Services contribute, by far, the largest amount to a countries economic output. Why? Because they are easier to setup, scale-up/down and close than say a manufacturing unit or a farm.
Last few years have seen massive growth in certain services even as other services declined. One example of the former is the ‘delivery service’ (e.g. Deliveroo) that delivers some product (e.g. food). Covid-19 helped accelerate the growth as people could not go to physical locations to access those products.
But how do these services work? Now that the lockdowns are over and people are not afraid to mingle, what will happen to such services? What factors will impact the future prospects of such services? Let us investigate.
To answer the above questions we need to figure out how do delivery services interact with the products they deliver in terms of price and value. Now we know the sale price of any product (the price we see as consumers) includes service costs that went into making that product (e.g. chef’s services in cooking a dish). One of these services is product delivery that gives us access to that product (e.g. salary of the waiter in a restaurant or the delivery driver).
Delivery Fleet to Delivery Aggregator
Before delivery aggregators gave access to a large pool of delivery personnel, each producer had their own delivery fleet (e.g. Dominos, local take-aways etc.) cost of which was either included in the product sale price (see equation 1) or added on as a fixed delivery charge or calculated per delivery (e.g. courier).
Product Sale Price = Base Price + Delivery Price (1)
Consumers could only order certain items usually from local businesses. Constraints like minimum spend also were a pain point. Also you could only order from one business.
Now businesses need not maintain their own delivery fleet and for consumers more items can be ordered from a wider range of producers (with the ability to mix and match) sitting in the comfort of your home/office. This can be thought of as decoupling of the product from the delivery channel.
The delivery firms make money out of the perceived value of accessing the product with minimum effort (e.g. walking, driving, parking) where consumers are trading money for time. They save money through economies of scale and by (sometimes) treating employees like they are not employees (which reduces operating costs).
Final Product Price = Price Paid for Delivery + Product Sale Price (2)
We would also expect businesses to reduce the product sale price (see equation 1) because we are now accounting for the delivery price separately (see equation 2). This should lead to benefits all around – as consumers should pay a lower cost to access the product at home (which can be identified by comparing say take-away menu price vs price for home delivery via aggregator). But we know how pricing in general works. More processing some raw material requires before it can be consumed, less is the probability its price will ever fall. Why? Because with processing, cost increases and more factors come into play, read more here: Causes of Inflation
Trouble with this Business Model
There are few issues with this business model and equation (2) points to a big one. The demand for the service provided by delivery aggregators is entirely dependent on the demand for the products they deliver.
Therefore if the products they deliver are ‘luxuries’ such as take-away meals or restaurant dinners then the demand will go down if an economic downturn is expected (such as now). This is one reason you find delivery aggregators like Uber and Deliveroo are diversifying into daily-use groceries (which are not seen as luxury items).
Impact to Demand for the Service
The other thing that can impact demand for the service is the demand for the service! Remember, unless the product is exclusively sold through the delivery aggregator, people can still consume the product without consuming the delivery service. That is why you have exclusive tie-ups between producers and delivery aggregators (e.g. Nando’s and Deliveroo).
There could be many reasons why demand for the delivery service changes. I have attempted to illustrate some of the reasons why in Figure 1. But given the seasonal, location and other factors I am sure there are many more.
Imagine a food delivery scenario where we look at two groups of people: one who live near the city centre (with high concentration of restaurants and take-aways) and the other who live in the suburbs (with low concentration of restaurants and take-aways).
For the City Centre group – distance to the eating joints is probably not a big pain point but still delivery is convenient (trading money for time). But for the Suburbs group it is and because delivery service allows them access to food from the City Centre, the Suburbs group is happy to pay a bit more for the delivery as it removes the big pain point of travelling to the City Centre, finding and paying for parking etc.
But this can change very easily. For example if the weather improves then City Centre group might enjoy a walk to the eating joint (even if they get a take-away). Or if the base price of the food increases it might encourage them to walk (especially given the health benefits of exercise).
For the Suburbs group – if the delivery price increases even if the base price of the food remains the same – they may choose to make the effort to get the food themselves. The delivery price can increase for many reasons – e.g. if there is high demand or cost of fuel goes up. Another factor could be the end of lockdown: the prospect of going to the City Centre may not be such a big pain point (especially when the weather is good or during holidays).
Concepts like ‘dark kitchens’, where food from different restaurants is cooked in the same kitchen, located in different parts of the city, are coming to address price variability, improve access and reduce costs.
What Does the Future Hold?
Given the slim margins there is very little room to increase spending without impacting the delivery price. Here are some factors that will decide what direction this space takes:
- Regulations: Given that gig workers can be easily left without any cover unlike regular employees there is a big push to reclassify delivery personnel which means giving them paid leave, sick pay and other benefits and reducing profits for the delivery aggregator
- Technology: Delivery is human-labour intensive and we will not be able to reduce costs easily. Technology such as drones can provide the next level of cost reduction but that doesn’t look like something around the corner
- Income Levels: Delivery Aggregators depend on disposable income of the consumers so they can pay that little bit extra for delivery. If income levels start to fall all these ‘little extra bits’ will start to bite. This can be seen in other areas as well like Content Platforms (e.g. Netflix, Disney+) where people are cutting down spending
- Product Experience: Experience around the product is just as important as the product itself. For example when we go to a grocery store we end up buying items not on the list or discovering new products. With delivery aggregators we cannot get that experience easily
- Lifestyle Changes: After the Covid-19 lockdowns and large scale work-from-home most companies are exploring different work arrangements. From flexible working arrangements to a 4-day work week. All these things impact the one thing that delivery aggregators are meant to save – time. With changes to work patterns people have more time to spare. Therefore, the value of time goes down and they may not want to ‘buy’ time with money
In general I don’t think we will see skyrocketing growth in this area and given the bleak economic output one can only predict a short term decline and longer term stabilisation.