Nothing emphasizes the value of a smooth supply chain than a time of crisis. The pandemic-propelled boom in the ecommerce industry meant that retailers struggled to cope with the escalating demand for online orders, making it essential for order picking and packing to be more efficient. Further fueled by the increasing demand for same-day delivery of online orders, some retailers offered 30-minute delivery, iterating the need for a faster delivery solution that was also cost-effective.

The heightened demand paved the way for automated micro-fulfillment centers (MFCs) to emerge. Several retailer giants including Walmart, Albertsons, and Ahold Delhaize announced plans to increase the use of MFCs in their omni-channel distribution strategies. Kroger, which initially focused on setting up a network of large-scale distribution centers, also announced plans for two automated MFCs earlier this month. Just last week, the largest MFC startup Fabric landed with USD 200 million Series C and became the first-ever unicorn in this infant industry.

Yes, you read it correctly! This is a tiny industry that had a total of ~20 automated MFCs in the US at the end of 2020. But we see a large addressable market for MFCs (~USD 15 billion in the US alone), and the handful of players offering this service has the potential to become key partners of retailers. Let’s dive deep!

A micro-fulfillment center (MFC) is a small-sized facility (usually 20,000 sq ft or less) that is heavily automated and located adjoining a retail store or a warehouse; the center fulfills online delivery orders as well as store pick-ups. The purpose of an MFC is to improve delivery times at a lesser cost by setting up in densely populated urban areas. We note that there are “non-automated” MFCs also in operation, but our focus here will be on automated MFCs. An automated MFC generally has two components; 1) The software management system (often possessing artificial intelligence (AI) and machine learning (ML) capabilities) 2) Physical infrastructure such as robots, conveyors, and totes. An MFC is often confused with a customer fulfillment center (CFC— a warehouse-type distribution facility located distantly to retail outlets), but the two concepts differ in several ways, including lower size and costs and use case.

Ever rising share of online grocery ordering: Even though most stores are now open, around 60% reportedly visit brick-and-mortar stores less, and around 43% would shop online more often to purchase products previously bought offline (EY survey, March 2021). This trend is unlikely to reverse, as IDC predicts that by 2023, 75% of grocery ecommerce orders will be picked curbside or in-store, which could drive investment in on-site or micro-fulfillment centers by around 35%.

Same-day delivery is not a luxury anymore: Initiated by Amazon, which goes to the extent of offering free delivery for its Prime customers, same-day delivery has become a norm in the industry, especially during the pandemic. Retailers are now pursuing 30-minute delivery, which requires localized fulfillment operations. The most feasible way of achieving this is to operate a network of MFCs.

MFC appears to be the most cost-effective among other fulfillment methods: The rising online orders have also made it essential for retailers to look at ways to improve efficiency. Studies have shown that having packages picked up by an employee costs the most to a retailer (USD 0.66 per order for a bottle of ketchup) and this cost can come down to around USD 0.43 per order by using MFCs, the lowest among the various fulfillment methods. (note: the calculation takes into account the labor cost to receive, re-stock, pick, sort, and third-party deliver).

MFCs utilize space efficiently: Given MFCs use highly automated storage and retrieval systems, it uses spaces efficiently, which also means more products can be stored in a given area, compared to a typical manual warehouse. For example, an AutoStore system can use the space 4x more efficiently than a traditional warehouse.

The MFC market is dominated by a few startups formed after 2015 that have developed partnerships with retailers within the US (such as Walmart, Albertsons, and Ahold Delhaize) as well as outside (such as Carrefour). The largest startup in the space in terms of funding is Fabric, with a total of USD 336 million raised to date. However, Takeoff Technologies has been the most active with more than 10 sales partnerships formed with mid-scale retailers, including three outside of the US. Newer companies such as Ohi have also been able to expand their operations through partnerships with companies such as OUAI and Olipop.

Alert Innovation is also a notable startup, given its exclusive partnerships serving Walmart to support its MFC plans.

