Why DoorDash Will Fail To Deliver Investor Returns
Wall Street cheered restaurant delivery company DoorDash’s debut on the New York Stock Exchange today, valuing the company at $76 billion at the close of the first day of trading. But some investors are rightfully asking a troubling question. When a market-leading company that skims up to 30% off each restaurant order, while charging customers a 30% — 50% menu price premium for delivery by couriers paid far below minimum wage still can’t make money during a pandemic, is their business model seriously flawed? There are strong reasons to believe the answer for DoorDash is yes.
Launched in 2013, DoorDash has emerged as the US category leader, capturing half the total dollar value of meals ordered through competing platforms, which include Uber Eats, Grubhub, and others. Not surprisingly, the restaurant delivery sector has grown rapidly during a pandemic which has largely shuttered indoor restaurants, remanded millions of consumers to their homes, and boosted the pool of unemployed workers seeking courier work to supplement household income. Through the first nine months of 2020, US restaurants suffered a 50% percent decline in the number of seated diners, while some cities like New York, San Francisco, and Seattle experienced declines of over 80%.
In contrast, over that same period, DoorDash tripled its total meal order volume to $16.5 billion, connecting 390,000 restauranteurs and other local merchants to 18 million consumers, served by over one million courier “Dashers.” As a result, the company was able to eke out a small quarterly profit, its first-ever, in Q2 2020, but still wound up losing approximately $150 million through the first three quarters.
If history is a guide, DoorDash will be severely challenged to improve its operational and financial performance, post-pandemic. The restaurant and local merchant delivery business has struggled for decades to find the right formula for success against a long list of failures. From Kozmo and Urbanfetch, who flamed out during the dot-com bubble, to the more recent bankruptcies of Sprig, Maple, Munchery, and Foodora, profits and survival have proved elusive. Amazon, a paragon of operational excellence, tried its hand in restaurant delivery for four years, before shutting down its US Restaurants division in 2019. And none of the remaining major restaurant delivery players have been able to consistently post profits before or even during the pandemic, despite unimaginably favorable, if tragic business circumstances.
In its IPO S-1 prospectus, DoorDash shared how it expects to overcome this dismal track record.
“We founded DoorDash to be a merchant-first business… [W]e have created the most sophisticated and reliable logistics platform for local businesses. And, while food itself is a category that has a long runway for growth, we believe the network we have built ideally positions us to fulfill our vision of empowering all local businesses to compete in the convenience economy…” If we are successful in helping local businesses overcome the greatest business model challenge of their time, we believe that physical stores will be transformed and will morph into offering two types of products: convenience and experience. Every category of store on the street will be omni-channel — offering goods online, as well as rich, personalized experiences in-store.”
Cutting through the hyperbole, Doordash is betting its future (and investor dollars) on enabling local merchants of all types to better serve what it perceives to be two categories of consumer demand: convenience and experience. But DoorDash’s simplistic representation of consumer demand ignores a third distinct segment — immediacy — that more accurately reflects the smaller, pricier market DoorDash actually serves, even in the expanding market for home food delivery.
While at-home dining has surged during the pandemic, the demand for restaurant table service meals has actually been declining for years. US restaurants experienced 700 million fewer seated diners between 2014 and 2019, with commensurate growth in eating at home. This trend reflects broad shifts in demographics and consumer preferences: aging baby boomers increasingly seeking the comforts of home over restaurant dining, millennials preferring a quick couch dinner over Netflix to a restaurant and a movie out, and time-stressed working parents needing a quick fix for family meals. Moreover, Americans appear to uniquely dislike cooking. Only 10% of US consumers express a preference for preparing their own meals, and thus average less time on daily cooking chores than in any other OECD country.
But this is where the distinction between consumer preferences for convenience versus immediacy becomes important. Consumers can satisfy their desire to dine at home without cooking in a number of ways: ordering restaurant food online for customer pickup, buying ready-to-heat or prepared meals at grocery or convenience stores, drive-through service at quick-serve and fast-casual restaurants, or ordering restaurant food through online delivery services like DoorDash. All but the last option offer convenience, wide menu choices, and low cost, given consumers take responsibility for their own meal delivery.
The last option serves consumers who need and are willing to pay for immediacy, ie, the ultimate convenience of ordering a ready-to-eat restaurant meal with no advance planning or need to leave home. But this added convenience comes at a steep price. According to a recent analysis by the New York Times, a family meal that would cost $39 if picked up at a local Panda Express restaurant costs almost 50% more for home delivery by DoorDash or Uber Eats, even before counting discretionary courier tips. This premium reflects a number of confusing and non-transparent fees, including surcharges on the menu items themselves, delivery costs that can change from order to order, and other service fees that vary widely between competing delivery companies.
