Webvan Online Grocery Case Analysis: Strategy & Failure

Executive Summary

This analysis considers the Webvan strategy and its market position in order to serve as a basis for recommendations to Webvan's management team. Webvan was once the largest online grocery enterprise in the United States. However, it is now considered a classic large-investment failure, despite the fact that the total industry volume exceeded one billion dollars per year while the online segment alone exceeded two hundred million dollars annually. Webvan failed to live up to expectations despite the large amount of capital at its disposal.

Webvan began in 1998 as an innovative business idea that excited investors and drew significant support from those already caught up in the dot-com phenomenon. However, the company ultimately botched the opportunity to attract and develop a customer base large enough to justify the large investments it made in technology systems and elaborate distribution warehouses.

Consumer acceptance of the model was found to be relatively low. With hindsight, it is recommended that the company should have incorporated more outsourcing and strategic partnerships to keep its capital requirements at lower levels. Furthermore, the company needed a new strategy to attract and retain customers. It could have narrowed its target market and focused on tribal marketing to narrow consumer groups. By partnering to reduce the capital utilized in the business model, Webvan would have allowed itself greater flexibility in its development.

Webvan developed a unique and innovative business model that was heavily dependent on technology. The company's product mix was composed of approximately 20,000 high-quality grocery items — including fresh fruits and vegetables, meats, and frozen foods — delivered to customers throughout large metropolitan regions. Webvan had no retail outlets; instead, it operated out of massive regional distribution centers of approximately 350,000 square feet each. Using warehouse space allowed the organization to save money relative to the traditional grocery model, which required prime retail real estate. This in turn provided the company the opportunity for higher margins.

Situation Analysis and Market Opportunity

The vision and mission serve as the foundation of the analysis and recommendations, as they also drive Webvan's business model.

Webvan's vision was to provide a faster, cheaper, and more efficient way of delivering items to consumers. Webvan's mission was to deliver the last mile of e-commerce to the increasing number of people making purchases online, by creating an enterprise that would provide a greater variety of products than a conventional store while still offering the instant gratification that online shoppers often miss.

The grocery industry is one of the largest in the world, with annual retail store sales estimated at $650 billion. However, despite the industry's size, it is difficult to operate in because profit margins are slim — sometimes as low as one to two percent of total revenue. Furthermore, the industry is highly price sensitive. The most successful web retail sales of grocery items at the time involved delivery of products several days after the order was placed, via parcel delivery services such as UPS or FedEx. However, Webvan wished to change the distribution channel to make delivery much quicker so that consumers could still have some sense of instant gratification. Yet this business model required an aggressive strategy to overcome the many obstacles that such a distribution channel presented.

Most people prefer fresh groceries that must be delivered quickly to avoid spoilage. Products such as milk, ice cream, fresh vegetables, and meats are difficult to keep fresh during third-party shipments. A number of companies — including Peapod, HomeGrocer.com, Kozmo.com, and Safeway — struggled to effectively establish online grocery delivery services. However, Webvan's executive management believed they could revolutionize the platform. Webvan Group Inc. was headed by Louis Borders, co-founder of the highly successful Borders bookstore chain. Consequently, Webvan's leadership believed they had the talent to develop a model that could overcome the challenges other online grocery players were facing.

Porter's Five Forces analysis provides insights into the industry and the external environment. Webvan had to contend with a high threat of substitute products, intense competitive rivalry, and consumers who possessed a high level of bargaining power. Webvan was attempting to use an aggressive strategy to enter a market that was challenging, to say the least.

Although Webvan only competed with a limited number of online grocery operations, consumers had many options for purchasing grocery items. Consumers could easily visit traditional brick-and-mortar operations for their grocery needs. Convenience stores also carry many items that consumers need quickly. There is also the option to dine out, order carry-out, or have food delivered, eliminating the need for fresh groceries entirely. As consumers are often pressed for time, dining out or grabbing fast food was becoming an increasingly popular option.

Porter's Five Forces and Competitive Review

Since the grocery industry is mature, fierce competition already existed among traditional grocery stores such as Kroger and Walmart. There was also rivalry among emerging online distribution channels. Both types of competition had to be considered, since Webvan was attempting to craft something of a hybrid model between the two existing approaches.

The threat of new entrants to the market was extremely low. The immense capital requirements needed to break into the industry are prohibitively large. Large capital investment is required to create economies of scale sufficient for a manageable profit margin. Webvan was able to gather the needed capital to develop an entirely new distribution channel; however, this feat was most likely not reproducible by many other organizations.

Most vendors supplying grocery retailers have very limited bargaining power. This stems from the large number of vendors competing in virtually every product category. Despite some locally grown fresh produce — such as fruits, vegetables, and milk — that must be sourced from local distributors, most vendors are largely price takers. Companies like Walmart have been known to dictate terms to their suppliers. Webvan therefore had a large pool of suppliers competing for its business. The case notes that Webvan had already created strategic partnerships with companies such as Pillsbury, General Mills, and Procter & Gamble.

The bargaining power of buyers is extremely high in this industry. Although consumers do not directly negotiate prices, switching costs when moving from one vendor to another are relatively low. Many products and distribution channels are fairly well standardized, and consumers can shop for the same product or a close substitute at a wide variety of locations — either online or through brick-and-mortar establishments. If customers are not fully satisfied with the online service, the low switching costs make it easy to return to a previous vendor. Many consumers are price sensitive precisely because of this ease of switching.

By the year 2000, it was estimated that approximately half of all U.S. homes would have a computer, and about sixty million people would have access to the internet. In 1998, the average internet user was spending close to an hour per day online. The most common internet user profile was someone in an urban or suburban area with an income exceeding fifty thousand dollars per year, and a majority of this demographic was college educated. Suburban families would likely spend over one hundred dollars per grocery order. In a majority of these families, females generally made online purchases, typically between 8:00 a.m. and 1:00 p.m. Many of these families included a stay-at-home parent who placed high value on free time, making them an ideal target market for Webvan to pursue.

Webvan's two main competitors were Peapod and Home Grocer. Peapod was the larger of the two and had reached a level at which it could provide some quantities of scale. Peapod added value to consumers by providing additional product information not typically found at a brick-and-mortar store. Home Grocer operated more as a discount operation, marketing itself as a vendor from which customers could order directly from the distributor. Both competitors relied on large warehouses to distribute products, but not nearly on the scale that Webvan intended to develop.

Webvan developed a strong brand image. The company's leaders built intelligent delivery systems based on high-technological infrastructure, which allowed for competitive prices. The company also offered friendly customer service and a flexible, secure payment system. Webvan's management team was composed of experienced professionals who had worked on startup opportunities before and knew how to develop a business. Webvan also advanced logistics technology and distribution channels, inventory forecasting systems, and high levels of integration with suppliers.