LFTL: The Economics of 3PD
The meteoric rise of third-party delivery services (“3PD”) like Uber Eats, DoorDash, and Grubhub forever changed the economics of the restaurant industry. 3PD was originally marketed as a supplemental revenue stream but the endless cheap capital fueling the platforms allowed for massive customer acquisition numbers. The pandemic further accelerated a shift in consumer preferences towards delivery, making it de rigueur for all but the fanciest dine-in restaurants.
Delivery’s displacement of dine-in sales isn’t ideal because post-pandemic restaurants are facing higher labor costs and rising ingredient costs, making it essential to be conscious of relying on delivery revenue because delivery sales can have lower gross margins due to the fees charged by the third party services.
Fees charged by 3PDs can be divided into three main categories:
Commission Fees serve as the primary source of revenue for third-party delivery platforms. These fees are typically charged to restaurants as a percentage of the total order value, ranging between 15% and 30%, and are not directly visible to customers. In response to concerns for the post pandemic well-being of restaurants, many states and jurisdictions have implemented caps on commission fees, generally keeping them on the lower end of the aforementioned range.
Delivery Fees are fees covering the cost of transporting the food from the restaurant to the customer. They are usually paid by the customer, but in some cases, the restaurant may decide to cover part or all of the delivery fee – particularly in white label situations where the restaurant offers online delivery direct from their website serviced by a 3PD service.
Miscellaneous/Marketing Fees have risen in prevalence as a way for 3PD companies to maximize revenue and get around commission fee caps. Many platforms now offer a cap conforming plan that offers delivery but to receive any sort of visibility on the platform restaurants have to subscribe to the higher percentage plan.
To offset the third party fees, most restaurants choose to increase their menu prices on delivery platforms to offset the commission. Since restaurant demand can be considered relatively elastic, meaning that the quantity demanded by consumers is sensitive to changes in price, it’s probable that price increases may affect sales volumes. It’s very easy for a pizza that costs $18 in-house to cost $30 delivered.
Third party delivery is here to stay. So what can restaurants do to manage these costs?
Make it Work for You: A well crafted 3PD menu is something that travels well, isn’t labor intensive, and isn’t burdened by high food costs. Remember it’s your brand that is at risk when customers order from your restaurant so make sure you are putting your best foot forward in a way that’s accretive to the bottom line.
Be cognizant of product mix and the total costs of delivery: the fees outlined above are a great place to start but also remember that most third party delivery orders require significant paper and packaging costs to fulfill. If your best selling items are your high food cost items, you will have a low gross margin on those sales.
Invest in growing high margin lines of business: time, money and attention are finite so marketing and growth efforts should be focused on sales lines that yield the highest margin. In practice, focusing on private dining, catering, and raising dine-in sales will usually yield more margin than investing in growing online sales.
As ever, your Harmony team is here for you - we’re happy to discuss your questions about third party delivery services and how to best integrate them into your business.
Last Bites
April 2023
Buzzword Loyalty Program Launches
The founder of Resy (and Eater) is back with an “NFT” start-up that promises to revolutionize restaurant loyalty programs. An NFT, or non-fungible token, is a unique digital asset that represents ownership and provenance of a specific piece of content, secured by blockchain technology for verifiable authenticity and scarcity. We’re not sure what makes this program an NFT other than the same impulses making us months away from our restaurant clients being inundated by start-ups promising to increase their sales via “generative AI”. However, the increasing automation and digitization of loyalty programs is something that we are keeping an eye on – reducing friction to loyalty incentives is the future.
Labor Market Remains Tight Despite Hiring Increases
Independent restaurant hiring hit a six month high in March. Given the natural sales cycle of restaurants (something we covered here), this is the timing we would expect to be peak hiring time. The article mentions that the tight labor market hasn’t abated as 62% of operators say they need more employees, with BOH positions the hardest to hire and this labor shortage has made service industry wages one of the primary drivers of inflation. Keeping an eye on menu engineering and focusing on retention will be essential as competition for talented workers shows no signs of abating despite hiring increases.
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Certainly if you’re reading this on the blog you’ve already noticed, but: We have a new website! Check it out! All of your Lessons From the Line and our other publication, the Commonsense CPA, can be found under the “Our Blogs” section.