Not everyone is willing to pay the price for meal delivery, and in fact, the size of the pre-pandemic market for carry-out and drive-through meals was more than ten times greater than the value of at-home meal delivery. Moreover, for all the press coverage on high flying, money-losing companies like DoorDash and Uber Eats, digitally ordered carry-out meals were growing twice as fast as the meal delivery business, pre-pandemic according to NPD’s eCommerce tracking reports. Bottom line, DoorDash serves consumers who are able and willing to pay a steep price for meal delivery, a relatively small segment of the market for at-home ready-to-eat meals. To expand its addressable market Doordash has been aggressively pushing profit-killing consumer price promotions, but this tactic is neither financially sustainable, nor a reflection of true market demand.
A second problem with DoorDash’s strategy is the difficulty in creating win-win outcomes with restaurant partners. Many restaurants have found that adding meal delivery platforms to serve omni-channel demand — while perhaps a lifesaver during the pandemic — creates ongoing financial, operational, and customer satisfaction problems. For starters, restauranteurs rely on high gross profit margins on food and beverages — typically around 50% — to offset high fixed costs. But DoorDash and other platforms typically charge independent restaurants as much as 30% of customer order value for marketing and delivery services, eating up much of the net margin restaurants require to remain profitable. Many restauranteurs have found that the only way to earn any profit on delivery orders is to raise menu prices, further upping the cost of meal delivery to consumers.
Restaurants also face operational problems partnering with meal delivery services because many were never designed to accommodate the stresses of “omni-channel” demand. Traditional full-service restaurant kitchens are usually sized and staffed with sufficient capacity to handle peak period table service demand. Adding unpredictable online orders creates bottlenecks that can compromise meal preparation time, quality and satisfaction for all customers. This is particularly galling when relatively unprofitable online orders wind up driving away profitable dining-in custcomers, who become increasingly dissatisfied with their table service experience.
Finally, restaurants often experience customer satisfaction problems, as they are held accountable for poor delivery experiences even when the fault lies more with their delivery partners. A 2019 study found that one-third of nearly 1,000 independent restauranteurs surveyed were dissatisfied with their delivery partners, citing a number of customer complaints: late deliveries, cold food and soggy fries, and accepting orders for items no longer on the restaurant’s menu. These shortcomings were also captured in a recent survey of customer satisfaction with Grubhub’s restaurant delivery service. The 2020 survey gave the company a Net Promotor Score of -7, indicative that more customers are dissatisfied than satisfied with their meal delivery experience.
With all these problems, why has the demand for restaurant delivery services been growing so rapidly for years? The key reason is because investors have been willing to provide the sizable capital required for restaurant delivery platforms to heavily subsidize the full costs of their operations. Relentless promotions and discounts have enticed a growing number of consumers and restaurants to sign up for services which are economically unsustainable.
Grubhub’s founder and CEO Matt Maloney summed up the problem last year with unusual candor:
A common fallacy in this business is that an avalanche of volume, food or otherwise, will drive logistics costs down materially. Bottom line is that you need to pay someone enough money to drive to the restaurant, pick up food and drive it to a diner. That takes time, and drivers need to be appropriately paid for their time or they will find another opportunity. At some point, delivery drones and robots may reduce the cost of fulfillment, but it will be a long time before the capital costs and ongoing operating expenses are less than the cost of paying someone for 30–45 minutes of their time… [We]don’t believe now, that a company can generate significant profits on just the logistics component of the business. It is a commodity and there are significant variable costs that are hard to leverage even with technology and scale. Extremely large delivery/logistics companies can generate slim margins, but only because of the hub and spoke efficiencies they gain at substantial scale. The point-to-point nature of our business mostly eliminates that aspect of operating leverage.”
Maloney’s assessment calls attention to the intrinsic business model weaknesses that have plagued the on-demand, last-mile delivery businesses for decades: low productivity, high costs of customer acquisition (for diners and restaurants), low economies of scale, low stakeholder satisfaction and loyalty, intense competition, undifferentiated service and low barriers to entry. Belying its rosy IPO prospectus, Doordash and its equally challenged competitors have been failing for years to create sufficient value to adequately reward all stakeholders — consumers, couriers, restaurants and company shareholders — forcing the company to play one off against another, in what has become a long-running pursuit of profitless growth.
As a result, there has been little loyalty at any level of the business. Starting with consumers, whom Grubhub’s CEO describes as “promiscuous,” only one-third to one-half remain loyal to a single delivery service from month to month, and exclusive service use has been steadily declining over the past two years. With consumers repeatedly enticed by competing apps offering $20 — $30 discounts on their next order, it’s hard for consumers to resist promiscuous behavior — or for delivery companies to make money. DoorDash has tried to boost loyalty by introducing the “DashPass” subscription plan giving customers who pay a monthly fee of $9.99 free delivery on all orders. But this program winds up being unprofitable for DoorDash for any customers who were ordering four or more meals per month — the very consumers DoorDash is trying to retain — and an even worse deal for many restaurants who have to pay higher commissions to access DashPass customers.
