in 2017 when Amazon bought Whole Foods in a deal that consisted of seven grocery stores in and around London. This not only gave Amazon access to a small portfolio of physical sites but enabled them to roll out one-hour food delivery in London for Amazon Prime members. Incumbent grocers had to take note, and most have since rolled out a similar service in city centres. The Co-Op now plans to offer same-day online city-centre deliveries from 650 stores by the end of the year.[5] Sainsbury’s launched Chop-Chop, where customers can have up to 20 products delivered within an hour. Similarly, Ocado recently launched Zoom, its new one-hour delivery service. Currently the service is available only to customers within a 5km radius of its Acton warehouse in West London. The products are sourced from the main Ocado distribution centre in Hatfield and taken to Acton once a day.[6] Recently, Aldi has announced a joint venture with Deliveroo to deliver orders from a range of 150 essential products within 30 minutes. The concept is being trialled in in Nottingham with plans to extend it to seven stores across the east Midlands next month.[7] Fast deliveries could become a new normal and could serve as top-ups between larger shops.

Real estate impact

More demand for “dot.com” depots going forward

Greater penetration of online groceries will undoubtedly boost demand for warehousing space from dedicated online operators like Ocado. Ocado continued to add depots to their network and plan to increase their order fulfilment capacity by adding eight sites over the next 12 years[8]. They recently added their first “spoke” depot in the North East and are reportedly seeking new hub units of circa 400,000 sqft in the North West and in Scotland.

At the end of last year, the company announced the launch of their first mini consumer fulfilment centre (CFC) in Bristol, a format that it is designed to offer greater choice in areas not suitable for larger CFC depots.[9] The roll-out of the above-mentioned Zoom service should push Ocado deeper into urban centres. For example, the online supermarket has recently signed a lease for a 32,600 sq ft former retail warehousing unit converted to warehouse in Merton, south London.

"Potentially we can open up these Zoom sites in really tight urban locations and only have to deal with one delivery a day”[10]

George Dean, senior commercial manager of Ocado Zoom

Other operators are having to up their game for strategic reasons. Waitrose has been busy ramping up its online fulfilment capacity to go it alone when its joint venture with Ocado comes to an end in September this year. In May, it opened a new 110,000 sqft CFC in Enfield that will double the online grocery orders it can handle in London (+13,000 weekly delivery slots). [11] This depot will operate in tandem with a 75,000 sqft facility in Couldson that covers South London. Waitrose’s online grocery sales grew 13% in 2019/20 compared to 0.2% decline for Waitrose as a whole.[12]

A factor that may curb new demand is the quantum of unoccupied/underutilised space that some supermarket chains have in their distribution depots (often let on the long term). As seen at the onset of the pandemic, some companies have re-occupied this "grey" space instead of seeking new premises.

Presently, C&W estimates that “dot.com” fulfilment depots and “dark” stores account for over 5 million sqft of distribution space nationally. While this is roughly the amount of space taken by Amazon over a single (good) year, it is an area where we expect further growth and innovation.

Some will prefer to leverage their retail estates for distribution

Many brands will continue to leverage their high-street branches to fulfil online demand (either through delivery or click-and-collect). Generally, the economics of online requires big weekly baskets and with the return of convenience purchases this is less likely to be the case. Also, some supermarkets can’t afford to lose market share regardless of issues with online profitability, and their buying power with suppliers is often more important than property considerations.

That said, there are often inefficiencies in in-store fulfilment:

· Reduced range of products

· Units not configured for optimal handling of large volume of online orders

· Labour intensive nature of e-fulfilment and interference with shoppers’ experience

· Difficulties in serving rural areas

These may reinforce the case for “dark-stores” in some instances. The shift to online shopping presents supermarkets with an opportunity to reduce the amount of more expensive retail space they occupy, or to repurpose it. For example, to double its online capacity in the UK, Tesco plans to convert under-utilised retail floorspace into micro-fulfilment centres. Tesco is trialling the concept in its West Bromwich branch, with a view of rolling it out to more than 25 stores over the next three years[13]. Sainsbury is trialling a new, expanded beauty offering in eight stores.[14]

Overall, for food retailers, decisions regarding fulfilment of online orders and the optimal equilibrium between retail and warehouse space will need to be balanced against margins in what remains a very competitive market that tends to prioritise market share over profit. Surely, logistics property looks set to emerge as net beneficiary of the trends currently shaping the food retail sector.

Author:

Bruno Berretta, Associate Director, UK Research at Cushman & Wakefield

Sources:

[1] https://www.theguardian.com/business/2020/may/20/coronavirus-changing-shopping-habits-forever-says-ms-chief

[2] https://www.tescoplc.com/news/2020/first-quarter-trading-statement-202021/

[3] https://www.chargedretail.co.uk/2020/01/14/lidl-expected-to-launch-uk-online-shop-this-year/

[4] for orders above £40.

[5] https://www.prolificnorth.co.uk/news/digital-agency-news/2020/02/co-op-launches-online-store-and-home-delivery-service

[6] https://www.essentialretail.com/features/ocado-zoom-igd/

[7] https://www.theguardian.com/business/2020/may/18/aldi-joins-with-deliveroo-to-start-grocery-deliveries-coronavirus

[8] https://www.thegrocer.co.uk/ocado/where-will-ocado-retail-place-its-mini-cfcs/600054.article

[9] https://www.thegrocer.co.uk/ocado/where-will-ocado-retail-place-its-mini-cfcs/600054.article