Walmart (WMT 0.38%) is adding one more subscription options for consumers who want their online grocery orders delivered. Just after Target (TGT -0.50%) incorporated its Shipt same-day delivery subscription service into its website, Walmart is now offering its online grocery shoppers a $98-per-year subscription option for unlimited same-day delivery aptly called Delivery Unlimited. That compares with $99 for Shipt or Instacart and $119 per year for Amazon Prime from (AMZN 2.11%).

Walmart's move is a response to make customers more loyal to its online grocery service, but it could come at the cost of its margins, since it doesn't benefit from owning the delivery services it uses, like Target or Amazon.

A man holding a Walmart bag of groceries handing it to a woman inside a doorway.

Image source: Walmart.

Creating loyal shoppers

Walmart's online grocery platform has created more loyal shoppers by offering better convenience than anyone else in the industry. Curbside pickup will be available to 80% of the population by the end of the year, and 50% of the consumers will be able to have their items delivered.

Even for customers who live in markets with excellent Prime Now selection from Amazon and Whole Foods, Walmart might win shoppers who want a broader selection for groceries (not just organics) or other household items. Sixty-five percent of Walmart's online grocery orders come from Prime members, according to data from Numerator.

Delivery Unlimited is a chance for Walmart to foster loyalty by offering an incentive to use the service more heavily. Just as Amazon Prime makes the first place customers go to shop online because they've already invested in their unlimited shipping membership, Delivery Unlimited could reinforce Walmart as the place the buy groceries online. That's especially important as Amazon, Target, and regional grocers step up their efforts in the space to capture share of the grocery market.

Walmart's service notably has more limited use than Target's Shipt and Instacart, which offer delivery from dozens of different retailers. It's even more limited than Amazon's Prime Now, which includes a selection of items outside of groceries. That's both a weakness, in that it appeals to fewer consumers, and a strength, as it forces loyalty to Walmart's grocery platform.

The cost of delivery

Walmart doesn't use its own delivery network for getting most items from its stores to customers' doors. Instead it relies on third-party services like DoorDash and Postmates to make deliveries. By comparison, Target and Amazon have their own contractors for Shipt and Prime Now. (Walmart acquired Parcel in 2017, but its primary use is for same-day deliveries from in New York.)

Relying on other services instead of building its own contractor service will cut into the margin profile of Walmart's service. That's fine when Walmart charges customers $9.95 per delivery. That amount was enough to cover the price it paid to its third-party delivery service.

But assuming consumers behave rationally and subscribe to Delivery Unlimited only when they receive more than 10 deliveries per year (and probably many more), Walmart will see margins erode much more quickly than a comparable customer for Target or Amazon.

There are two important things to understand about Walmart's strategy here. First of all, it's not necessarily permanent. Relying on third-party delivery partners allows Walmart to expand the service quickly and with minimal upfront costs. If same-day delivery becomes popular, Walmart can build out its own contractor service where it makes sense.

Second, Walmart may be able to offset the lower margins from Delivery Unlimited through increased sales and customer loyalty. If Walmart can win sales that might have gone to Target or Amazon or whoever else might've been more convenient, that incremental revenue can help offset some of the delivery costs. It's exactly the model Amazon has taken over the past decade by building out Amazon Prime's product selection and fulfillment network for faster delivery.

Walmart's entry into the same-day-delivery subscription market is a strong move even if it has the potential to erode margin. The incremental sales generated from offering the service ought to offset most of the losses on delivery and management can figure out how to improve the profitability of the service if it sees broad customer adoption.