“Food delivery is still at an early stage and can be 30 or 50 times larger” - Bob Van Dijk, CEO of Naspers
1.Background and History
DAX-30 is the blue-chip index of the 30 most valuable companies in Germany.
The DAX-30 embodies German corporate establishment and is a mainstay of asset managers across the world who would like to get exposure to Germany. The index includes heavy weights such as BMW(1916), Bayer(1863), Allianz(1890) - companies with long and storied history.
In August 2020 Delivery Hero, a Berlin-headquartered “holding” company, which owns several food delivery platforms across Europe, Asia, the Americas, and the Middle East and Africa region, was included in the DAX-30. A couple of things stood out: like many other “tech” companies operating in the food delivery space, it was not profitable, but more unusually despite being headquartered in Berlin it did not operate in Germany and hence did not generate any revenue from Germany (this is changing but more about it later).
The company it replaced in index was ironically Wirecard, which was supposed to present the renaissance of German tech. The house of cards built by Wirecard would collapse shortly.
Inclusion in DAX-30 marked a significant milestone for Delivery Hero, a ten-year-old company which is now one of the leading players in the food delivery space. The king maker in the space remains Prosus but Delivery Hero has a significant shot at being the designated king. Prosus also owns almost 25% Delivery Hero.
Niklas Östberg, the CEO of Delivery Hero, founded a food delivery platform in 2007 in his native Sweden. He then bootstrapped it internationally to Poland, Austria, and Finland. Subsequently he brought the food delivery platform to Berlin and partnered with Kolja Hebenstreit, Markus Fuhrmann and Lukasz Gadowski to found Delivery Hero in May 2011. Niklas is still the CEO of the Company whereas the rest of the founders are no longer associated with it.
From its humble origins, the Company has grown rapidly through organic growth and acquisitions (more on acquisitions later).
The gross merchandise value (“GMV”) -a measure of how much consumers spent in each order- has grown from €2.3bn (2016) to €12.4bn (2020), more than a fivefold increase.
The revenues have grown from €290mn (2016) to €2.4bn (2020), an 8.5x increase.
In 2017 Delivery Hero went public in a listing on the Frankfurt Stock Exchange, raising almost €1bn from the offering. At the time the listing was the largest one by a European technology business in almost two years.
Today, Delivery Hero employs more than 29,000 people globally and is present in more than 50 countries across Europe, Latin America, Asia, the Middle East, and North Africa.
The Company has also made an aggressive foray into the grocery space and has opened ~700 Dark stores, or Dmarts as it calls them.
Unlike DoorDash in USA, Delivery Hero is not a uniform monolith operating under a single brand. The Company is a constellation of different localized brands mostly in emerging markets.
The local markets are clustered under regional leadership, for example the PedidosYa brand in South America, or the foodpanda brand in Asia. The countries formally report into the regional center, which then reports into the HQ. But there is no cross regional communication, for instance South America doesn’t talk to SE Asia on a regular basis. The organization is more of a hub and spoke model. Each country has its own dynamics and competitive environment.
So unlike Uber Eats you cannot use the same app to order food in different countries. But the diversity of brands across different geographies also conveys a more subtle message. Food delivery is an internet platform business, but it is a weaker platform owing to its hyper localized nature. This is opposite to a platform like Airbnb for example in which, sitting in the USA, you may book a room in Paris. Here is a great visual borrowed from Sameer Singh
Delivery Hero would lie in the same quadrant as Uber and Deliveroo (i.e. bottom left).
Even though Uber and food delivery lie in the same quadrant, the network effects of food delivery are stronger than a ride sharing platform like Uber.
If we look at the supply side, adding an additional taxi to the network strengthens it, but it is a very undifferentiated supply. The addition just strengthens the network by virtue of adding another node. In case of food delivery, adding a restaurant adds more value. For instance, if you add a new Sushi restaurant, it does provide more variety to customers and hence makes the network much stronger by generating additional orders.
Before delving deeper into Delivery Hero let’s look at the food delivery space, how it has evolved and what are the current dynamics.
2.Industry
We will look at the food delivery and grocery deliveries separately. They may look similar but there are some subtle differences, which we will explore later in the piece.
The era of internet food delivery may be dated to early 2000s and can be broadly divided into three stages:
First generation or pure Marketplace (Early 2000s):
The first generation of food delivery companies were exclusively lead-generating platforms for restaurants, which already had a delivery fleet. An example of such player would be US based Grubhub, which was founded as an alternative to paper menus.
