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Do the delivery economics work?

Domino’s is the latest company to question the sustainability of the current model. RB’s The Bottom Line takes a look.
Photograph courtesy of Uber Eats

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Questions about the economics of delivery have come frequently since third-party services emerged a couple of years ago.

We’ve been writing about it just as much. Because the companies are so new, and growing so fast, there is a wide range of opinion about their potential impact and potential benefits. And there are just as many strategies for dealing with it.

The latest question about delivery economics comes from Domino’s. The Ann Arbor, Mich.-based chain, which today said again that it has no plans to use third-party services, also took some time to analyze their economics.

“When we take a look across the restaurant industry, it’s not growing faster than when aggregators first entered,” CEO Ritch Allison said. “Share is just shifting across channels and players. A lot of profit is pulling out of restaurants. It’s hard to imagine this being sustainable over the long term.”

To be sure, take the comments with a certain grain of salt. Domino’s competes with third-party delivery players, which appear to be limiting the chain’s sales growth so far this year.

But also take it with a certain degree of seriousness. Domino’s remains perhaps the most data-centric restaurant chain in the business.

Plus, Allison was fundamentally correct on that point: Third-party delivery is not adding any overall business to the restaurant industry and is only serving to further shift share among companies and sectors while pulling profit out of the business.

Delivery remains a tiny percentage of the overall restaurant industry, representing only about 3% of total traffic.

Third-party services are growing. The five largest providers’ sales rose 55% last year to about $10 billion, according to Restaurant Business sister company Technomic. But that $10 billion is just 3% of the total sales generated by the restaurants in the Technomic Top 500 Chain Restaurant Report.

Total sales among those 500 chains grew just 3.3% last year—which means that the chains largely grew sales from price increases and unit count and maybe a touch more traffic. Suffice it to say, delivery is not growing the pie.

Instead, it’s replacing existing traffic with traffic that comes with a fee as high as 30%. And while these sales might be incremental to an existing location or an existing chain, they are not incremental to the business as a whole, and that means over time they will not be incremental to those chains.

But the larger problem might actually lie with the delivery providers themselves.

As noted with the Uber IPO, these companies struggle to generate profits. Much of the strength of the business this year has come with promotions of free and low-cost delivery. Because of the challenged unit economics at the restaurant, these companies will be pressured to lower fees or, at the very least, keep them stagnant.

We did write about one potential solution recently: raising menu prices for delivery orders. That could ultimately be a win for both the provider and the restaurant. The latter can recover some of what it spends for that delivery, and the former benefits in the form of higher fees thanks to its percentage-fee pricing structure.

So far, companies that have raised prices on delivery orders say it hasn't hurt sales, so why not? And the burden for paying for these services should probably rest with the customers who want the convenience.

But that could have another long-term impact: limiting the services’ ceiling.

Pizza delivery works in part because the fees for the service are relatively low and the product itself is a fundamental value. Comparable restaurant visits are more expensive. Add 30% to the bill and suddenly that order is much more expensive.

I recently spent $60 to feed my family of four at a fast-casual burger chain. Am I going to spend $78 for that same meal—plus a tip for the driver? I might need the convenience and am willing to spend it on occasion.

But it’s a potential budget buster that could ultimately lead to cutbacks, either in the order itself or in the number of total restaurant visits per month. And lower-income families might get shut out of that market altogether. All of that limits the services’ potential growth or removes more traffic from other occasions.

Ultimately, I believe the services evolve well beyond delivery to provide a range of mobile ordering services. And the restaurant chains will find ways to make it work, because convenience is important in this business.

But the economics, at least for now, remain a major uncertainty.

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