There is a considerable presence of Incumbents in the MFC space— those who compete directly with the startups. Mainly, three types of companies have entered the MFC space: 1) retailers who develop their own MFC technology (e.g. Ocado), 2) developers of robotics technology targeting warehouses who recognize the opportunity and are entering the MFC space (e.g. Attabotics, and FANUC Corporation) 3) developers of customer fulfillment technology that have also entered the MFC market (e.g. AutoStore, Berkshire Grey, and Dematic). However, when looking at the number of partnerships formed and MFCs in operations/planned, we note that the traction of Incumbent solutions lags behind the strides made by startups.

MFCs adopt a capital expenditure (CapEx) model or a service-based model, or a combination to generate revenue. Most of the robotics operators largely rely on traditional “outright sales plus annual maintenance contracts” for revenue generation. In this model, real estate is owned by the retailer with the fulfillment technology provided by the MFC company at a fixed outright price. The price of these MFCs ranges from USD 3 million to 5 million.

A few players have adopted a robotics-as-a-service (RaaS) model (also known as fulfillment-as-a-service (FaaS), mirroring the trend in the robotic industry. Fabric, whose RaaS model lets customers use its pre-built micro-fulfillment centers for a fee, based on the capacity they need, is such an example. In this model, the technology provider owns and operates the equipment.

Some startups adopt multiple models for revenue generation. For example;

1) Takeoff technologies that offers turnkey solutions has also entered into an arrangement with fulfillment automation provider Knapp to offer a combined solution. Through this collaboration, retailers can buy automation equipment from Knapp on CapEx basis and sign-up with Takeoff Technologies for an ongoing FaaS contract to manage the system.

2) Berkshire Grey offers its fulfillment solutions on traditional CapEx pricing, RaaS basis, and even hybrid pricing— a mix of capital plus RaaS.

The total cumulative addressable market (TAM) for MFCs in the US is estimated to be USD 15.4 billion based on our calculation that 1) the US will have a demand for ~3,900 micro-fulfillment centers. 2) price of an MFC will be USD 4 million on average (note: we have used only the outright sales model for this TAM calculation for illustrative purposes).

Details of the estimates are mentioned below.

The total actual market for MFCs is estimated at USD 92.0 million in 2020, implying 0.6% of the market penetration. This is expected to grow at a compound annual growth rate (CAGR) of 55.6% through 2025 to reach USD 840.0 million, reaching a cumulative penetration level of 16.2%. We expect this growth to be driven by a promising pipeline of MFCs, including Walmart’s plan of establishing 100 MFCs over the next couple of years and Albertson’s plans to ultimately cover its fleet of 2,200+ supermarkets, which would require 350+ MFCs (timeline not specified by the retailer).

Our expansion case expects the market to grow at a CAGR of 66.4% to reach USD 1.2 billion by 2025, assuming more demand for ecommerce activities requiring same-day or instant delivery. Our conservative case expects the market to grow at a five-year CAGR of 42.6% to reach USD 542.7 million by 2025, assuming less demand for ecommerce activities in urban areas.

MFCs are generally positioned in urban areas to serve a vast population. During the pandemic, people started moving between cities, especially to suburbs. Some companies allowed employees to work from home indefinitely, freeing people to stay wherever they pleased. It’s still unclear whether this trend is likely to last long term; however, if people decide to continue moving away from urban areas, retailers will have to consider locating MFCs in the most suitable areas. A good location today might not be the best in another couple of years, which could induce retailers to look for alternative solutions such as CFCs, manual dark stores, backroom picking, and in-store picking using handheld devices.

Deploying robots to work alongside humans, known as collaborative robots, poses a safety risk. Although retail environments are relatively less hazardous than industrial ones, retail robots engage with humans more closely. Maintaining safety protocol is required. So far, the International Standards Organization’s (ISO’s) safety standards are defined only for non-mobile collaborative robots, while the closest guide for the safe operation of mobile robots is the ANSI/ITSDF B56.5-2012 Safety Standard for Driverless, Automatic Guided Industrial Vehicles, and Automated Functions of Manned Industrial Vehicles. The lack of a properly regulated standard scheme could affect operational flow.