You can think of first-generation pure marketplaces as yellow pages+ for internet albeit with facilitating services like payments etc. added. However, the delivery was fulfilled by the restaurants themselves.
Second generation or Own-Delivery (Early 2010s):
The second generation of food delivery companies were lead-generating platforms and built their own delivery fleet to facilitate delivery for restaurants
For most restaurants, it's a no brainer to start offering delivery as you generate additional revenues without any additional fixed costs (labor and real estate). The Own-Delivery players would help increase the utilization rate of fixed assets for restaurants and increase the liquidity of the marketplace by bringing more players online.
The shift in focus to Own-Delivery was also a defensive move against Google and Facebook. Purely lead generating marketplace would be vulnerable against both Google and Facebook so such marketplaces needed to migrate further down-funnel and bear more responsibility for delivery, bookings, payments etc.
The third generation or hybrid (late 2010s):
The third-generation companies play as both Marketplace and Own-Delivery. Furthermore, the concept of cloud kitchen or dark kitchen has been introduced. The cloud kitchens are delivery only “restaurants” and not open for dine-in. They may be owned by food delivery platforms, too. If owned by platforms, they may be akin to Netflix owning the content.
Delivery Hero has increased its Own-Delivery capacity and the current share of Own-delivery is between 40% and 50% and increasing.
Companies doing Own-Delivery employ riders mostly as contract employees (with exception of some countries in Northern Europe). So, scaling up Own-Delivery will have its own risks such as strikes, fraud or pressure to provide more benefits to “Gig economy” employees.
So, what drives the restaurants to use their own delivery vs. using an external party?
For most restaurants it is cheaper and easier to use own couriers if they have high delivery demand. The key driver is high delivery demand, which in turn is driven by geographical location, as demand tends to go up with diminishing delivery time.
For non-casual dining restaurants, having a presence on the food delivery platform is beneficial since it optimizes their idle assets during off peak hours.
For casual dining restaurants, the takeaway and order frequency are expected to be higher, and it is no surprise that a chain like Domino’s has its own first-class delivery network.
Besides delivery, the lead generation is also an important determinant and hence some restaurants have both their own app and are also on the food delivery platform. The reason is to own the customer relationship. In this case the restaurants want to own end to end customer relationships and resort to “white label delivery”. That is, they generate leads through their own apps but use a 3rd party for delivery to ensure closer relationship with customers.
Overall food delivery is a network business, and the eco-system is strengthened with more participants: consumers, restaurants and couriers.
So how does the business operate?
Here is a simplified flow taken from Delivery Hero’s corporate presentation:
In terms of business model, the bulk of revenue is from commission (paid by restaurants) and delivery charges (paid by the end consumer) with prime listings, payments, and other value-added services on top.
So, what is the actual size of the market we are looking at and how far the curve is Delivery Hero in terms of penetration?
Delivery Hero estimates as its TAM (“Total Addressable Market”) to be around €70bn, which is the same amount they estimated at IPO in 2017.
Here is Niklas in August 2018 on earnings call:
“We said at IPO was EUR 72 billion, and we said also how we start expanding into the whole restaurant space and probably even the cooking space. You might not cook as often, you might even order more and save you the hassle. But if you only look at the restaurant sides, that we said, it's a EUR 500 billion, if we look at the markets where we're active in. And I think, we haven't update how much of that EUR 72 billion is moving to the EUR 500 billion or potentially even into the multitrillion food market. So no new update there, but we clearly see how we're moving closer to take or take market shares of the whole food market, both restaurants and cooking market. So therefore, we start seeing more opportunity in the EUR 500 million -- or EUR 500 billion space, potentially multitrillion space”
It is also pertinent to mention that the management has acknowledged that they have usually underestimated the market growths and TAM.
Quick Commerce:
Just like food delivery, the grocery delivery market can be divided into Marketplace, or dark stores model or a hybrid model.
Marketplace:
In pure marketplace models, the platforms act as demand generators. They are asset lite with no physical asset or inventory risk. In this model, they act as an adjunct to super-markets and hence do not disturb the current status quo. The barriers to entry are low and hence the flywheel requires a bit of effort before it starts spinning.
Dark Stores or Dmarts:
Dark stores or Dmarts are urban warehouses located close to customers to enable fast delivery. The model is asset intensive and requires building a delivery service. Dark stores usually are owned by the platforms themselves. They are equivalent of cloud kitchens of food delivery.
