Where Webvan Went Wrong

Last week’s demise of Webvan came as absolutely no surprise to Tonya and me, since we’d been Webvan customers – for a while – after their acquisition of HomeGrocer a year ago. We’d seen the differences in the way the two companies did business, and while HomeGrocer certainly had an uphill battle to survive, Webvan seemed set on driving the company out of business. Here are a few of the many places they went wrong, particularly in comparison with HomeGrocer, the Seattle-based service that got us turned on to Internet grocery shopping in the first place.

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Too Much Money to Burn — I’ve seen differing numbers for the amount of money that Webvan burned through, but it’s between $800 million and $1 billion. That’s a lot of money, and is indicative, I think, of both the exuberance of the Internet investment community when Webvan started and the belief that any sort of shopping could be done better on the Internet than in person. Significant investment is normally a good thing, but in this case the vast sums acted to Webvan’s detriment, not to mention the detriment of the entire industry. Webvan used its money in two basic ways: to build up an expensive infrastructure and to expand rapidly across the country.

Webvan spent huge sums on high-tech warehouses that were designed to revolutionize distribution, but they turned out to be mostly a waste of money. The problem is that all the technology was meant to reduce labor costs, and labor is relatively cheap. Worse, Webvan designed the warehouses so they could scale to 8,000 orders per day, but that’s a lot of unnecessary expense when you’re receiving less than half that many orders. So Webvan would spend something like $35 million on a warehouse, whereas HomeGrocer spent only about $15 million for a much less automated warehouse – you can buy a lot of labor for $20 million. The fancy warehouses didn’t even necessarily work better. For instance, Webvan created an automated freezer room that required only a single employee to pick items for customer orders. But since the freezer room was in fact freezing, no one could stay in there for more than a few minutes without suffering hypothermia. In contrast, HomeGrocer’s low-tech freezer rooms worked fine, since the pickers could quickly run in and out to get the necessary items and stay warm in the process.

Infinite Expansion Creates Infinite Dilution — The grandiose expansion plans Webvan executed even in the face of the dot-com bubble bursting were problematic at best. Most significantly, they put pressure on competing Internet grocers in those markets. In an established, profitable business, pressuring competitors in key markets makes sense, but in a situation where everyone is losing massive sums of money in attempts to gain market share, forcing head-to-head competition just makes it all the more likely that everyone will fail. Numerous high-flying Internet grocers such as ShopLink, Streamline, and, most recently, HomeRuns have fallen by the wayside in vain attempts to compete with one another while trying to set themselves apart from the traditional grocery stores.

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The incredibly complex logistics surrounding Webvan’s expansion plans also made it difficult for management to concentrate on the basic business of serving the customer. (In this case, I’ll give them the benefit of the doubt and assume they were distracted, not just incompetent, though as you’ll see, opinions vary on that count.) We’d had essentially no complaints with HomeGrocer, particularly in terms of customer service, where they always answered their email promptly and were great about providing refunds for the occasional mistake or damaged food. As Webvan took over, our exchanges with customer service gradually became more and more generic, until the last few, which disappeared into the ether.

The final straw for us, though, was when produce quality started to suffer. HomeGrocer employees had always done a good job at picking good produce, so you didn’t feel as though you were losing anything by letting them pick out your peppers and apples. After we received an entire bag of rotten oranges and were subsequently ignored by customer service, we decided to patronize local grocery stores once again. It’s entirely possible that Webvan was buying inferior produce in an attempt to save money at that point, but one of our drivers said that orders were being picked by temporary employees with no incentive to do a good job.

Merge and Die — Acquiring HomeGrocer was also a mistake. Though it made sense on the surface, Webvan botched the acquisition almost entirely, failing to merge the organizations in some ways and overriding HomeGrocer’s leaner approach in others. One painfully obvious mistake was eliminating HomeGrocer’s widely recognized peach logo on the delivery trucks frequenting Seattle’s congested freeways. The peach immediately conveyed the idea of delivering fresh food, whereas Webvan’s unremarkable, characterless "W" logo indicated, well, nothing. Tonya and I jokingly awarded each other "peach points" for being the first to spot a HomeGrocer truck while driving; after the change, we mostly didn’t even notice Webvan trucks. And as we complained to our drivers after the trucks were repainted, they threw away a brand that even toddlers like Tristan recognized.

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If it looked bad from the outside, it was worse inside. HomeGrocer founder Terry Drayton, who left HomeGrocer a month before the acquisition, has been widely quoted as saying, "All I can say is that I am astonished at how staggeringly incompetent [the Webvan management has] proven to be. In our wildest dreams we never imagined that they would be this bad." After the acquisition, morale among the HomeGrocer employees dropped precipitously, to the point where they were openly disgusted with management changes. In the early days of HomeGrocer, the drivers were excited by what they were doing, and that excitement encouraged customers to have faith in the then-unusual notion of buying groceries online. The difference in attitude after the acquisition was particularly shocking.

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Was Survival an Option? If Webvan had held onto much of its money, spent the remainder wisely, concentrated on its original San Francisco area market, and expanded carefully once it had perfected its model, the company might still be around today. The drive to capture market share that was so prevalent in the exuberant days of Internet commerce makes sense in some fields, but in the grocery field, where margins are razor-thin, it’s difficult to see how an unprofitable business model can easily be turned into a money-making one if only there are enough people ordering – 750,000 in Webvan’s case. (It’s a perfect example of the saying: "We lose money on every sale, but we make up for it in volume.")

More interesting is the question of whether HomeGrocer could have survived if the acquisition hadn’t happened. The company was still losing money at the time Webvan came knocking, but customer loyalty in Seattle was extremely high, they had great brand recognition, and they hadn’t lost sight of the fact that their customer service had to win over people who were utterly accustomed to visiting physical grocery stores every week. Terry Drayton has even talked about bringing HomeGrocer back, and although we’re no longer in Seattle to take advantage of it if he does, I’d certainly encourage him to give it a try.

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Despite the tremendous failures of Webvan and so many other Internet grocers, it strikes me that the lesson is not that Internet grocery shopping can’t succeed, but that it requires tremendous care and attention to detail when working out the business model. As indication that it’s here to stay, look no further than traditional grocery stores, which are continuing their limited forays into Internet grocery shopping. Albertsons has slowly expanded their coverage for delivery of orders place over the Internet, the Dutch grocery chain Royal Ahold has a controlling stake in Peapod, and Safeway has a significant investment in Texas-based GroceryWorks. GroceryWorks also just received more money from the UK’s Tesco supermarket chain, which apparently has done a good job of making its Internet delivery service profitable.

<http://www.albertsons.com/>

<http://www.peapod.com/>

<http://www.safeway.com/>

<http://www.groceryworks.com/>

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In fact, the moral may be that creating a new distribution network and stocking warehouses simply costs too much when much of the infrastructure is already available from existing supermarket chains. That may be bad news for Terry Drayton in any attempts to revitalize HomeGrocer, but I think the communities that can take advantage of Internet grocery shopping will appreciate the services no matter who provides them.