Many of you might wonder and may have some time in your life expressed some level of surprise and disbelief that food delivery startups like Zomato and Swiggy are able to sign up as many restaurants as they have on their platform, while sometimes charging commissions as high as 30%-40%!
What makes these restaurants sign up and how do they afford these massive take rates?
The answer lies in the simple fact that if you’re a restaurant owner, food delivery looks very different to you than serving customers who are dining in.
In the case of restaurants, the majority of their constraints come from fixed assets that aren't being utilized fully.
For restaurants, the primary constraint is dining space.
There is a hard upper limit on how many tables a restaurant has, and thus how many people they can serve in a night. This real estate space is a fully utilized fixed asset.
So a startup that brings new diners to a restaurant is entering a zero-sum game, especially during peak hours, when a restaurant knows they can likely fill all their tables without any external help. If a restaurant accepts a diner from a startup and pays them a commission, this replaces a diner that would have walked in for free.
So there is no incentive to pay any startup that brings in walk-in diners.
But food delivery startups don’t primarily get you walk-in diners. Physical serving space is not relevant to delivery orders.
For food delivery, what’s relevant is the kitchen capacity.
Kitchen capacity is an underutilized fixed asset. Most restaurants are bottlenecked by dining space: kitchens can handle way more orders than they handle each day, but never need to because there’s not enough space in the restaurant for more diners.
Hence, like all fixed assets that aren’t being utilized fully, restaurant owners are very happy to have their kitchens handle more orders if it makes sense.
The other constraint for food delivery is labour.
Restaurants may have some free labour, depending on how busy they are. Labour is a fixed asset until you need to hire more workers. And it is often underutilized, even within peak hours, let alone other times of the day. As workers are paid wages by the day or month, and not by the hour, letting them go during non-peak hours is also not an option.
Food delivery startups bring in more orders and help restaurants make use of this labour that is not working at full capacity.
So, when a startup like Swiggy brings new delivery orders to a restaurant, their main question is whether the delivery will be profitable, including the variable cost of goods and increased labour. Real estate costs are already fixed so they do not factor into the calculation.
If delivery orders are profitable, restaurants are happy to do any and all additional orders and are willing to pay high commissions to startups for bringing them customers.
An additional third factor worth considering is the discovery and decreased friction for orders.
Food delivery/aggregation platforms like Zomato and Swiggy enable restaurants to be discovered by a larger audience who doesn’t live in their physical vicinity.
Not only does a restaurant expand its reach and customer base via these platforms, but the crowdsourced reviews, photographs, and online menus lead to more informed decision-making on the customers’ part as well.
And if you’re a restaurant delivering quality food and service, you would want these food delivery platforms to aid your discovery and even increase offline footfall.
Also, food delivery is way less friction for a customer and can lead to a lot more orders per customer versus dine-in. Via food delivery, restaurants can essentially increase their revenue per customer.
To summarize
Food delivery platforms provide restaurants with a great way to milk their existing assets and turn a profit on them.
And if you’re a restaurant with your own logistics and brand that gets people to use these apps, you get even more leverage when it comes to negotiating commissions.
Ultimately, for anything to work in the real world, it has to be economically viable. If it is not economically viable, it will come crashing down sooner or later.