The broad online grocery space or Quick commerce (“Q-commerce”) is a natural extension of food delivery with current players expanding food delivery into different sectors to optimize the delivery network.
There are similar dynamics to food delivery however grocery is more of a last mile logistics play and an even more hyper local play.
Online grocery delivery is going through a rapid evolution. In its nascence, the target customers were those who required weekly delivery of groceries. This in essence meant that supermarkets and corner markets were immune to disruption and were rather part of the value chain.
The newest incarnation is going after dopamine hit of instant delivery with as little as ten minutes delivery. The speedy delivery is enabled by small localized dark stores, an army of couriers and oodles of venture backed cash.
Besides the food delivery players, we see many new local and regional entrants focusing exclusively on grocery delivery.
Berlin-based Gorillas (name is self-explanatory and slogan is “faster than you”) is charging as low as GBP 1.8 pounds to Londoners with no minimum order value. However, whether they can sustain it, is another question.
Turkey based Getir is not charging any delivery fee at the moment.
The fully integrated grocery delivery model is more complex than food delivery from restaurants. Operational complexity coupled with perishable goods and the need to scale up soon, make it very difficult to get everything right. I am afraid pressure from venture backed funding will eventually lead to a lot of creative destruction in this space.
Delivery Hero estimates its TAM for Quick Commerce at around €56bn.
The total TAM for both food delivery and Q-commerce combined is around €130bn against which the company’s GMV is around €30bn range (estimated for 2021) implying a penetration of 23%.
The above TAM does not consider new countries in which Delivery Hero may venture.
In summary I am not worried about the company hitting a ceiling if it continues to out execute the competition. The TAM is large, and Company has a long runway in both food delivery and Q-commerce.
Are food delivery and Q-commerce sustainable business models?
Let’s look at the unit-economics and understand its main drivers. Below is a slide from Prosus:
3P in above refers to pure marketplace customers and 1P to Own-Delivery
The marketplace model carries a lower take-rate but also has lower overhead and thus can generate a greater contribution profit margin than revenue per order ($2.5/$3.8, using numbers from the chart).
Own-Delivery models generate a lower contribution margin, but they charge more to merchants and consumers to offset the increased cost of delivery, they still generate the same absolute dollar amount of contribution profit.
So, on a unit economic basis, the delivery business model can be profitable. The key question is whether the model can work at scale and amid competition and what are the key drivers of profitability?
A similar analysis can be had for Quick commerce. Below is the slide from Delivery Hero illustrating the unit economics:
The drivers to profitability are similar for both businesses:
1. Reduce delivery cost
2. Increase AOV (“Average Order Volume”)
3. Introduce non-commission revenue streams such as prime listing, payments etc.
4. Build scale to reduce CAC (“Customer Acquisition Cost”)
Before we delve into which ones are more feasible, I would like to address two frequently cited bearish comments raised about the food delivery.
One is that the delivery space is structurally unprofitable and access to capital seems to be the competitive advantage.
The second argument is that customers do not have a brand loyalty and will switch frequently depending upon discounts etc.
Let us address the above concerns in a data driven manner.
As we have shown above, the unit economics works for both food delivery and Q-commerce but it does require a substantial scale. Hence, I fully expect the consolidation in space to continue till we have fewer and bigger players. The contribution margins are positive if we exclude discounts/vouchers etc. and there is a developing consensus that permanent discounts and vouchers are not a good way to acquire customers.
The usual strategy to build scale has been:
1. Run logistics at $0 delivery fee or give vouchers and discounts to acquire customers forcing rivals to match or lose market share.
2. After winning the market, raise delivery fee or instill minimum order to make the unit economics work.
“In terms of cohorts and loyalty and for the new investments. Here, we see actually pretty good cohort development in part because we don't really do discounts on our service. We see our competitors doing that a lot in many places, in particular, the newcomers coming on board, doing that a lot and kind of subsidize the business on a non-economical basis. So that's why I don't believe they will all make a profit. As soon as they try to turn this as a profit contribution, I think, they will struggle. And this is also why we work so hard on efficiency. So whenever can actually take affordability measures like delivery fees and so on down, we can still actually turn a profit contribution on those orders”
2018 Q3 earnings call, Niklas Östberg
At scale basically, in order to be profitable both AOV and delivery cost need to be optimized and/or take rate to be increased.
The increase in take rate considering intense competition could be difficult.
