Grocery Wars: Implications for Lotteries

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1 Grocery Wars: Implications for Lotteries Written by: Danny Bogus DIGITAL GAMING GROUP Lottery Consulting for the Digital Era

2 Executive Summary Grocers represent an important segment of retailers that support lottery sales. They are also one of the largest commerce sectors in the country at an estimated $650 billion annually. Grocery retailing has largely been subject to incremental change in recent years. But emerging trends suggest this market is ripe for large-scale disruption. Online grocers are aggressively competing to take market share while local delivery services are effectively taking the shopping experience out of the store. Online grocery sales are nascent, yet already account for one percent of the overall market. Consumers across all age segments are increasingly likely to try online models of grocery commerce. Traditional retailers are responding to these threats by increasing hybrid services such as curbside pickup to protect their existing business. Even within the store experience, self-service checkouts are pervasive and in-store scan and pay apps are emerging. These market forces pose questions about the future inclusion of lottery within digitally-aided shopping experiences. As the landscape of grocery commerce is reshaped, the lottery industry becomes increasingly at risk for lost customers and sales. Without knowing which shopping model will prevail, it is difficult for lotteries to adapt their business models to align with the future of the grocery industry. Nonetheless, it is increasingly important for lotteries to begin taking steps to ensure the continued integration of product sales within retail distribution networks. 2

3 A Convergence of Trends In 1999, HomeGrocer.com raised more than $100 million in investments in an effort to revolutionize grocery shopping. However, the company quickly filed for bankruptcy in 2001 after an inability to control expenditures and turn profitability. Supply chain complexities, high delivery costs and slow internet speeds were all cited as contributing factors to the company s demise. For many years after, online grocery retailing was largely perceived as an unsustainable business model. The complex challenges of logistics and the resulting cost model made it far from competitive to traditional retailers. Further, consumer confidence in online shopping was not well established and online retailers with brand credibility had not yet emerged. Mobile commerce didn t even exist yet. Fast forward sixteen years. A proliferation of mobile devices has revolutionized modern society. The use of big data has enabled companies to make shopping experiences more personalized and convenient for consumers. The sharing economy has made many services cheaper and more accessible. Amazon surpassed Walmart s market value and has built a reputation among consumers for simple, convenient and fast online shopping. More than ever before, there are a variety of rising trends in the United States that are likely catalysts of disruption to the conventional grocery store model. Beyond any single trend, it is the convergence of many that pose the greatest threat to the industry at large. At a point of convergence the change will be rapid and lotteries may be forced to act hastily if they have not already taken precautionary steps. 3

4 Trends The Sharing Economy The sharing economy is alive and growing at astonishing rates. Companies such as Uber, Lyft, and Airbnb represent early pioneers of the sharing economy trend. They allow consumers to cheaply and broadly obtain services, such as car rides and vacation rentals, while enabling people to monetize their otherwise dormant time and resources. The majority of income from Uber and Lyft are currently generated from taxi-like services. However, these companies intend to compete for market share in the broader transportation industry with services such as restaurant and grocery delivery. In fact, Walmart recently partnered with Uber and Lyft to test grocery delivery services in select markets. Instacart, founded in 2012 and already available in 19 states, is a service that will shop at multiple stores with the promise of one hour delivery. Akin to Uber and Lyft, the company leverages the sharing economy to source shoppers and drivers in order to scale its operations quickly and cheaply. Similar services such as Google Express and Shipt are now competing for market share in this space. Grocery delivery has long been viewed as impractical for fresh, refrigerated, and frozen foods due to complex logistical planning and high costs to consumers. However, the sharing economy is quickly decelerating costs and increasing the availability of labor that can support the delivery services sector. This trend poses a significant threat to the protections that brick and mortar retailers have enjoyed for decades. 4

5 Trends Autonomous Transportation On September 12, 2016 the U.S. government revealed a Federal Automated Vehicles policy to establish guidelines that promote safety while further expressing the Department of Transportation s view that autonomous vehicles hold enormous potential benefits for safety, mobility and sustainability. This unprecedented move demonstrates the near-term prospects of this technology taking hold. Ford announced that the company plans to offer fully self-driving vehicles by The vehicles, which will be produced without steering wheels and pedals, will be targeted to fleets that provide mobility services. Similarly, Uber deployed a driverless pilot in Pittsburgh, and Lyft has promised fully autonomous cars in the next three to five years. In a related movement, the Federal Aviation Administration finalized the first operational rules this past summer for routine commercial use of small unmanned aircraft systems (i.e., drones). This represents an important step forward to enable the utilization of untapped transportation means in the nation s airspace. For several years Amazon has been conducting extensive drone testing, and Walmart recently applied for authorization to begin a pilot program of its own. As autonomous transportation is adopted, it is likely to further reduce delivery times and costs while increasing scale and availability for consumers As autonomous transportation is adopted, it is likely to further reduce delivery times and costs while increasing scale and availability for consumers. This can provide substantial improvements in the last mile logistics that have been so difficult to pioneer in grocery delivery services thus far. 5

