Deliveroo: is it delivering?
Since being founded in 2013, Deliveroo expanded from its home base in London to cities all over Europe, the Middle East and Asia. During the last funding round the company was valued around the unicorn threshold of $1 billion. So far it has raised close to $500 million, which it used to expand into new cities and existing cities. As the Deliveroo-branded bike riders have taken my city by storm, it is an interesting time to look at the company in more detail. What is Deliveroo’s business model? Does it work for its customers (on both sides of the platform)? Does it work for Deliveroo?
Deliveroo’s business model: good food from partners delivered to your door
Buyers on the Deliveroo platform are attracted with a very simple value proposition: good food from local restaurants is delivered to your door in around 30 minutes. What is Deliveroo promising these partner restaurants? Three things: 1) provide a delivery service for restaurants, 2) optimize asset utilization and 3) presence on a new sales channel (the Deliveroo website & app).
To deliver on the proposition to both buyers & restaurants, Deliveroo is doing the following (which are both key activities & large cost drivers):
- Platform management: Grow the platform and facilitate the ‘matchmaking’ between supply (restaurants) & demand (buyers).
- Logistics fulfilment: ensure an on-time pick-up at the restaurant and on-time delivery at the buyer (which is an ever-improving operational algorithm).
This optimisation of the delivery operations is crucial since Deliveroo is paying the drivers an hourly fee (that is in line with the minimum wage). In other words: the more deliveries get squeezed into an hour, the cheaper they become for Deliveroo.
The revenue model consists of 2 components: 1) a transaction fee (€2.50) that is charged to the buyer and 2) a restaurant commission (20–25% range).
Figure 2 (below) visualises the various elements in the business model canvas. With the basic understanding of the business model done, let’s focus on the next question: does the business model work for the buyers and restaurants?
Does the model work for both customer segments of the Deliveroo platform?
With the platform matching restaurants & buyers, this section will review if the model works from the perspective of both sides. Buyers will be covered first, followed by the restaurants.
Buyers: a consistent & premium choice
Food deliveries are not new at all: on the lower-end of the quality scal many local Chinese restaurants & pizza restaurants allowed customers to call the restaurant and have food delivered.
The next step in food delivery came with the rise in internet use and players like JustEat started to emerge. These aggregators listed all delivery restaurants and took the transaction and payment online and to a platform. Although it is clearly an improvement, it was still limited in three ways: 1) the supply came from restaurants that already offered deliveries, 2) the quality of the restaurants vary and 3) the delivery experience/quality is not consistent across the platform as this is fulfilled by the restaurants.
This is where Deliveroo’s strengths come in for buyers. The platform provides a curated range of options that are considered medium-high quality restaurants in your area, which eases the decision making process. It also offers customers a consistent (and branded) experience in the entire process, from the registration all the way to the delivery. It basically makes the process seamless and in doing so provides a lot of value to buyers.
Add to this a low risk and easy registration process, making a large number of registered users very likely (I was not able to find registered user information for Deliveroo). The restaurant choice is likely a key driver in registration, but in no way requires exclusivity from the users (nor does it provide them benefits).
Verdict: Deliveroo works as long as it provides (exclusive) choice and a consistent customer experience.
Restaurants: additional revenue & customers, but at a cost…
Premium restaurants typically focus on the dining experience and have ‘neglected’ deliveries. What Deliveroo is offering them is quite a low-risk choice: do you want to try deliveries (as a service) to see if this generates incremental revenue (from new customers)?
Once signed up, the platform needs to deliver the incremental revenue to the restaurants. Deliveroo has gone on record to state that restaurants can generate up to 30% of incremental revenue by being on the platform. This top-line growth is surely appealing to restaurants, but it comes at a price: Deliveroo takes a 20–25% commission on all orders. Deliveroo gives restaurants freedom to price the menu as they wish on the platform, but in reality restaurants are likely to be limited in this freedom. Customers are sensitive to price differences across channels, as some restaurants have already experienced.
Overall, the proposition seems to resonate with restaurant owners: in August 2016 the company had over 16,000 restaurants signed up in 84 cities. These numbers are showing significant increases since November 2015: restaurant partners were up by 9,000 (+128%) and cities 29 (+53%).