So unless a minimum AOV is required, the other way to increase profitability is by reducing delivery cost. There are various factors which drive delivery cost:
1. Urban density – not under control: In short, the higher the urban density the lower the cost is likely. So, in a country like Korea the delivery fee is likely to be low compared to say USA. Obviously, this is a factor which is beyond the control of companies and cannot be manipulated easily.
2. Optimized network at the cost-of-service delivery: This entails batching more orders together. Obviously, the batching will come at the cost of delivery times unless optimized for geographical location and customer co-location, which is not always possible. With all the players racing to shorter times, I am not sure this is a factor which can be manipulated either.
3. Go into ancillary deliveries: Horizontal expansion into other services such as pharma, flowers, groceries etc. is a natural outcome for optimizing the network and hence we see all food delivery companies going into these verticals.
4. Increase the productivity of delivery
Factor 3 is already being pursued. Factor 4 in my view is not possible currently. The delivery may suffer from Baumol’s disease unless in near future we go to automation in the near future.
In short, to be profitable the delivery companies need to scale up to attain operating leverages with minimum order value or increased take rate as secondary levers.
The other bear argument is that customers do not have brand loyalty. The data shows that even if customers do not “love” the brand, the cognitive reference is still there. Below is a comparative cohort analysis across different geographies and for different players. The data shows that all players have strong cohorts:
Even on a comparative basis we may be understating the strength of cohorts when it comes to food delivery. Here is another chart, which shows cohorts in food delivery may be among the best. So, the data show that customers may be sticky and their loyalty is driven by order speed, quality and customer service.
In summary:
1. The scale matters in the delivery business but the benefits are not cross regional. If you are a big player in South Korea then you cannot cross benefit from it in Japan in a tangible way. The benefit will be from know-how and other soft factors
2. Food delivery platforms will scale up their grocery offerings to optimize their network
3. Grocery only apps have low barriers to entry but high barriers to scale and capital will flow into them
4. Consolidation will take place. The food delivery market is fragmented globally but consolidating regionally and I suspect it will have maximum 1-2 big players per market
5. There will be acquisition of grocery delivery players
The food delivery also operates under a few regulatory issues, which are worth keeping in mind:
There has been a complaint against excessive charge from the restaurants, and in some cases even cities are cracking down.
Like other “gig-economy companies” the food delivery companies will also face the pressure to give their “workers” more greater employment rights. Recently, Deliveroo had to exit Spain because of this issue. This is a social issue and, in some countries (North Europe esp.), the couriers are employees whereas in other countries they are contractors and hence there are different benefits and associated risks.
The above mentioned issues may significantly affect the valuation of the food delivery companies and should be considered as potential risks. The redeeming feature for Delivery Hero is that it is diversified across many countries and a uniform regulatory regime across the countries is unlikely in the future.
3.The Company
Delivery Hero operates in food delivery as both a pure marketplace and via Own-Delivery. The company also has a growing Q-Commerce business and is actively developing dark stores.
Below is a snapshot of the key financials:
Some comments:
Focusing solely on GMV for an e-commerce business may be misleading since there are differentiated products with different price points and the products may not be comparable. However, for food delivery where the underlying “product” is comparable, GMV is quite an important metric. In fact, recently Delivery Hero expressed its long-term profitable target as an EBITDA margin of 5-8% as a percentage of GMV. Both GMV and revenue have shown strong growth rates.
In 2021, the Company is expected to have a GMV between Euro 31 billion to Euro 41 billion and revenue between Euro 6.4 to 6.7 billion. The big jump is driven by the strategic partnership with Woowa in Korea (more about it later).
The bulk of the revenue is generated from commissions charged to restaurants with delivery charges making up the second largest part:
The company defines adjusted EBITDA as EBT (“Earnings Before Taxes”) adjusted for financial charges, D&A, share compensation and other non-recurring items such as expenses incurred in financing and M& transactions.
Both gross margins and adjusted EBITDA have declined owing to investment in Own-Delivery, and Integrated Verticals. Own-Delivery means that the cost of riders is reflected in COGS. Furthermore, the roll-out of Dmarts has also led to a decline in margin. I am not too worried about a decline in margins since this is effectively an investment, which is - owing to GAAP accounting- being expensed out rather than appearing on balance sheet as investments.
Cohort Analysis:
The most crucial piece of analysis for a D2C business is cohort analysis. I really love it when companies provide a detailed analysis of their customer cohorts.
The chart above shows the cohort analysis for Delivery Hero and shows a healthy, almost-a-subscription-type recurring revenue from the cohorts as they age. As per company re-orders account for 96% of the orders.