6 Trends Rise of the Smarthome Smarthome device ownership is quickly on the rise - with roughly 25 percent household penetration rates in 2016 and expected growth to 60 percent by Appliances are being manufactured with integrated digital technologies such as connected thermostats, smart lighting systems, and connected appliances. Consumers can typically utilize their smartphone to control these smarthome devices. An emerging movement toward a control hub within the home is starting to become prevalent. Amazon introduced its Alexa service that allows voice-activated control of a connected home ranging from playing music to adjusting climate controls and ordering products from Amazon. More recently, the Google Home device was introduced to compete for control over the consumer in the home. Similarly, Amazon recently released Dash Buttons that allow for push button ordering of common household goods. When a product runs low, simply push a button and the order will be shipped free in two days. Amazon is starting with non-perishable items such as cleaners, snacks, packaged beverages and pet food. However, the program may widen into other categories if it is successful. Online retailers understand that the pathway to success in the grocery war involves winning a battle to get closest to the consumer - and what better way than being integrated throughout the physical world of the home. As the smarthome trend continue, consumers are more likely to change their shopping behaviors in favor of more convenient options such as push and voice-controlled ordering with home delivery. An emerging movement towards a control hub within the home is starting to become prevalent. 6

7 Trends The Subscription Movement Subscription purchase formats have existed for decades, largely in the communications and entertainment industries. While subscriptions to newspapers and magazines have eroded in recent years, new subscription services have emerged from digital providers such as Netflix and Spotify. More recently, a trend toward subscription models is becoming prevalent in other industries such as retail and grocery. In the retail space, Amazon s Prime Membership is a monthly subscription that provides consumers with an assortment of benefits, most importantly free two-day shipping on the majority of their products sold online. The Prime Membership has enlisted tens of millions of consumers already and is driving continued purchase loyalty that is helping to increase Amazon s profitability. Within the grocery industry there is now a large number of subscription model services competing against brick and mortar retailers. BlueApron is a popular online site that allows consumers to subscribe to weekly prepared meal shipments to their front door. All of the ingredients are fresh, pre-measured and prepared for a specific meal. In thirty minutes or less, consumers can utilize the prepacked kit to cook a unique meal each day. These set it, and forget it services also offer consumer convenience for those with a busy lifestyle. As another example, Door to Door Organics is a pure online grocer that specializes in locally-sourced organic foods that are seasonally available. Consumers choose a subscription level that matches their family size, and fresh organic vegetables and fruits are shipped to their door each week. Farmbox Direct, Hungry Harvest, and Green Bean Delivery are all similar produce subscription services available to consumers today. With such a competitive landscape in the online sector, many retailers are finding that subscription services allow them to capture recurring revenue from consumers who may not visit their site with regularity. These set it and forget it services also offer consumer convenience for those with a busy lifestyle. As the subscription trend persists, it is likely to expand the market share for direct to consumer food delivery options. 7

8 Inhibitors to Industry Transformation Age-Controlled Products At this infancy stage, innovations in grocery retailing will focus on products that are easy to manage within the supply chain. Unfortunately for lottery, this means that age-controlled products may be lagging for retailers to incorporate into new delivery models. As a sign of progress, Safeway currently offers alcohol and tobacco products within its grocery delivery service but requires that consumers are present to accept the order at the time of delivery. Unique to lottery sales, pure online retailers are likely to encounter challenges with age, identity and location verification controls. Perhaps it is possible that the verification can be done at the point of delivery acceptance rather than online. In the end, a great deal of discovery work will be necessary to gauge the viability of online distribution of retail lottery products. 8

