E-commerce Surge Drives Growth of Last-Mile Fulfillment Centers, Dark Stores

As consumers are staying home due to the coronavirus pandemic, online shopping has become a game-changer for retailers across the globe. In the U.S., e-commerce sales rose nearly 45% year over year in the second quarter of 2020, and online purchases jumped to over $200 billion, according to estimates from the Census Bureau of the Department of Commerce.

Shopping online has become a key aspect of the economy’s “new normal."

One of the main effects of this trend may be that retailers are realizing that inventory must be located closer to the consumer to keep up with demand. In fact, by 2023, Accenture predicts that between 50% and 70% of all e-commerce purchases will be delivered from local inventory. This is forcing retailers big and small to transform and upgrade their last-mile logistics systems, leading to investments in micro-fulfillment centers (MFCs), dark and semi-dark stores (stores that have been closed to customers and repurposed into local fulfillment centers with picking and packing technology); and hybrid solutions.

And when it comes to groceries, consumers were already embracing the convenience of ordering pick-up and delivery services online before the pandemic, according to Matt Greene, regional manager at Bastian Solutions, a material handling systems integrator. “COVID-19 only cemented that preference,” he explained to LoopNet. “Retailers will need to adapt to maintain their market share or risk losing it to competitors who are embracing higher levels of customer service and convenience.”

Although this hyper-niche asset class created some buzz back in 2019, the micro-fulfillment center trend is now gaining serious attention from global retailers, as well as smaller local and regional businesses seeking to keep up with the surge in online orders. These automated warehouses, often robotics-powered, are located in urban areas, either as an addition to the store or as a new build nearby, and often range in size from 3,000 to 10,000 square feet.

Smaller MFCs, which represent an investment in the range of $1 million to $5 million, may support one or two retailers, but MFCs in general can enable up to 10 times more efficient processing than a traditional fulfillment center, Greene notes. For retailers, this means drastically lower overhead costs and faster delivery.

An MFC set up in the rear of an existing grocery store, for example, can be expected to support up to $10M in annual sales from a single location and offer up to twice the efficiency in processing orders depending on whether the center is manual or automated, according to Greene.

A dark store is a retail store that has been closed to customers and repurposed into a local fulfillment center, with picking and packing technology for faster service levels. To create a dark store, there’s usually no need to invest in new space. Semi-dark stores use their existing real estate for fulfillment only outside of business hours or use part of the store space — such as section of the current floor space or a second floor, for example — for fulfillment during business hours.

Dark stores can expect to support up to about $50M in annual sales and can offer two to three times greater efficiency in fulfilling orders, depending on the amount of automation involved.

But the success of a dark store depends on sufficient online order volume. “As is true with many things, there is an economy of scale, and the larger operations can see huge efficiency gains with a dedicated dark store,” Greene said.

While some experts view dark stores as a temporary and unprofitable solution to help retailers get through the pandemic, Alex Darby, supply chain operations manager at Chainalytics, thinks that dark and semi-dark stores will stick around for the next 5 to 10 years, at least.

“For many retailers, a standalone automated facility is a hard-to-swallow investment, and dark stores are a safe segue into the future,” says Darby. “It would allow them to continue to operate their stores as they always have —something they know how to do — and also test the waters on a new model requiring limited investment and overall risk.”

The success of the MFC or dark store will depend greatly on a reliable delivery model that can offer what customers want — including same-day delivery —and also reduce the retailer’s cost per order. While these fulfillment center models can have an order “picked, packed and ready for shipping in a matter of minutes, if the transportation availability is subpar, the overall model will fail,” Darby explained. While there are hundreds of delivery applications available, retailers must choose wisely to find the right match for their needs.

Greene, however, also looks to the retailer’s tech for answers. “With the thin margins in the grocery industry, profitability of a delivery model — whether direct-to-consumer or from a dark store to a retail pick-up point — will hinge on last-mile costs. The software required to efficiently schedule these deliveries to take advantage of multiple deliveries in a trip will be a key driver in the most successful implementations of e-grocery fulfillment.”

One example offered by Greene: batching rush orders for immediate fulfillment together with standard orders that are in nearby delivery locations cuts the last-mile delivery costs in half. This preserves the retailer’s margins, but it’s a type of algorithm that can only be efficiently accomplished on a large scale with an adequate software solution that is enabled through the hardware integrated in either the MFC or dark store.

As much as delivery is important, the location of an MFC or dark store is also crucial. Especially due to the increasing emphasis on same-day delivery, retailers should understand and determine their “true center of demand and locate themselves strategically to that point,” explains Darby. “An MFC or dark store will only be effective if they are located in areas that make sense geographically for both the courier as well as the end consumer.”

Unlike larger warehouses, MFCs and dark stores are located outside of the usual industrial spaces, or in small, light industrial areas that are closer to target commercial centers or even within converted commercial centers.

One prime target for investment: the stores of retailers going through bankruptcy. Existing retail spaces in vacant shopping malls, however, are another highly attractive opportunity — thanks to their size, availability, location and ease of retrofitting.

“Retail grocers can easily convert vacant strip mall anchors to low-ceiling fulfillment operations in lower-rent areas while being within a shorter delivery distance of traditional industrial space, thereby reducing their overall operating expense,” Greene said.

Warehouses might offer good redevelopment opportunities, and Darby adds that some pharmaceutical retailers in Europe and the Middle East have been getting creative, converting unused and empty parking garages into fulfillment operations. Although this option may not offer a desirable clear height, retailers achieve a very low cost per square foot in an existing structure that has an ideal location. And as demand for newly constructed MFCs continues to grow, investors and developers will also find an opportunity in land zoned for industrial or commercial use.

Even in a post-pandemic world, retailers will need to satisfy consumers’ quickly growing appetite for online shopping and fast delivery — a major shift that is creating plenty of opportunities for investors and developers in the industrial market.

“MFCs, dark stores and other last-mile fulfillment centers in urban areas are worthy of investment,” Darby concluded. “Combined with the increase of last-mile courier companies like LaserShip, Deliv, Roadie, Shipt, and Postmates, retailers and direct-to-consumer manufacturers see this as an opportunity to substantially decrease their last-mile costs.”