Unfortunately, we do not have a breakdown of cohorts on a regional level, but the above chart above shows that in terms of regions as MENA is once again leading the indicators.
The Company has traditionally reported financial results for four key segments: Asia, MENA, Europe, Americas. The Q-Commerce was first time shown separately in 2020 financials as Integrated Verticals.
As can be seen from the table above, MENA is the most dominant region and the only adjusted EBITDA profitable region. Europe has gone down reflecting the sale of Germany with more focus on areas outside of Europe.
The Company has also been an M&A machine with both offensive and defensive acquisitions. It is difficult to do a post-mortem on these acquisitions since the data is not available. But looking at the performance of the region, – in some cases – only a qualitative assessment can be made.
Europe:
In the Europe segment, the Company offers both a marketplace and Own-Delivery services. They are present in Austria, Bosnia and Herzegovina, Bulgaria, Croatia, Cyprus, the Czech
Republic, Finland, Greece, Hungary, Montenegro, Norway, Romania, Serbia and Sweden with their specific local brands (Mjam, DameJidlo, donesi, efood, foodora, foodpanda, foody, NetPincér and pauza).
Delivery Hero is not present in Spain but does own a minority share in Spain-based Glovo. Recently they also sold their Balkan operations to Glovo for a consideration of €170 million. The rationale would be to streamline their focus areas and may be raise dry powder for something else. The rationale is also found in the strategy of being number 1 or 2 in any market it operates, and Eastern Europe was dominated by Glovo.
A couple of points worth noting: The Company is no longer present in Germany or UK. In Germany, they sold their business to Amsterdam based Takeaway.com, which later merged with UK based Just Eat to form Just EastTakeway.com (“JET”) in 2018. The total consideration was €1.06 billion. The company was paid a GMV multiple of 1.6x 2018A, which equated to a revenue multiple of 10.1x 2018A. The consideration was for both cash and stock and hence Delivery Hero ended up with an initial stake of 18% in JET.
Prior to that, Delivery Hero had also sold their UK business Hungry House also to JET for a consideration of GBP 200 million.
Recently, it has announced its re-entry into the crowded German market via the brand foodpanda after the expiry of a two year non-compete agreement with JET.
Both Germany and UK are becoming crowded battle fields for several established players and fast-growing startups, which are offering rapid grocery delivery.
Q-commerce players, Gorillas and Flink are both based in Berlin. Istanbul-based Getir, the largest European operator of rapid grocery apps, is planning to begin deliveries in Berlin soon. US based DoorDash is also planning to launch in Germany soon.
Finish Wolt has also entered Germany.
On plans to enter Germany, Niklas had this to say:
“It’s a big market and we still feel like the [food delivery] service is sub-par,”
UK has been dominated by UK-based Deliveroo and JET hence it came as a surprise when Delivery Hero acquired 5.09% stake in Deliveroo in August 2021. Deliveroo, which IPOed in March 2021, had seen its shares fall by as much as 30% from initial IPO price. As per Niklas the investment was purely financial in nature:
“We acquired our stake at an average [enterprise value] of c. £3.6bn for a business with £6.6bn [gross transaction volume] run rate in Q1 (£7.0bn in Q2) at decent Gross Profit margin,” said Östberg. “We considered all possible scenarios back in April when we started acquiring our stake. In no scenario would this be a bad investment long term. We are not buying any [more] shares at this point”.
However, on recent conference call (August 2021) he kind of gave away the plot:
“And you asked about Deliveroo and no strategic intention. And I guess that might be true. But I would also say that we always have some logic when we make these kinds of investments. There is some logic or strategic rationale for an investment. This could be relationship for future partnership. This could be to gain knowledge. This could be acquisition plans. This could be preempting others. This could be cooperation agreements or something else. There are all sorts of different reasons why we would see an investment in a company, mostly private companies, but in this case, as a public company.”
I think this might be part of a long-term plan to grow business in the UK.
Europe is going to a competitive space and we can expect lots of M&A in coming years.
MENA:
In the MENA segment, Delivery Hero operates both marketplace and Own-Delivery services in Bahrain, Egypt, Jordan, the Kingdom of Saudi Arabia (KSA), Kuwait, Oman, Qatar and the United Arab Emirates (UAE) with the brands Talabat and Hungerstation.
Turkey is the most mature market where the brand is represented via Yemeksepeti brand.