9 The New Payments Gap The New Payments Gap More than $77 billion in federally funded food assistance is provided to over 50 million individuals each year. Some studies have estimated these consumers to spend 30 percent in additional discretionary income in grocery stores, suggesting the market share of this consumer segment to be $100 billion annually. This represents roughly 15 percent of total consumer spending nationally within the grocery industry. Federal food assistance programs do not presently support online grocery sales. However, there have been strong lobbying efforts and new regulatory actions that are helping to close this gap. For example, the 2014 Farm Bill mandated a pilot be conducted to test the feasibility and implications of allowing retail food stores to accept Supplemental Nutrition Assistance Program (SNAP) benefits through online transactions. In 2015, SNAP provided roughly $70 billion in benefits to approximately 45.8 million individuals. All funds are loaded by way of Electronic Benefit Transfer (EBT) onto reloadable payment cards. Under the online pilot framework, EBT cards will be accepted but cannot be used to pay for fees of any type such as delivery or convenience charges. SNAP-EBT purchases also require a secure PIN to be accepted online, which the e-commerce industry does not yet broadly support. The Women, Infants and Children (WIC) food assistance program provides another $7 billion in benefits annually to roughly 9 million individuals. However, the WIC program is not part of an online acceptance pilot and faces yet another set of challenges. The program has only been shifted to EBT in roughly 21 states to date and the broader market, unlike SNAP, is not yet utilizing an electronic payment system for benefits. A shift to EBT is a first necessary step before online payment processing can occur. Further, online purchasing systems must work with each state-level EBT system in addition to managing complex rules. Retailers have to separate WIC/SNAP eligible and ineligible items within the e-commerce systems, avoid tax on those items, split transaction payment flows, and incorporate special handling of coupons and bottle deposits. The software burdens will be considerable, and retailers will likely be slow to adopt supporting frameworks. 9

10 A Convergence of Trends - Fast, Affordable & Convenient Grocery Shopping The convergence of market trends will likely result in unprecedented affordability, availability and convenience in the grocery shopping experience for consumers. As lagging regulations catch up, the inhibitors to convergence will begin to deteriorate resulting in parity between retail and online channels. Once that occurs, the competitive advantages of online shopping will begin to reshape consumer behavior in unprecedented ways. It is quite possible that the future will be centered around a connected home that synchronizes the delivery of goods and services directly to consumers. Companies like Amazon appear to be making strategic moves to corner this potential future, from developing smarthome devices to pioneering integrated supply chains, while Google and others are quickly following suit. To be clear, it is not just millennials who are interested in shopping or subscribing to an online retailer. In a 2015 Nielsen survey, more than 20 percent of Generation X consumers were already using an online grocery service while another 57 percent were willing to use one. Not far behind, 17 percent of Baby Boomer consumers are already using an online grocery service while another 48 percent are willing to use one. As in-home delivery services erode brick and mortar market share over time, digital technologies will continue to transform the in-store shopping experience. From new self-service options such as scan while you shop to click and collect, the conventional shopping experience will incorporate added conveniences in order to stay competitive. All of these changes pose significant questions as to the future of lottery in retail. 10

11 The Implications for Lotteries Lotteries are still confronting challenges from the past. The emergence of multi-lane checkout formats has relegated lottery sales into the customer service desks of larger retailers and away from broader consumer traffic flow in the store. The dominance of big box stores, who are averse to lottery operational burdens, has resulted in retailer penetration gaps. Additionally, the increase in cashless payments has inhibited growth within the lottery industry. Many states prohibit the use of credit instruments for the sale of lottery products. Even where permissible, retailers have varying policies in relation to the use of credit and debit on lottery products due to thin product margins and high transaction processing costs. This has resulted in a detachment of lottery products from the overall consumer shopping experience. The challenge of cashless payment acceptance is likely to be exacerbated as retailers offer online shopping and in-store convenience apps. These new forms of commerce are built entirely around the use of cashless payments. As their usage grows, the likelihood for lottery products to be overlooked by new and existing consumers will increase. Lotteries must begin taking actions to preserve their future within the new paradigms of grocery shopping. The answer should not be exclusive to launching direct e-commerce sales for those jurisdictions that are authorized to sell online. Instead, lotteries should actively seek out new ways to integrate product sales into existing retail distribution networks while widening the payments spectrum. With so much unpredictability, one thing is certain: direct collaboration with retailers will be a key to future success. Retailers and lotteries must solve the payments gap together in addition to testing new digital shopping experiences that can incorporate lottery products. In the long run, the continued growth and sustainability of the lottery industry may depend upon creating innovative and fully integrated shopping experiences within retail. ABOUT DIGITAL GAMING GROUP The Digital Gaming Group is a consultancy that is focused on helping lotteries recognize growth opportunities in both retail and online channels through the effective utilization of digital strategies. Learn more at