Last week I recorded a video clip for an ARC Advisory Group client that sells its products to industrial automation providers. I was asked to provide a concise introductory overview of the factors influencing the warehousing and fulfillment market, and the ways in which companies are adapting their warehouse operations and technology profiles to meet these changing needs. It occurred to me that a concise article discussing these “megatrends” would be an informative resource for Logistics Viewpoints readers to use as a reference and a nice addition to our library of articles. So here it is!
E-Commerce Is The Influencing Factor
E-commerce is in the midst of a long-term, sustained, global growth trend that is transforming the retail landscape. Although the trend is global, the US Census Bureau provides detailed, official domestic estimates that assist in quantifying the magnitude of this transformation. Total US retail sales grew at an average annual rate (CAGR) of 3.4 percent from 2013 to 2018. Meanwhile, the e-commerce portion of these sales grew at an average annual rate of 14.6 percent over that same period (Chart 1). This shift accelerated in 2020 due to the coronavirus pandemic. E-commerce sales in the second quarter of 2020 increased 44.5 percent when compared to the second quarter of 2019. This is likely to moderate, but still remain substantial. E-commerce growth and its effect on fulfillment processes are the primary driver of the megatrends in warehousing and fulfillment.
Processing and Handling
The shift away from retail store sales to e-commerce sales has greatly impacted the characteristics of warehouse operations. A smaller percentage of total inventory units are being sent to retail stores. At the same time, a rapidly increasing percentage of total inventory units are being shipped directly to consumers. The overall number of distinct fulfillment orders is also increasing rapidly (one store replenishment order may be 100 items whereas one e-commerce order may be just one item).
Each fulfillment order requires its own processing such as planning, allocation, and shipping. It also requires its own handling processes such as picking, packing, labelling, and shipping. As a result, a warehouse that moves the same number of physical items through direct-to-consumer as opposed to retail store replenishment will be processing substantially more distinct orders; picking, handling, and separately moving items of a smaller weight and size; and subsequently packaging and labelling this higher volume of items for shipment. These increases in complexity occur just from the disintermediation of retail stores – without any increase in actual units sold. As you can see in Chart 2, e-commerce sales still only represented about 10 percent of total retail sales. However, the percentage is much greater in some product categories. Regardless, the facilities, processes, and technologies were already in place to handle the traditional fulfillment flows. The changes in retail to fulfillment of e-commerce orders are what is generating the changes in warehouse operations.
Much of the competitive dynamics stemming from e-commerce has been attributed to the presence and actions of Amazon. These actions include broad product selection and availability, expedited delivery, and reduced hurdles to returns processing (an e-commerce shortcoming in my opinion). Amazon’s impact on the market through these actions has been termed the “Amazon effect.” As a result of e-commerce growth and these secondary competitive actions, the dynamics among retailers have shifted. The customer experience in traditional store retail was heavily shaped by the shopping and customer service experience. In contrast, much of the customer experience in e-commerce today is shaped by product availability, accurate fulfillment, rapid product delivery, and less burdensome returns.
Warehouse Process and Technology Changes
As a result of today’s e-commerce growth and competitive dynamics, warehouses are pressured to adjust their processes and supporting technologies. Pressures to offer broad product selection are resulting in SKU proliferation – or the requirement to hold an increasingly broad range of items in stock. This trend is encouraging the investment in warehouse technology and automation that supports high storage density (a lot of different items in a given cubic space). The processing of direct to consumer orders is labor intensive, especially when compared to the total value of the order. This is placing cost pressures on warehouses. These pressures are encouraging manual warehouses to reconfigure processes to wring out additional efficiencies. The related process changes are often supported by warehouse software intelligence. Examples include more optimal task assignment, bulk processing activities such as order item consolidation through the use of put-walls, and other means of reducing low value activities while maximizing labor resources. In addition, e-commerce warehouses are investing in automation to reduce their variable costs of fulfillment – and ultimately establishing opportunity for increased profit margins. But these investments require high volumes and time to cover the fixed costs of investment. At the same time, warehouses are dealing with increased variability in order volumes, order profiles, and other measures. This variability is increasing the value of adaptable automation – as automation investments must remain aligned with fulfillment requirements over multiple periods to enable the variable cost benefits to offset the upfront fixed costs. Finally, fulfillment responsiveness has become a competitive necessity as consumer expectations of next day delivery affect purchase and repeat purchase decisions. E-commerce orders are often shipped through parcel carriers that have more frequent carrier cut-off times than traditional line haul providers. This need to meet more frequent cut-off times has increased the use of pull-based fulfillment that is more responsive than traditional overnight batching processes.
The end result is that warehouse operations have become more important to brand equity and the customer experience. But at the same time, cost pressures and shorter fulfillment horizons have placed additional pressure on these operations. Add in the increased variability of operations making long-term capital investments riskier, and you have the formula for a delicate balancing act in adaptable automation investment, responsiveness vs. efficiency, and product availability vs. inventory carrying costs.