Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 359

Apps and ‘dark kitchens’ are changing food delivery

In 2004, Matt Maloney and Mike Evans were working in Chicago as web developers for appartment.com, a platform that allows people to find rental flats online. The pair often worked late enough to order takeaway. Maloney recalled in 2014:

We were frustrated by the lack of dinner options as well as the pain in the ass of calling restaurants and reading our credit cards. That's when I heard the screeching wheels in my head: Why wasn't there something like (appartment.com) for food delivery?”

So appeared Grubhub, which now boasts 24 million regular users who can order from 300,000 restaurants in 4,000 US cities and London.

Grubhub is part of the world’s booming online-food-delivery industry that is expected to record global sales worth US$136 billion in 2020, a 27% increase from 2019. Altogether platforms have 1.2 billion patrons who like the convenience, speed, vast choices offered, ratings, reviews, recommendations and ease of paying via an app – especially of late when food delivery was one of the few luxuries people could enjoy during the lockdown phase of the coronavirus pandemic.

Platforms have proliferated because they think they can deliver meals to homes faster and cheaper than can restaurants, especially as they gather more data on diners. The industry’s emergence has given rise to ‘dark’ or ‘ghost’ kitchens or ‘virtual restaurants’, the name for commercial premises that prepare meals for platforms. Even as they are targeted for disruption, food providers can see advantages in cooperating with platforms. They offer restaurants a cost-effective route to an online presence, widen their customer reach, provide them with data on their patrons and deliver orders in a streamlined fashion.

So spectacularly has online-food delivery taken hold that UBS in 2018 issued a report titled, “Is the kitchen dead?” that judged food delivery as a “mega trend” that might make home cooking a rare practice by 2030. For this to be true, however, the food-delivery industry will need to sort the tough economics that govern the industry so the food preparers can flourish as much as the dominant platforms are bound to thrive.

Running a restaurant has always been a low-margin activity, even in buoyant economic times, because it is hampered by poor economies of scale (when higher output lowers fixed costs per unit of production). Cooked meals are hard to mass-produce efficiently because different ingredients need to be on hand, components and dishes have various cooking times and meals are typically made just in time to be consumed.

The appearance of platforms only made running a restaurant tougher. Any online orders are subject to a platform commission that can range from 15% to 35% and be raised at any time. Other drawbacks for eateries include that platforms can alter their algorithms at whim to shut out restaurants. Platforms are gaining the customer relationship, can force restaurants to discount and, sometimes, make them bear the costs of deliveries gone wrong. On top of that, delivery fees limit what restaurants can charge diners. To no one’s surprise, restaurant margins are falling to the point where many eateries are uneconomical.

Even as they grind down restaurants, established platforms in many countries (but less so China) are struggling to overcome some weaknesses of their economic model.

The first is that the food platforms rely on restaurants that are inefficient at producing à la carte meals. Dark kitchens, to be sure, have helped boost the efficiency of cooking for online delivery but only to a point.

A second challenge is that delivery has poor economies of scale because each order is different and has a unique delivery address.

A third pitfall of the platform model is the food-delivery industry has low ‘barriers to entry’, hence all the fresh, often loss-leading, rivals chasing the industry’s riches.

Other chinks are that platforms have no hold over their users, which means they must constantly promote themselves, and food delivery relies on gig labour but giganomics is coming under scrutiny for paying workers poorly.

The result is that an industry shakeout has started. Some money-losing platforms have vanished while others are in mergers and takeovers to ensure they are among the survivors that dominate this promising industry. Perhaps the biggest question to be settled is how the tussle within the industry between eateries and aggregators will play out so that both can find sustainable frameworks. The likely outcome for the industry is that a few prominent platforms have so many users they can operate a high-volume, low-fees model that allows restaurants to be profitable enough. But there is much to play out in the meantime.

Just to clarify, food delivery is an old concept. For all the gains of online ordering, ordering by phone is still a big segment. Many eateries will survive without much of a platform presence because people will still want to dine out. The barriers to entry protecting the platforms might rise once the industry has consolidated. The established food platforms are already profitable enough. It’s just that the tight margins for many food-delivery businesses reflect the challenging economics underpinning an industry that might only be at the start of the restructuring needed to become viable over the longer term.

 

Michael Collins is an Investment Specialist at Magellan Asset Management, a sponsor of Firstlinks. This article is for general information purposes only, not investment advice. For the full version of this article and to view sources, go to: https://www.magellangroup.com.au/insights/.

For more articles and papers from Magellan, please click here.

 


 

Leave a Comment:

     

RELATED ARTICLES

Australia's baby boom filling some of the immigration losses

Four simple strategies deliver long-term investing comfort

Why ESG assessment must now consider active ownership

banner

Most viewed in recent weeks

Super changes, the Budget and 2021 versus 2022

Josh Frydenberg's third budget contained changes to superannuation and other rules but their effective date is expected to be 1 July 2022. Take care not to confuse them with changes due on 1 July 2021.

Noel's share winners and loser plus budget reality check

Among the share success stories is a poor personal experience as Telstra's service needs improving. Plus why the new budget announcements on downsizing and buying a home don't deserve the super hype.

Grantham interview on the coming day of reckoning

Jeremy Grantham has seen it all before, with bubbles every 15 years or so. The higher you go, the longer and greater the fall. You can have a high-priced asset or a high-yielding asset, but not both at the same time.

Whoyagonnacall? 10 unspoken risks buying off-the-plan

All new apartment buildings have defects, and inexperienced owners assume someone else will fix them. But developers and builders will not volunteer to spend time and money unless someone fights them. Part 1

Buffett says stock picking is too hard for most investors

Warren Buffett explained why he believes most investors should not pick stocks but simply own an S&P 500 index fund. "There's a lot more to picking stocks than figuring out what’s going to be a wonderful industry."

Should investors brace for uncomfortably high inflation?

The global recession came quickly and deeply but it has given way to a strong rebound. What are the lessons for investors, how should a portfolio change and what role will inflation play?

Latest Updates

Exchange traded products

ETFs are the Marvel of listed galaxies, even with star WAR

Until 2018, LICs and LITs dominated ETFs, much like the Star Wars franchise was the most lucrative in the world until Marvel came along. Now ETFs are double their rivals, just as Marvel conquered Star Wars.

Shares

Four leading tech stocks now look cheap

There are few opportunities to buy tech heavyweights at attractive prices. In Morningstar’s view, four global leaders are trading at decent discounts to their fair values, indicating potential for upside.

Shares

Why copper prices are at all-time highs

Known as Dr Copper for the uncanny way its price anticipates future economic activity, copper has hit all-time highs. What are the forces at play and strategies to benefit from the electric metal’s strength?

Economy

Baby bust: will infertility shape Australia's future?

In 1961, Australian women had 3.5 children on average but by 2018, this figure stood at just 1.7. Falling fertility creates a shift in demographics and the ratio of retirees to working-age people.

SMSF strategies

The Ultimate SMSF EOFY Checklist 2021

The end of FY2021 means rules and regulations to check for members of public super funds and SMSFs. Take advantage of opportunities but also avoid a knock on the door. Here are 25 items to check.

Economy

How long will the bad inflation news last?

The answer to whether the US inflation increase will prove temporary or permanent depends on the rates of growth of the quantity of money. It needs to be brought down to about 0.3% a month, and that's a problem.

Economy

The ‘cosmic’ forces leading the US to Modern Monetary Theory

If the world’s largest economy adopted a true MMT framework, the investment implications would be enormous. Economic growth would be materially greater but inflation and interest rates would also be much higher.

Sponsors

Alliances

© 2021 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.