Aware of the competition from Quick commerce player such as Getir, in 2021 Yemeksepeti launched Mahalle, a quick commerce platform aiming to deliver anything from local stores at record speed. As part of the Mahalle launch, Yemeksepeti also acquired Marketyo, an online shop platform connecting local supermarkets.
The Company is also aggressively ramping up its Q-commerce in the region and in 2020 acquired InstaShop - an online marketplace platform for groceries with presence in UAE, Qatar, Bahrain, Egypt and Lebanon (more detail in M&A section below).
Selected M&A in MENA region:
YEMEKSEPETI (Turkey):
Acquisition: 2015
Amount: US$589 million
Verdict: Has been proven quite productive and is now a market leader in Turkey
Carriage (Kuwait):
Acquisition: 2017
Amount: Not disclosed (US$100-200million)
Verdict: Delivery Hero’s brand in Kuwait, Talabat was losing to Carriage. At that time Talabat in Kuwait was a pure market place and was outflanked by Carriage with its own-delivery. Carriage was later absorbed into the Talabat brand.
InstaShop(UAE):
Acquisition: 2020
Amount: US$360 million
Verdict: Online grocery marketplace with presence in UAE, Qatar, Egypt and Bahrain. Being operated as an independent brand and a lot of orders may be fulfilled through Dark Stores of Delivery Hero.
In terms of numbers we know that InstaShop is EBITDA positive and had a GMV of US$300 million. Since the company does not break down the numbers separately, it is difficult to gauge the profitability but I think they may have overpaid.
US$360 million for a GMV US$300 million may seem cheap but the kind of markets they operate in, are small city states with the exception of Egypt, which is already very competitive.
Even from a CAC perspective, it seems expensive. At acquisition InstaShop had 50,000 active customers so the “CAC” per customer is US$ 7,200. I do not have enough data but an LTV for a grocery customer is unlikely to be a multiple of US$ 7,200. May be their estimation of future growth is much higher than what I am assuming.
Overall MENA can be rightly labelled as the jewel in the crown and in the Gulf region I do not see any strong competitors.
The only competition I see them facing is in Turkey where Getir has rapidly ramped up.
In KSA, their biggest market in GCC, they have faced some personnel issues which I believe they have sorted out .
But overall, they have a strong position and will likely continue to be # 1 player in the foreseeable future.
Americas:
The Americas segment represents Delivery Hero’s operations in Latin American markets, primarily under the PedidosYa brand. The Group is represented in Argentina, Bolivia, Chile, Colombia, Dominican Republic, Panama, Paraguay and Uruguay. The Company has minority interest in Colombia player Rappi in which it made its investment of US$ 105 million in 2018. The acquisition in Rappi was a strategic investment in the Quick Commerce vertical.
Americas is still the smallest region.
Asia:
In 2016 the company acquired foodpanda brands (amount not disclosed but estimates range from US$100-200 million) in which their major shareholder Rocket Internet held a major share. The acquisition added 20 mostly nascent and fast-growing Asian markets to the portfolio.
The countries in which Delivery Hero is currently present with its foodpanda brand comprise of various high-growth markets such as Bangladesh, Cambodia, Hong Kong, Laos, Malaysia, Myanmar, Pakistan, the Philippines, Singapore, Taiwan, Thailand and Japan
South Korea is their biggest Asian market by far. In fact, South Korea is the fourth largest food delivery market in the world. The Company has operated in South Korea under its brand Yogiyo which was the second biggest behind Woowa brothers.
In 2021 the Company completed a US$4 billion acquisition of # 1 Woowa brothers, owner of South Korea’s most popular brand Baemin.
However, as part of regulatory requirements, the Company had to divest its Korean food delivery business Yogiyo for KRW 800bn (~€580m) 0.2x EV/GMV 2021 and 0.15x EV/GMV 2022. The transaction value was lower than market expectations of ~€900mn.
The takeover of Woowa is a big part of Delivery Hero’s expansion plans in Asia, where it faces severe competition from Indonesia’s Gojek, Singapore-based and SoftBank-backed Grab and Uber Eats.
In S. Korea it still faces competition from an apex predator like Coupang, a local ecommerce giant.
The key focus by Delivery Hero has been to either # 1 and # 2 in the market and they have gone very pragmatically about it. The Company sold its business to JET in Germany when it could not compete. In Kuwait they also acquired Carriage when their brand Talabat was finding it difficult to compete.
Apart from a couple of transactions, as highlighted above, I believe their capital allocation has been good from an M&A perspective.
