OCADO

An overview of its operations as an added value and its future challenges

Hult International Business School

February 2020
Introduction
Ocado is a dedicated online supermarket, being the first of its kind in the UK and the biggest
in the world, thriving where others had failed in the past (Slack and Brandon-Jones, 2018). It
supports its operations in high-tech processes and equipment, using proprietary knowledge
to develop solutions for online retail operations (Ocado Group, 2016).

Despite online grocery retailing is not a novel business model, the main difference between
Ocado and a regular supermarket as Tesco, is regular supermarkets mainly deliver the
groceries after picking them from a store, while in case of Ocado, all the operations happen
in its Central Fulfilment Centres (CFC), as we can see in Figure 1. This business model allows
Ocado to bring a higher service quality as well as shorter delivery times than its competitors
(Slack and Brandon-Jones, 2018):

Ocado’s operations model: A competitive advantage and a business line

As Ocado approach is to bring groceries from its suppliers directly to its costumer’s kitchens
by an easy to use and convenient interface, it has developed and operate an end-to-end
solution, relying on an operating model built on technology, physical infrastructure
solutions, and logistics skills, as we can see in Figure 2 (Ocado Group, 2016).
Furthermore, these operations are optimized not only by task automatization, but also by
proprietary technology and software algorithms application, lowering many of the costs
incurred in traditional grocery retailing (Ocado Group, 2016).

Moreover, since this is a scalable model, Ocado offers its implementation to other retailers
as partnership. Recently, Ocado announced its partnership with AEON (Japanese retailer, 14
countries, 20,000, 100 million customers) to develop an online grocery service in Japan
using the Ocado Smart Platform (Conway, 2019).

Ocado Smart Platform (OSP)

The Shop Platform
Ocado’s platform is composed by the retail webpage and apps, as well as the back-end
systems to manage the content and algorithms to personalize recommendations and
features, offering a better shop experience.

The Robotic Warehouse

As mentioned before, Ocado runs its operations in customer fulfillment centers (CFC) as
large as 11 football pitches, where stocks are delivered, then held and finally picked in each
customer order. These warehouses are intensive in technology and structure, with robotic
collectors that can pick up 65,000 orders per week (Tech Insider, 2018).
These centers are run by complex proprietary algorithms that allow the robots to know the
order in which to place items, as well as the nature of them, so the fruit won’t be squashed
by a heavy item or be contaminated with bleach. Moreover, the products are dispatched at
the same time, and taking into consideration the temperature (ambient, chilled) to
maximize delivery time along with van usage (WBR, 2019; McDonald, 2018).

Furthermore, Machine Learning is used to solve day-to-day problems, as well as to increase

productivity by training the big amounts of data available (sensors, pick stations, robots,
etc.), allowing some processes to be controlled entirely by an AI (WBR, 2019), reducing labor
costs.

The Home Delivery Network (HDN)

HDN has been developed to maximize customer delivery options and minimize the costs of
operations, by picking and planning optimal delivery routes through software solutions.
Likewise, to secure a better customer experience, drivers are hired by their customer service
capabilities and then trained to drive (Edwards, 2015).

Competitive advantages as Online Retailer and as Technology Supplier

As we can see in Figure 4, the proprietary technology, experience, innovation, the day-to-
day solving problems, and the constant pursuit of efficiency in its retail business model,
have allowed Ocado to be not only a reference in the online retail market, but also as a
worldwide supplier of its own technology, the Ocado Smart Platform, having corporate
clients in USA, France, Canada, Sweden, Spain, Australia and Japan (Ocado Technology,
2019).

Advantages as Online Retailer

The features mentioned above, in addition to logistic skills, have allowed Ocado to reach
levels of growth, efficiency, productivity, and customer service that stand out from UK
groceries. These efforts were reflected in the ICS’s biannual UK Customer Satisfaction Index
(UKCSI) of 2019, being recognized as Top 6 in general and Top 1 in grocers (Jahshan, 2019),
as well as the Fastest-growing grocer by Kantar Wordpanel (Jahshan, 2019). Moreover,
Ocado’s Gross Margin is higher than the Top 10 grocery retailers (34.3%), followed by its
partners Waitrose and M&S (starting September 2020) as we can see in Figure 5:
Advantages as Technology Supplier
Ocado’s main advantage as technology
supplier is its own online retail business
model itself, which has been proved and
continuously enhanced by its daily
operations, being able to offer a proven value
proposition on margins along with a high-
quality service.

Moreover, Ocado’s solution (equipment,

technology, logistics, etc.) is scalable and can
be built in multiple phases, maintaining
capital and operative efficiency as better as
possible despite the size, making the solution
economically attractive (Ocado Group, 2016).

Challenges for the future

Ocado has been facing some concerns during the last months, from the risk of losing clients
after the end of its partnership with Waitrose in 2020 (Wood, 2019), a fire in one of its CFC,
to the menace of new competitors that offer smaller and more efficient solutions with
grocery picking robots, the micro-fulfillment centers (MFC). MFC’s require less space,
budget, and time to be implemented: a CFC needs 300,000 to 400,000 sf of space, a budget
of US$55mln, and two to three years. In comparison, MFC requires 5,000 to 20,000 sf and
can be built closer to urban centers, inside an existing grocery or adjacent to it, saving
operating costs (Freshfruit, 2019).

Furthermore, despite steady gross margins around 34%, Ocado’s operating income is
reducing consistently, explained because the revenue growth rate has been lower than the
one of the operating expenses (around 17%), as we can see in Figure 7:
Thus, it could be a concern that investments are not becoming revenues in the short time,
which can be seen in the reducing Total Assets turnover and the ROA:

Therefore, as it was observed by HSBC, in order to succeed, Ocado requires to make its
corporate business worthwhile in the short term, because the online grocery won’t be able
to afford all the operating costs by its own (Hopkins, 2019), even more when £500mln more
debt has been issued to help fund Ocado’s global expansion.

A critical task to remain competitive and overcome operating losses in the short term, is to
face the new challenges imposed by MFC, by adapting Ocado’s technology to attract
customers that need smaller solutions because of their budget, time, available space, or
logistics. Similarly, it could be a mix of both sides (CFC and MFC) to offer the best of both
worlds taking advantage of its strong experience, offering an improved scalable solution,
and achieving greater volumes.
Conclusions
As we have reviewed, probably the actual market value of Ocado is not that of a retail
grocery, but from a technology company that not only has been investing in innovative and
proprietary technology, but also improving continuously its operating model to be
implemented on other companies.

Nevertheless, the amount of money and time that requires implementing the model may
have been too broad, allowing the rise of new challenging technologies as well as preventing
a quicker revenue stream.

Hence, Ocado needs to take action on improving its business model to secure more
corporate clients, slowing the investment in PPE and trace a plan to reach its breakeven
level in the short term. So, the disrupting grocery retailer should disrupt once again but its
own business model, in order to cope with new challenges.
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