Kroger's E-Commerce Deal Seen as Warning Shot in Food Battle

(Bloomberg) -- Kroger Co. is showing some fight.

The largest U.S. grocery chain, battered by doubts that it can thrive as Amazon and Walmart siphon off food customers, took a big step on Thursday by teaming up with Ocado, a British online grocer known for automated warehouses where robots quickly fill orders. It gives the supermarket giant a pathway to create its own delivery network.

It was the boldest e-commerce move yet for Chief Executive Officer Rodney McMullen, whose Cincinnati-based company is facing intense competition in an industry notorious for its thin profit margins.

“This puts Kroger on an entirely different level,” said Jennifer Bartashus, an analyst at Bloomberg Intelligence. “This is definitely a warning shot that Kroger is is serious about online retail and grocery delivery.”

Kroger investors cheered the news, sending shares up as much as 5.7 percent to $26.37, the biggest intraday gain in more than five months. The stock had slipped 9.1 percent this year through Wednesday’s close.

In the aftermath of Amazon’s takeover of the organic grocer Whole Foods, Kroger has been investing in its so-called click-and-collect program, which allows customers to order groceries online and pick them up in stores. They’ve also partnered with third-party delivery services, including Instacart, as shoppers warm to the idea of getting food sent directly to their homes.

In the U.S., less than 2 percent of groceries are bought online, a number that is widely expected to climb as Amazon ramps up its push with Whole Foods. Walmart, battling with the online giant to control U.S. consumer spending, has been making costly investments in e-commerce to protect its grocery business, which generates more than half of its revenue.

Pressure Point

The competitive pressure has squeezed Kroger, which has struggled to raise prices and seen its profit margins take a hit. The main concern about the company, which operates more than 2,800 stores, has focused on its ability to adapt to the e-commerce shift. Earlier this year, Bloomberg reported that Kroger was spurned after making a $400 million offer for Boxed Wholesale, the so-called online Costco for millennials.

Kroger had a small stake in Ocado and now has agreed to buy an additional 5 percent of the company and license its technology, which helps other grocers run automated warehouses and deliver food. The deal was valued at about $250 million. Ocado shares surged 45 percent on Thursday, adding more than $2 billion to the company’s market value.

Kroger and Ocado had discussions about a partnership over the past couple years, with the talks heating up in recent months, according to McMullen. The companies are working on identifying sites for three automated distribution centers this year and may open as many as 20 within three years. Preliminary work on the first three sites is underway, McMullen said.

More Complex

Delivering groceries is more complex than selling books or video games because food needs to be stored at the right temperature to ensure it doesn’t spoil. Ocado’s software helps trucks take the best route, so that deliveries arrive at the customer’s door within a one-hour window.

For Kroger, the partnership is about serving customers who are shifting their grocery-buying habits, McMullen said.

“It’s about using our technology and data so that customers can move back and forth,” he said in an interview Thursday. “It really accelerates our ability to offer a seamless experience.”

A key for Kroger will be maintaining market share as the company waits for the new distribution centers to built. Two years is a long time, particularly as Amazon starts pressing the gas pedal on its integration of Whole Foods.

Kroger has a shot to hold its own as the grocery battle heats up. But smaller, regional grocers might not be so lucky, Bartashus said. Bankruptcies have already started piling up in the wake of the Whole Foods purchase.

“It portends continued consolidation in the industry,”Bartashus said. “If the smaller guys can’t figure out a why to have a similar level of service, it’s only going to get worse.”

To contact the reporters on this story: Craig Giammona in New York at cgiammona@bloomberg.net, Sam Chambers in London at schambers7@bloomberg.net.

To contact the editors responsible for this story: Anne Riley Moffat at ariley17@bloomberg.net, Mark Schoifet, Nick Turner

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