Many couriers also routinely juggle between multiple delivery platforms to maximize earnings. As one experienced courier recently noted, “some apps have incentives tied to accepting a certain percentage of orders, but in my experience, I often do better by freestyling and being selective about which requests I choose to accept.”
Restaurants too have sought out (or been enticed) to partner with multiple delivery services to maximize revenue opportunities. As a result, delivery platforms are forced to compete with aggressive and costly promotion efforts to boost restaurant loyalty. Businesses experiencing high of customer acquisition costs and low customer lifetime value do not generally fare well, and the restaurant delivery sector is proving to be no exception.
To stem chronic losses, restaurant delivery platforms have been bulking up on acquisitions, hoping to achieve scale economies and reduced competition. Within the last eighteen months, DoorDash acquired Caviar, Grubhub agreed to be acquired by UK-based Just Eats, and Uber Eats acquired Postmates. But merging companies with similarly weak business models and limited scale economies rarely improve operational efficiencies or financial results. A relevant case in point is the ridehailing business, where despite massive consolidation that has yielded duopolies in most global markets, has yet to allow any bulked player to achieve sustainable profitability.
The CEO’s of leading restaurant delivery companies seem to recognize the limitations of the very strategies they have been pursuing. Commenting on consolidation trends, DoorDash CEO Tony Xu commented, “Combining with competitors to become more profitable is not that insightful of an observation,” adding that he is focused on DoorDash’s own growth strategy. Grubhub’s CEO echoed similar skepticism, noting “Everyone is kind of at the same level of efficiency. And so, even if we quadrupled our delivery scale, it’s not going to have a dramatic or even material change to that expense.”
So what will it take for DoorDash to reverse chronic losses that have plagued the on-demand, last-mile delivery sector for decades?
The answer starts by recognizing that businesses like DoorDash specializing in restaurant, grocery, and local merchant delivery are inherently inefficient and expensive, and thus do not provide enough value to profitably serve a large market. In most cases, customer order values are too low, and/or delivery costs are too high to make the economics of third-party on-demand delivery attractive for all stakeholders. Sure there are profitable niches to serve high income households willing to pay the full cost of on-demand delivery because they can, and businesses hosting corporate conference room lunches (remember them?) where order sizes and convenience easily justify the high cost of spot delivery. But these segments are too small to warrant DoorDash’s expected IPO valuation, which assumes continued growth towards mass market adoption.
Going forward, businesses that develop vertically integrated operations specifically designed to serve the growing demand for at-home delivery will significantly outperform local merchants who simply add on-demand delivery platforms to tap omni-channel demand. A number of examples are already playing out that demonstrate sizeable value creation opportunities in the restaurant, grocery and convenience product sectors.
Restaurants
One recent trend is the emergence of “ghost kitchens,” housing takeout-only restaurants in low-rent locations. These shared spaces help independent restaurants trim the real estate and labor costs associated with dining-in facilities, and often provide convenient parking for couriers and take-out customers.
But C3 (Creating Culinary Communities), a subsidiary of hospitality and entertainment company sbe, has gone considerably further to deliver a superior customer experience by reimagining every element of their kitchen-to-home operations. Launched eighteen months ago, C3 is on track to open 200 kitchens, each housing 3–6 of its 8 fast-casual brands (e.g. Krispy Rice, Umami Burger and Plant Nation) across 14 states by mid-2021. Customers can order from C3’s “virtual food hall” through a proprietary mobile app, seamlessly serving diners with eclectic tastes in one online shopping cart and checkout, instead of requiring customers to choose one restaurant and culinary preference on third-party delivery platforms like DoorDash.
To bring the pleasing experience of restaurant dining to at-home customers, C3 employs award winning chefs to craft its menus, and pays as much attention to packaging take-out orders as its restaurants do in plating table service meals. To shorten delivery time of its oven-fresh orders, C3 is establishing several multi-brand digital kitchens within each of its major metropolitan markets. And to ensure a superior experience at every consumer touchpoint C3 is will be bringing many of its delivery operations in-house.
Another example of a vertically integrated restaurant chain that shuns third-party delivery platforms is Domino’s, the world’s largest pizza chain. Unlike its main competitors Pizza Hut and Papa John’s, Domino’s relies exclusively on its own company drivers (who earn guaranteed base pay, with health care, retirement and sick leave benefits). Domino’s Chief Executive Ritch Allison believes that the profit hit and reputational risk of working with third-party delivery companies isn’t worth the extra sales, nor is he willing to surrender control of customer data Domino’s uses to maintain contact with its clientele. Domino’s vertically integrated operations has served its stakeholders extremely well. It’s customer and employee satisfaction, corporate profitability and shareholder value creation far exceeds competitors who remain reliant on third-party delivery apps.