Verdict: with the growth in partner restaurants outpacing that of new markets, restaurants are clearly interested in the value proposition. There is only one question remaining…
Does the model work for Deliveroo?
For a start-up, Deliveroo already has done a great job: it has created a service that is appealing to both the buyers and the restaurants. It has confirmed that there is a market for ‘premium’ food deliveries. But that in itself does not create a sustainable business (with a sizable market share), nor does it generate profit. Next to continuing its current growth trajectory, I believe there are 2 key challenges for Deliveroo:
- Single-homing vs. multi-homing
- Density required in operations
Single-homing vs. multi-homing
Deliveroo was the first player in many of the markets that it operates in, but is increasingly facing competition (most notably from UberEATS). This means that users on both sides are asking themselves the question: should I only use Deliveroo? If so, what are the benefits?
A quick look at this shows the risk:
- Buyers have no benefit to stay loyal to a single platform. Choice is spread across multiple platforms and there are no benefits to sticking to 1 platform.
- Restaurants: as long as platforms live up to the expectation of driving new customers/incremental revenue there is the clear benefit to be present on multiple platforms for restaurants as well.
Response: Deliveroo reduces the commission per order for restaurants that are willing to become exclusive.
Will this strategy work on the long term? Doubtful: this approach carries 2 significant risks: 1) as competition intensifies the drive to ‘lock-down’ the best restaurants might lead to a battle around the lowest possible commision and 2) as platforms sign ‘exclusive partnerships’ with restaurants, more and more customers will be ‘forced’ to register on multiple platforms if their favorite restaurants are not picking the same exclusive partner.
Density required in delivery operations
Compared to many other “instant/on-demand” services, Deliveroo has chosen a different model for their riders and this has an impact on how the business is run. Deliveroo riders are paid per hour (and, in some countries, receive a small bonus per delivery). At scale this offers tremendous benefits: a fixed wage means that the more successful deliveries are done, the higher the profit for Deliveroo. The question is: where does the concept of ‘scale’ start and what is the role of the average order size?
The best way to describe this is by creating a simple scenario:
- Order sizes (excl. VAT): €20 & €40
- Commission: 20%
- Hourly wage: €10 per hour (Belgian reference point)
- Average deliveries per hour: flexible (increments of 0.2)
- Assuming no other costs beyond delivery
The 2 options are displayed in figure 3. The model is based on the following gross margin formula: (((order size * commission) + transaction fee)* # of orders) — hourly wage
Figure 3 shows that a rider-level break-even point sits at around 1.5 deliveries per hour at a €20 order size, indicating a very low level of “scale” to be profitable. With higher average order sizes, this threshold further reduces.
The current performance: it’s hard to find data that goes beyond anecdotal evidence, so we have to get creative. In a strike about compensation last year, drivers were protesting that the new set-up was going to reduce their salary as it would only pay per delivery. The founder of Deliveroo (William Shu) provided some details in a blog post, that can be visualized in as in figure 4.
What does it show: the rider backlash shows that the overall average is not going to be around 2.6 (the point in which the models balance out), but Deliveroo must have known that riders would only accept ‘minimal’ changes. If we define ‘minimal’ as a 10% drop, it means that Deliveroo is averaging around 2,2 deliveries per hour per rider, meaning that the core density issue is addressed. That leaves us with the final verdict on Deliveroo…
The verdict: YES, Deliveroo delivers.. but what will ensure platform stickiness?
From the buyer perspective, Deliveroo is enabling food deliveries for a new type of restaurants (more premium). For now that value proposition is appreciated, but moving forward it is unclear if buyers will remain loyal to only Deliveroo as an order platform or if they will be active on multiple sites.
Restaurants are clearly seeing incremental revenue and are signing up at an incredible rate. Currently there is a tendency to offer lower commissions for exclusivity on the platform, but that strategy might actually pressure long-term commission rates as competition increases.
The good thing is that the basic economics for Deliveroo are solid as long as the company can operate with density in the markets it operates. That density starts at around 1.5 deliveries per hour with a low order value. If Deliveroo can ensure a high order value, this threshold becomes even lower. However, in mature markets the company is likely to be above that threshold. It makes Deliveroo a company to keep an eye on!
