Instant commerce was a somewhat nascent industry before 2020. The pandemic accelerated consumer demand and drove the emergence of start-ups offering ultrafast delivery of groceries and essential items. These delivery services provided a convenient alternative for consumers avoiding in-person shopping and served as a lifeline for the most vulnerable individuals in our society.
Now that restrictions have eased in most countries, there are questions around whether the business model underpinning instant commerce services remains feasible.
Jessica Moulton, a London-based partner who leads McKinsey’s Consumer Packaged Goods Practice in Europe, spoke with Thomas Farrar, a manager of communications in the firm’s UK office, about the future of instant commerce for grocery and retail.
Thomas: What’s the appeal of these services for customers?
Jessica: It’s a great proposition for people willing to pay for convenience. I expect most of us have probably been in that situation when you are cooking a meal and you discover you are missing one key ingredient. It can be frustrating. So, one can imagine getting into a mode whereby instead of leaving the house for just one or two items, a customer is willing to pay an extra ten percent on these items to have them delivered. If the service holds a broad range of essential items and can be trusted to deliver in the specified time window, it’s not difficult to imagine this model remaining appealing to some consumer segments.
Indeed, a high proportion of local grocery store transactions involve people purchasing a small number of items, indicating a high degree of “top-up” style shopping – purchasing items for unplanned needs that may not have been included in a larger weekly basket.
Outside of these scenarios, some consumers still prefer not to plan their grocery shopping in advance and instead grab daily items. This group is likely to continue to value a service that lets them order whatever inspires them at that moment.
Thomas: What’s been the legacy of the pandemic for instant commerce?
Jessica: The pandemic created a unique set of circumstances that led to a large influx of first-time instant commerce users. Millions of people downloaded delivery apps, became more familiar with the technology, and learnt more about the offerings available to them.
While people are now feeling increasingly confident returning to physical stores, many will have developed new patterns of behaviour throughout the pandemic that they enjoy. Perhaps most significant is the shift to remote and hybrid working for millions of employees, which looks set to continue, and with more people spending time at home, you now have a larger market of consumers who may favour the convenience of doorstep deliveries.
Thomas: In the past year, several instant commerce start-ups have failed. What are the key challenges for the business model?
Jessica: On the face of it, these offerings can feel very similar to the consumer, but there are some differences between the business models supporting these experiences.
One key difference is in the distribution model and whether drivers pick up goods from existing grocery stores or from a dedicated unit that is not open to in-person customers. Much of the innovation and novelty of these newer experiences has centered around the latter model.
Let’s unpack that a bit. Imagine a warehouse in an urban environment: it’s well connected by road, the costs are much lower than a supermarket, and it’s conveniently located in a densely populated area. If the warehouse only holds 1,000 items, the pickers can become quick and efficient and drive down the time and cost to fulfill each order.
On the other hand, capping your stock to approximately 1,000 items means choice for the consumer is limited and you risk appealing only to a small group of customers who are doing the essential item, top-up style shopping outlined above, which isn’t particularly profitable.
In this sense, the business model that delivers the best per-order economics doesn’t appear to be the best business model in appealing to a large market, and of course, like any growth-focused business model, success relies on economies of scale.
That’s really the central conundrum of the instant commerce space and possibly why many start-ups have found it so challenging.
Thomas: What types of businesses are best placed to navigate this conundrum?
Jessica: I think the approach a business takes to navigate this conundrum is somewhat dependent on geography. It’s true of other distribution businesses. Local density can be more valuable than national coverage. The business model that’s optimal for an urban neighborhood is different to the business model that’s best for a set of rural communities. Therefore, I expect we’ll see local winners before we see national winners.
Consider food service companies, where we can see two competing business models playing out. The first model is where a food service company employs its own drivers to make the deliveries. This model relies heavily on much more densely populated areas, otherwise the business will encounter low productivity with drivers waiting around for orders, but the plus side is customers get their food quickly.
The second model involves customers placing an order with a food service company through an app and then the responsibility falling on the restaurant to fulfil the delivery. So, there’s a strong argument to say that in low density settings, the restaurant can do better handling the delivery process. However, the downside of this model is that the restaurant might not be so well equipped to handle deliveries, and might choose to cluster orders, which then impacts the customer experience and waiting times. Meanwhile, the customer is getting hungry.
Consequently, what we’re currently seeing in the instant commerce and food delivery space is a battle for London between a couple of new entrants and a couple of incumbents. This is where the investment is being channeled. Network effects matter and urban density is proving to be more important than national dominance. There aren’t too many winner-takes-all markets, but seemingly—for instant commerce—London could be one of them.
Thomas: A recent McKinsey survey shows that the top concern for UK consumers is rising prices. What challenges will inflation pose for these businesses?
Jessica: The primary lever for instant commerce businesses is price. As I have mentioned, the only way you can make the per-order economics work is if you’re able to increase the price without impacting demand. If prices continue to rise you can imagine customers becoming more price sensitive, which could limit the affordability of instant commerce exclusively to more affluent consumers.
There’s no doubt inflation will be a test for these companies. The question is who can stay the course through a period of diminished demand, while also not knowing exactly how long the economic upheaval could last.
For more analysis and insight on emerging trends in the grocery sector, read McKinsey’s State of Grocery Europe 2022 report