Why are digital firms getting physical?

After years of disrupting traditional physical businesses, why are major leading digital companies suddenly going physical themselves? In this blogpost, we discuss several key drivers of the recent "online going offline" trend. 

August 01, 2018
• by
Vivek Sharma

In 2015, TechCrunch stated that “Uber, the world’s largest taxi company, owns no vehicles. Facebook, the world’s most popular media owner, creates no content. Alibaba, the most valuable retailer, has no inventory. And Airbnb, the world’s largest accommodation provider, owns no real estate.” The underlying message was clear: these companies were the “thin interface on top of supply systems,” and being the online interface was where the money was.

They were wrong! Many digital leaders, across multiple industries, have rapidly expanded into the physical space. So much so that in 2018, TechCrunch had to backtrack on its earlier observation, conceding that “The world’s largest taxi firm, Uber, is buying cars. The world’s most popular media company, Facebook, now commissions content. The world’s most valuable retailer is now Amazon, and it has more than 350 stores. And the world’s largest hospitality provider, Airbnb, increasingly owns real estate.”

Leading digital firms, such as Google, Facebook, Amazon, and Tencent, enjoy increasing returns to scale through network effects. They not only grow fast by creating significant value for users; they also capture a disproportionate share of the rewards, all without a physical presence.

So, in a lucrative digital economy, why do digital players need physical spaces and products?

Here, we talk you through the three most common drivers of the “online going offline” trend: technological know-how, user expectations of integrated experiences, and distribution challenges in existing industry structures.

eCommerce giant Amazon has recently entered the physical retail market by launching Amazon Go. By leveraging critical technological know-how gained on its digital platforms, Amazon is transforming physical retail. Through a network of ceiling cameras, Amazon’s “just walk out” capability, based on computer vision technology, tracks if an item is taken off the shelf. Instead of the queueing, scanning, and payment system currently used in retail stores, shoppers are billed on the Amazon Go app for items they carry out of an Amazon store. Conversely, if the customer puts the item back on the shelf, the technology removes it from their virtual basket.

Another example of digital players bringing technology to the physical world can be found in the automobile manufacturing industry. Lyft, a key leader in self-driving technology, is partnering with auto manufacturers to expand its autonomous vehicle technology. Beyond the obvious benefit of accelerating their autonomous vehicle network and bringing digital technology into the day-to-day life of consumers, auto manufacturers also gain access to invaluable driving data for research and development through Lyft’s network of self-driving vehicles.

In many cases, digital leaders are moving into physical spaces simply because their users are demanding an integrated user experience between their physical and digital worlds. Many successful eCommerce firms are finding that “online only” is just as limiting for consumers as “brick-and-mortar only”—the desired customer experience is at the intersection of online and offline.

Digiday explains this trend more: “Allbirds, Away, ModCloth, Glossier and Madison Reed, for instance, have all opened their own physical stores in the past year … regardless of how convenient online shopping is, consumers still like to visualize, try-on and feel products before purchasing them... The main reason a customer wouldn’t buy our product online was because they wanted to be able to feel it themselves. We are remedying that with our physical location.”

WeWork is another example of the digital–physical integrated experience. Originally a digital startup that offered shared workspaces, it now offers a wide range of adjacent services to provide an end-to-end user experience that changes the way people work. Its latest concept, called Dock 72, offers “an enormous co-working space, a luxury spa and large offices that are designed and run by WeWork. There will be a juice bar, a real bar, a gym with a boxing studio, an outdoor basketball court and panoramic vistas of Manhattan. There will be restaurants and maybe even dry cleaning services and a barbershop. It will be the kind of place you never have to leave until you need to go to sleep.”

Some digital firms have no choice but to go physical because of distribution challenges in the existing industry structure. Amazon’s recent purchase of Whole Foods is an attempt to gain a last-mile distribution hub for grocery and other merchandise. According to The Atlantic, “Whole Foods’ urban and suburban locations are so valuable for Amazon’s delivery business that the deal could be worth it even if the grocer all but stopped selling food. Amazon did not just buy Whole Foods grocery stores. It bought 431 upper-income, prime-location distribution nodes for everything it does.”

Similarly, Spotify, a leading online music-streaming service, is rumored to be creating its own hardware because Apple was reportedly not keen to integrate its Spotify connect feature into Apple’s HomePod and Apple Watch.

The way we do business and engage with consumers is continuing to evolve as our digital and physical lives merge and adapt to new technology. When organically digital startups enter the physical space, McKinsey offers 3 strategic options: developing new customer segments, introducing new business models, and redefining the value chain. But hoping that digital disruptors will just go away is never an option. Even though the hotel industry reportedly funded sting operations at Airbnb, and taxi operators protested and fought legal battles with Uber, we know how ineffective these attacks have been at stopping the digital wave.