As Target’s e-commerce sales grow, the retailer is feeling the pinch from investments in the digital and delivery capabilities to make that happen.

Target, like other retailers like Walmart and Home Depot, is increasingly investing in digital and delivery capabilities to keep pace with Amazon. In an earnings call Tuesday, Target reported an impressive 49 percent year-over-year digital-sales growth, largely the result of investments in digital, delivery and store-pickup capabilities to enable the e-commerce operation. But the growth does come at a cost, and margins are seeing the consequences of that: a drop in gross margin, from 28.7 percent from 29.6 percent a year ago. To the retailer, however, it’s a necessity to play the long game.

“This was the result of higher-than-expected supply-chain costs driven by digital fulfillment and the cost of receiving and processing a larger holiday inventory position compared with a year ago,” said Cathy Smith, evp and chief financial officer.

Over the past year, Target put forward significant resources to modernize its delivery and in-store pickup operations. It recently grew the footprint of its subscription-based Shipt personalized shopper service to 46 states; it also expanded curbside pickup to nearly 1,000 stores. It also offers customers opportunities to pick up e-commerce purchases in stores and earlier this year rolled out an Amazon Prime Pantry competitive home-goods replenishment service, Target Restock. The cost pressures behind going omnichannel seem to be affecting Target significantly in comparison to other large retailers. Both Walmart and Home Depot reported modest gains in gross margins compared to levels a year ago, according to recent earnings reports.

Target, Walmart and other large retailers have come to realize that e-commerce and delivery operations are must-haves as Amazon shapes customer expectations.

“Digital is expensive — that’s not surprising,” said Forrester Research senior analyst Sucharita Kodali. “It’s the cost of doing business though.”

As a result, generating new sources of revenue will be crucial; Amazon’s advantage is its multiple business lines can offset losses from price competitiveness or supply-chain investments in its retail operations.

Target and Walmart will need to figure out how they stop defending sales they’re losing to Amazon on those commodity goods and how to gain market share in other categories, like advertising,” said Tom Gehani, director of client strategy and research at Gartner L2. He added that Amazon’s ad and cloud businesses are competitive advantages in the current retail environment, while traditional retailers are focusing on the ‘human touch’ — experiential retail or enhanced customer service. According to Gartner L2 data, Target’s capital expenditures represent around 5 percent of revenue, nearly equal to Amazon’s. Meanwhile, Walmart’s capital expenditures are significantly lower at 2 percent.

Target’s advantage relative to smaller players is its scale and resources that it can deploy to enhance the transition to digital — a luxury smaller retailers don’t have. For larger players, taking a short-term hit in margins shouldn’t be an impediment to continue to invest in omnichannel, said Bill Friend, vp of Fluent Commerce and consultant to companies such as Target and Nine West.

“The [risk-averse] mindset is what’s kept a lot of retailers from modernizing and being able to compete where a really high percentage of business is coming from the online channel,” he said. “Sears kept opening stores and didn’t optimize the supply chain — these things are becoming like table stakes.”  

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