Venture Bros Gone Wild: The Story of Webvan

Surrendering to FOMO. Avoid situations where there is a rush to “get in” and little fear of failure. For this, you need to trigger not a reaction of excitement, but that primal reaction of “fear and threat.” Instead of thinking, “I better hurry to get in before I miss it,” try thinking, “Why is there all this pressure to rush into this?” Use the fear-threat emotion to develop and refine your FOMO Radar.

Surrendering to FOMO is one of the Seven Deadly Stupidities.

Before DoorDash, GrubHub, and Instacart, there was Webvan. Webvan was a grocery-delivery business, but not from your local stores. It was founded in 1996 by Louis Borders, who also founded Borders Books, a successful business in the pre-Amazon era. 

Webvan contracted for more than $1 billion with Bechtel, one of the largest engineering companies in the world, to build automated Webvan warehouses in cities across the U.S. to store all those steaks, apples, and milk before orders were placed and deliveries made.

The warehouses used state-of-the-art technology to manage inventory and load the delivery trucks. Webvan’s promise was there was no need to deal with the hassle of the grocery store when you can place your order and get it all within thirty minutes.

Webvan secured almost $400 million of funding from a list of initial investors that read like a big money all-star team:

• Sequoia Capital

• Goldman Sachs

• Softbank Capital

• Benchmark Capital

On top of that, Webvan poached George Shaheen from his perch, literally on top of the business world, as the head of Andersen Consulting, now known as Accenture, to be its CEO. 

A few short years later in 1999, Webvan went public, raising an additional $375 million. At the point of going public, Webvan had a few hundred thousand dollars in sales and tens of millions in annual losses. The valuation of the company at the end of its first day of trading was $8 billion.

With almost $800 million in capital raised, a monster IPO valuation, and one of the world’s most respected business leaders as CEO, what could go wrong? After less than two years of operations, Webvan filed for bankruptcy in 2001.

The idea for Webvan was a good one. This was proven fifteen years later by the success of the “Delivery 2.0” companies, DoorDash, GrubHub, Instacart, and others, with the premise being that consumers would trade a little extra money for the cost of the delivery service for the time it saved them by avoiding the grocery store.

The execution was also good at Webvan. The warehouses and trucks did, in fact, deliver on the Webvan business proposition of delivery within thirty minutes.

So, what went wrong?  As the saying goes, “Follow the money.” The money in this case originated from venture capital investors.

Venture capital is a type of private equity financing that is provided to early-stage, high-potential, growth companies in exchange for an ownership stake in the company. Venture capital funds invest money in these companies in exchange for a percentage of the ownership and they generally have a hands-on approach to helping their companies grow and succeed. The goal of venture capital is to invest in companies with the potential for high returns and to help those companies grow so they can eventually go public or be acquired. This is a high-risk, high-reward type of investment.

Venture investing is not for the faint of heart. Harvard Business School professor Shikhar Gosh estimates that seventy-five percent of venture-backed companies fail. Other conversations I have had with venture capitalists over the years go something like this:

The upshot? Long odds and huge paybacks for the winners.

Webvan had some of the key characteristics of a successful venture investment:

• A proven founder. Borders previously built the second-largest bookseller in the world.

• A large market. Food. What more needs to be said? Is there a bigger market anywhere?

• Technology edge. Everything was automated and way more efficient than the existing grocery business.

• First mover. At the time, venture investing that involved the internet was a land grab. Get there first, like Amazon or eBay, and you can own the market.

Webvan started in the San Francisco Bay Area and was targeted at households that had disposable income but were pressed for time.

Kevin LaBuz summarizes the strategy:

            Source: "#129 – Back to the Future – Webvan” by Kevin LaBuz, Substack, June 26, 2022

Around the time of the Webvan launch, my family relocated to the Bay Area and became Webvan customers. One night, as I was finishing a Webvan order on the computer for the week’s supply of peanut butter, bread, and chicken, I was called away for a phone call. Upon my return twenty minutes later, I noticed my enterprising four-year-old son sitting at the computer. Once he saw me, he jumped and took off. As I re-engaged with my mundane grocery order, I noticed my shopping cart now had more than $4,000 worth of items in it. As I went through the details of the cart, I observed that my son had added a few televisions, various sound system components, remote-controlled racing cars, and several other high-ticket items, which, for Webvan, were items that made ten times more profit margin than groceries. So, I was being monetized by Webvan, according to its plan, but not according to my budget.

Webvan’s pricing was competitive with grocery stores, and that may have been the problem. With its ever-expanding array of warehouses being built at $30 to $40 million a pop, Webvan was creating a massive fixed-cost infrastructure, which is no problem if you have the profit margins and the volumes. Grocery stores have average profit margins of one to three percent. By comparison, software and technology companies (which Webvan thought it was) have margins of more than twenty-five percent. As a result of its fixed costs and pricing its products to be competitive, Webvan faced the desperate task of building volumes fast enough to avoid running out of cash.