Groceries
Instacart, the largest US grocery delivery company utilizes a business model similar to DoorDash. Its revenues derive from commissions on each customer order placed with participating grocers, and from customers who pay delivery fees and premium prices on selected food items. As a result, customers wind up paying a hefty 20–30% premium over store-bought groceries for the convenience of home delivery.
Can an online grocer operate profitably without charging any delivery fees or premium food prices? A Dutch-based grocer named Picnic is betting it can by completely redesigning supply chain operations in this traditionally thin margin business. Here’s how it works. Customers place their online grocery orders with Picnic by 10 PM the night before delivery, choosing a next-day, 20-minute drop-off window of the customer’s choosing. The advance order requirement gives Picnic two major advantages over traditional grocers; precise ordering of perishable groceries from suppliers yielding fresher food and less waste, and the ability to optimize delivery routes.
Picnic operates partially robotized centralized fulfillment centers in low cost locations that allow efficient pick-and-pack operations. Customer orders are binned and trucked to regional distribution hubs, where they are loaded on specially designed, side-loading electric delivery vehicles, in order of the day’s optimized delivery route. This process enables Picnic drivers to make up to 14 customer deliveries per hour, compared to only 1–2 deliveries per hour on average for Instacart couriers. Picnic’s operating efficiencies allow Picnic to provide customers the benefits of free home delivery at normal grocery store prices.
Convenience Items
Unlike groceries, where consumers can plan shopping orders for next-day delivery by Picnic, or tolerate a two-hour delay for online grocery orders delivered by Instacart, there has always been a large market for convenience items, where the demand for immediate consumption is paramount. Think laundry detergent, when your favorite jeans are in the wash, or diapers and Motrin for a feverish and fussy toddler, or Doritos and a six-pack for fussy and thirsty adults, watching their favorite sports team on TV. Traditionally, consumers have satisfied their need for immediate consumption with a quick trip to a neighborhood convenience shop or drugstore.
What if a large selection of convenience items could be ordered online 24/7 at prices comparable to neighborhood shops, and delivered in 30 minutes or less for a flat fee of $1.95? That’s the promise behind GoPuff, a 2013 e-commerce startup now operating 200 US fulfillment centers serving more than 500 cities, delivering over 3,000 products spanning over-the-counter medicines, laundry detergent, pet food, snacks, nail polish and alcoholic beverages.
Such a service does not pose an attractive business proposition for neighborhood shops delivering through third-party delivery services, since order sizes are generally too small for stores or consumers to bear the high cost of delivery. For example, one recent study found that the cost of a typical market basket of convenience items delivered by DoorDash from a major drugstore outlet was 36% higher than a comparable order through GoPuff.
The key to GoPuff’s competitive advantage is its vertically integrated business model, specifically designed to enable low cost, rapid delivery of small customer orders. GoPuff deploys a national network of fulfillment centers in low-cost locations designed for efficient pick-and-pack operations, utilizes sophisticated inventory management algorithms to handle a broader selection of market-specific merchandise than neighborhood convenience shops, and manages its own company drivers to ensure more reliable delivery.
The resulting efficiencies have allowed GoPuff to provide a compelling consumer value proposition in a rapidly growing number of cities and to achieve profitability in most of its mature markets. As a testament to GoPuff’s success, DoorDash recently launched its own copycat convenience store business called DashMart in eight cities to compete not only against GoPuff, but also against local merchants the company pledged to support, both in its founding mission statement and its S-1 IPO filing.
All these examples showcase companies providing food and convenience items at competitive prices and low or no delivery fees by investing in hard assets (kitchens, fulfillment centers, and delivery vehicles), by tightly managing end-to-end business processes specifically designed to support home delivery, and by maintaining a direct relationship with customers. As a result, these companies are achieving high efficiency, strong scale economies, high margins, superior stakeholder satisfaction, and barriers to competitive entry.
In contrast, DoorDash’s value proposition rests primarily on providing undifferentiated high-cost, on-demand delivery services to relatively small scale, local merchants who often lack the capacity, efficiency or business processes to effectively serve omni-channel demand. In the food wars to come, DoorDash will increasingly find it is playing a losing hand.
It is not surprising that DoorDash rushed its IPO to market before year end. The pandemic has forced thousands of local merchants into a Hobson’s choice between low profit survival or extinction in deciding whether or not to partner with DoorDash and other delivery platforms. While current circumstances have given a tragic and temporary boost to DoorDash’s revenues, its business model has not and will not create enough value to adequately reward all its stakeholders — before, during, or after the pandemic.
