SAFEWAY WORKS

DAVID GHITELMAN

DALLAS -- It sounded like the happiest of Internet romances last month when GroceryWorks.com here and Safeway, Pleasanton, Calif., announced their strategic alliance.

Steve Burd, Safeway president and chief executive officer, called his new partner "the best pure-play Internet grocery today."

Gary Fernandes, GroceryWorks chairman and CEO, said, "Safeway is the premier food retailer in the United States."

Under the terms of last month's agreement, GroceryWorks will become Safeway's exclusive on-line grocery channel, and Safeway will supply product to GroceryWorks.

Safeway also said it will make a $30 million investment in GroceryWorks through a subsidiary created for that purpose and that subsidiary will receive 50% of GroceryWorks common stock.

Safeway also said GroceryWorks will receive an additional $20 million investment from a third party or parties. Burd said the negotiations with potential third-party investors were still in progress.

Safeway had been experimenting over the last year with developing its own on-line retail system, but Burd said the alliance will permit the company to stage a faster and less expensive move onto the Internet.

"It's a great move for Safeway because this provides us with the channel we need," Burd said. "It will facilitate our on-line rollout in our existing markets at a much lower cost because GroceryWorks also has the necessary systems."

Burd added, "GroceryWorks has the best single cost structure in the Internet grocery channel.

"Its strategy is totally compatible with Safeway's. We are both committed to offering grocery-store prices on the Internet. We pride ourselves in being cost-effective, and GroceryWorks has the same culture of thrift.

"Also, GroceryWorks is prepared to expand in Safeway's markets."

At present, GroceryWorks is only available in three Texas markets: Dallas, Fort Worth and Houston, and it just opened in the last two cities this month.

As of last month, the company made 3,500 deliveries a week with orders averaging $84, according to Fernandes. He noted GroceryWorks was not permitted to sell beer and wine over the Internet in Texas, unlike Webvan in the San Francisco Bay area.

Fernandes added that sales have been steadily growing 9% a week this year.

He also said the company plans to offer its same-day, no-fee, attended and unattended delivery in 16 markets by the end of 2001.

The same-day service, the absence of a delivery fee and supermarket-level pricing are three of the company's most distinctive features, according to Fernandes.

"We are committed to not charging premium prices and are committed to no-fee service," he said. "And we're the only on-line grocery service that allows customers to buy and receive on the same day."

Fernandes pointed out the deal with Safeway will help GroceryWorks take advantage of the volume discounts Safeway receives from its vendors.

"We are adding the procurement power of a $30 billion company that's been in business for 72 years," he said.

Burd said GroceryWorks' fulfillment centers would be serviced from Safeway distribution centers as if the on-line company's centers were one of the company's supermarkets.

Fernandes said GroceryWorks will be co-branded with local Safeway banners across the country -- Safeway in northern California and Baltimore-Washington, Vons in southern California, Tom Thumb in Fort Worth and Dallas, Randall's Food Markets in Houston and other parts of Texas, and Dominick's in the Chicago area.

He said GroceryWorks will offer "consistent price and promotion strategies" with Safeway's brick-and-mortar stores.

"We want this to be a seamless experience," said Fernandes, "but the exact details of how we link brands together will be done by people smarter than Steve or I."

Burd said, "We want to offer customers the same experience in-store and on-line."

He explained, "People that choose to shop on-line don't choose to shop on-line exclusively."

He said research shows that even committed Internet shoppers make about 40% of their purchases in stores and added that Safeway would like to be their in-store company-of-choice.

Burd has repeatedly stated his belief that e-tailing will complement and not replace or even surpass brick-and-mortar operations.

"I agree with estimates that the business-to-consumer channel will account for about 10% of distribution by 2006 or 2007, which indicates that business will develop somewhat slowly," he said in a conference call the week before the GroceryWorks deal was announced.

"When you start from zero, you can have great quarter-over-quarter sales," he said, "but no single pure-play Internet grocer is close to breaking even.

"We expect that ultimately there will be no more than one or two pure-plays, and we expect to be the dominant player in markets where we compete against them with brick-and-mortar stores.

"It'll be a real struggle for the pure-plays. They are continuing to lose money, and when you look at their volume levels, it ignores what they spend on brand-building, which is enormous -- anywhere from 15% to 50% of sales -- whereas we have none of that cost.

GroceryWorks.com

Web address: www.groceryworks.com

Headquarters: KDallas

Areas served: Dallas, Fort Worth, Houston

Delivery options: Attended and unattended, $25 minimum order, no monthly fee. Expansion plans: 16 markets by the end of 2001 through agreement with Safeway.

Major investors: Safeway, Sprout Group, Enterprise Venture Capital Partners, JP Morgan and Bluerock Venture Capital.