Imagine the dialogue:

Webvan rushed into new geographic markets before it had fully proven and tested its business model in its initial market.

According to consulting firm Gartner Group:

A proof of concept is a demonstration of a product, service or solution in a sales context. A proof of concept should demonstrate that the product or concept will fulfill customer requirements while also providing a compelling business case for adoption.

For experienced businesspeople, demonstrating proof of concept for Webvan would not have been all that hard with a couple of good diagrams showing how supplies would be purchased, how the warehouse would store items, and how deliveries would be loaded and sent to customers. 

The random element in all of this was the Internet. At the time, the Internet was a new and vast frontier. It was going to change everything, everywhere, overnight.  (The Internet did change everything, everywhere. But it did not happen overnight.) With a huge market, Internet technology, solid proof of concept – I’m ready to invest.

In the eyes of venture investors, the magnitude of change that the Internet could catalyze was staggering. There was constant talk of “dis-intermediation” or cutting out the middleman from all things from buying houses, placing stock trades, and feeding your pets. Slowly, but surely, venture investors, who earn their money for deliberate, calculated decision-making, were allowing their impulses to dictate decisions. Call it Internet-driven FOMO.

After proof of concept, a nascent company must decide between GBF or MVP. GBF is the acronym for Get Big Fast and MVP stands for Minimum Viable Product. With the rush to leverage its first-mover advantage and encouragement from deep-pocketed investors, Webvan went the GBF route.

Had the company gone for an MVP, the story may have turned out differently.  According to Gartner Group: 

A minimum viable product (MVP) is the release of a new product (or a major new feature) that is used to validate customer needs and demands prior to developing a more fully featured product. To reduce development time and effort, an MVP includes only the minimum capabilities required to be a viable customer solution.

If Webvan had taken the MVP route, it may have looked at a short list of products that included household staples like milk, butter, and cooking supplies, rather than include tricky items like fruits and vegetables that consumers prefer to see and touch before purchase. It may have looked at one neighborhood in the Bay Area and had one or two trucks and a warehouse that was not fully automated with five miles of conveyor belts as its Oakland warehouse had. Perhaps add a senior manager who had retail grocery experience. (None of the senior team at Webvan had grocery experience.)

First mover advantage (its own specialized type of FOMO), Get Big Fast, and the promise of new Internet technologies ruled the day and pushed the company forward using a flawed strategy for its expansion.

Mike Moritz of Sequoia Capital is one of the most successful investors of the last fifty years. His investments have included Google, Yahoo!, and PayPal, to name a few. Sequoia invested in Webvan, and Moritz was on the board.

According to Moritz:

Webvan committed the cardinal sin of retail, which is to expand into a new territory…before we had demonstrated success in the first market. In fact, we were busy demonstrating failure in the Bay Area market while we expanded into other regions.

Source: "#129 – Back to the Future – Webvan” by Kevin LaBuz, Substack, June 26, 2022To be more scientific in the Webvan autopsy, we should note that the company’s cost structure prevented it from making money unless it had enormous volumes. How did the company try to attract those volumes? It expanded, but it did not work out like you might think.

According to Statista, when Webvan launched, the San Francisco Bay Area had the highest per capita income in the U.S. at $72,000. What a great market! – filled with busy people with lots of disposable income. 

The Bay Area would have been a good starting point if the product’s geographic market had been confined to just that area. Many of the assumptions about how much and how often people would use the service were based on the Bay Area starting point. 

As it turns out, CublicleGuy was right again. The problem was that Charlotte, NC, was the city with the tenth highest income per capita in the U.S. at $39,000, compared with $72,000 for San Francisco. And it was all downhill from there as you moved through the rest of the U.S., with busy people without much disposable income when compared to the initial market. 

Since its investors were convinced that Webvan was going to be that investment that could pay back the entire fund plus a profit, Webvan’s rapid expansion was fueled by more dollars from its investors who thought, hey, let’s double down on a winner.

As Webvan tried to morph from a niche service offered in the most affluent market in the U.S. to a mass market that did not have the socio-demographic profile of the Bay Area, it hit the wall. As the uptake in new markets never really materialized, investors changed their minds. After just nineteen months of operations, they did not want to throw good money after bad and stopped funding the business. Investor indifference, a terrible way for a company to die.

Afterword

The Webvan.com domain was purchased by Amazon in 2009. Amazon hired four senior executives from Webvan as it subsequently built its AmazonFresh grocery business. In 2013, Amazon acquired Kiva Systems, the robotics company that was built to automate the Webvan warehouses. AmazonFresh spent five years only operating in the Seattle market before expanding to Los Angeles. After patiently proving out the AmazonFresh business model and becoming an expert in the food business (and not surrendering to FOMO), Amazon went all-in and acquired Whole Foods for $13.7 billion in August of 2017.