For example, when they acquired foodpanda, their business did 0.6 million monthly orders with a growth rate of 60% . After almost 5 years, the same business is now doing 70 million monthly orders and growing faster with better margins.
I am just a bit apprehensive about the prospects in Europe where a brutal battle backed by venture capital dollar will ensue.
However, with their minority interest stakes now worth around €2.3 billion, I believe they are much more comfortable with being passive investors too rather than going head on with every player.
How profitable Delivery Hero can be?
There are three key levers of profitability:
1. Scale: The increased scale, most evident in the declining G&A and R&D per order (and COGS) over time
2. Higher take rates
3. Reduced Marketing and Sales spend
As you can see from the chart, the Company is on the right track on the metrices. S&M and G&A show a declining trend and take rate is inching up. We see the encouraging evidence of operating leverage kicking in.
In terms of profitability, the Company has been clear that it can be profitable anytime but is choosing the long road:
“ We never want to be in a position where someone can bully us. If competitors like to beat us, then spending up won't help. They have to find other ways to have a chance to overtake us. Spending will not do and we don't want to be bullied. So then I would probably also, in general, speak about EBITDA and a little bit remark there. All global players could easily be profitable. And I take Deliveroo as an example. We plan to be circa 2% negative EBITDA on Deliveroo. We could improve 2% by increasing commission or by just 2% or add 2% delivery fee on orders. So very marginal fees there, of course. We could also add service fees like some other players do or we can increase logistic efficiency with, let's say, 15%, 20% to get there, too. Or we could cut 2% of our shares or we could increase baskets with 10%.
It actually requires less than 10% basket increase in order for us to improve EBITDA to -- from minus 2% to 0%. Or we can do a combination of those. So there are so many levers or levers for us to get to that probability. It's just that we have absolutely no rush. We see this as a very long race, and we are committed to win. And we want to have the flexibility, as I said, and we're clearly trading below 2%. And yes, there are a couple of markets we would like to double down a little bit, but we also like to make sure that we have the reserves to fight anyone who likes to bully us on spending. That should not be a way to beat us. And so that's why we also want to have a little bit of flexibility there.”
Niklas Östberg on Conference call ( August 12, 2021)
Valuation:
The stock has performed quite well since its IPO.
Of course, the Covid-19 boost is quite visible in the chart and like other players who benefited from Covid-19 the current year has been tough going:
From relative valuation as per the table above, Delivery Hero is trading at a revenue multiple of 4.22x which is higher than its mainly European competitors, Deliveroo and JET, but lower than DoorDash.
There are a lot of issues with doing DCF for a company like Delivery Hero. Besides having different dynamics and growth rates for different regions, the company is constantly doing M&A , the timing and quantum of which are difficult to forecast.
The company aims to have a long term EBTDA target of 5%-8% of its GMV. However, there are quite a few unknown variables in this equation. For instance, the company is still in a growth mode and the timing of positive EBITDA margin is unknown. Since, the timing is unknown we cannot also estimate what will be the GMV at that stage.
So, I will be very conservative and assume a significant margin of safety. At the current level I see little margin compression, at least in the revenue multiples, and hence the return will be mainly driven through the revenue and GMV growth along with the strengthening of operating leverage.
My assessment is that it will take anywhere between 2023 and 2028 for the company overall to start showing positive EBITDA and hit the lower end of 5%-8% of GMV. But certain regions, most probably MENA, may reach the milestone earlier.
Conservatively, assume that GMV grows at CAGR of 20% from 2021 (€31bn as lower end of guidance) then we are looking at GMV of €111bn in 2028 , a 5% EBITDA margin will yield €5.5bn of EBITDA.
Applying a multiple of 20 (normalized growth) will yield a market cap of ~ €111bn in 2028 (almost equivalent to the GMV) and an IRR of 19%.
Once again, this is just a back of the envelop calculation. Assuming multiples do not compress (which I don’t think they will) and the operating leverage kicks in , I believe the Company is able to achieve an IRR of double digit over the next five years. The Company is currently trading at the lowest revenues multiple since its IPO. The multiple is especially low for a company which has increased revenues by 100% since 2018. Furthermore, the company has also a lot of passive investments which should provide a further upside.
The low multiple is also reflective of market’s distrust of the of the food delivery market model and also the constant influx of new competitors. Some of these concerns are valid but for a diversified company with presence in growing economies, I think the market may be discounting a bit too much.
Marketplaces realize scale economics very quickly. These companies look extremely expensive for years, especially with GAAP accounting, until they finally hit scale.
So why is there a valuation disconnect between DoorDash and Delivery Hero?
I think it has to do a lot with Delivery Hero being a non-US listed company. Furthermore, Delivery Hero also followed a different strategy, rather than focusing on big and known markets (maybe with the exception of South Korea) it focused on unexplored emerging markets.
4.Key players
CEO is Niklas Östberg and is also a co-founder. He comes across as confident and happy to engage on twitter with rival food delivery companies such as Grab
and JET.
The bulk of the current management team has been with the company for a while (considering the short history of the company of course).
The compensation of the management board consists of both non-performance (base salary and fringe benefits) and performance based (i.e. share based).
Here is an excerpt from their annual report:
“Since 2018, the performance-based compensation has consisted of a Long-Term Incentive Plan (LTIP). Under the LTIP, the performance-based compensation is granted in the form of a stock option plan that is settled in shares. Contractually, a target value of stock options in € is granted annually. The commitment is binding for four year. To calculate the number of stock options (SOPs) granted in a financial year, the annual target value in € is divided by the fair value of an SOP at the grant date. The calculated number of SOPs granted is blocked of a period of four years from the date on which they are granted. The members of the Management Board do not receive any shares in the form of “Restricted Stock Units” (RSU), as is customary in the general LTIP”
So far so good. However, the criterion for exercising option caught my eye. From the same report [emphasis mine]:
The exercisability of the SOP after the blocking period depends on the achievement of a revenue growth target. The performance target is derived from the Company’s corporate
strategy. It is defined as a compound annual revenue growth rate (CAGR) of at least 20% over the performance period, i.e., an average revenue growth of 20% annually.
A couple of things struck me.
Firstly, for a company which is growing 100%, the CAGR of 20% revenue seems a very low water mark. Even without Covid-19 boost the CAGR was always north of 20%.
Secondly, the revenue target does not consider the difference between organic and inorganic revenues. The latter contributes a lot.
I think the revenue target is a bit too lenient and would have liked a more challenging target, more aligned with shareholders’ interests.
5.Conclusion
Delivery Hero is essentially a global (ex. USA) play on food delivery. The food delivery and Quick commerce space is a hyperlocal last mile logistics space and there are few cross scale regional benefits . Being local can be beneficial that’s why Rappi can outmaneuver global players and that’s why in MENA Delivery Hero, despite having a pan region brand Talabat, had to do defensive acquisitions like Carriage and InstaShop.
Be that as it may with the bulk of the business coming from emerging markets, Delivery Hero also enjoys a few structural advantages. Emerging markets tend to have higher density leading to more optimized logistics and less delivery charges owing to cheaper labor costs.
There is also less pressures to enforce strict employment laws especially in regions like MENA where most of the blue-collar workers are expatriate workers. Conversely the basket size may be lower than the more developed markets.
Delivery Hero is literally in the center of ex. USA food delivery market as shown in the diagram below:
There have been two recent developments which might suggest that Delivery Hero and Prosus together can make a joint bid for JET. Delivery Hero has recently acquired a share in Deliveroo and JET has faced renewed pressure from activist shareholders to consider divestments or merge with a bigger player. It is also relevant to mention that Prosus previously made a failed bid for Just Eat in 2018 but Takeway.com beat it to it and merged to form Just Eat Takeaway.com.
As we mentioned above that since there is not much cross region scale advantage, Delivery Hero will continue to face competition from new players in its focused markets. Rapid delivery apps like Getir and Gorillas will continue to be propped up by venture capital money.
There is also an added complexity of managing multiple brands across the countries which will only increase with further scale. The benefit is that Delivery Hero has already received scale in its multiple markets especially MENA and South Korea.
In the foreseeable future the main growth vectors will be M&A and Quick Commerce but there are also interesting potential options available:
1. Acquire a niche SaaS player facilitating restaurants e.g., PAR( heck even Toast is rumored to IPO at US$20bn )
2. Develop a Shopify like product for restaurants such as Storefront by DoorDash
3. Build more payment products
4. Build own white-label products in Q-commerce
5. Launch subscription product
It is also worth noting that the scale players like Delivery Hero have access to zip code level data which can be leveraged in many ways. Especially when in it comes to planning cloud kitchens and Dmarts.
In the near future I will be watching the sustainability of growth post Covid-19 and also how the investments in Integrated Verticals are panning out.
Any source for Delivery Hero’s earnings call transcript? I can only find the audio webcast. Sound quality makes it a difficult listen