Shares of food delivery company GrubHub tumbled after infamous short-seller Jim Chanos questioned the viability of its business model, during a CNBC investor conference.
In a world where the more money a company loses, the more its stock price is rewarded (at least until Adam Neumann crashed the party), Chanos told CNBC that he sees fees coming down and employee costs rising:”Right now, GrubHub is making almost no money per order — it’s something like 15 cents,” Chanos said adding that “There’s just no margin in this business.”
Chanos also highlighted fierce competition in the industry for drivers, and the depth of other food delivery options.
“We believe that this pressure is occurring at both ends of the spectrum for the delivery companies,” Chanos said.
“Not only are we seeing pressure on the labor side with the California law, we believe that the labor arbitrage – calling these guys contractors – works in insidious ways.
Chanos bearish view on the food delivery company may have been inspired by Russell Clark, CIO of Horseman Global, who shared his bearish take on the industry in his July letter to investors, where he also questioned the record profitability of quick-serve restaurants who are capitalizing on these money-losing delivery services to expand their own market share:
According to the Economist, venture capitalists have put more than USD30bn into the food-delivery industry over the last 5 years. The original food delivery industry was an aggregator offering consumers a single website to peruse various menus before choosing which takeaway they wished to consume. Delivery was still left to the restaurant to organise.
This business has been disrupted by the entry of food delivery companies that also control delivery. This has the added benefit of allowing restaurants that do not already deliver to be added to the network, and to also to offer a better delivery service to consumers. The problem is this is a much more capital heavy option, and none of the main players, including Deliveroo and Uber Eats, among others, have turned a profit yet.
The big winner from this torrent of venture capital has been the large listed franchised restaurants. McDonalds recently reported its strongest North American sales growth in many years. Burger King also saw strong growth in the most recent quarter. Restaurant Brands International (QSR US — which owns Burger King), like McDonalds, saw new all time highs in its share price. Carrols Restaurant Group (TAST US), which is a large Burger King franchisee also saw record sales, but unlike QSR US, is trading at 4 year lows, down more than 50% in the last year.
Why the difference? Franchisors are paid royalties according to gross sales. This incentivises them to grow sales even if they are unprofitable. This leads them to accept food delivery terms that will grow sales, and to grow store count that may be unprofitable for the franchisees. The current success of quick serve restaurants is based on the willingness of franchisees and venture capitalists to bear losses, which is an unsustainable business model.
Which will inevitably force up costs – as Chanos warns – squeezing delivery services margins even more significantly. And that is not even accounting for the competition.
To be sure, Chanos is hardly the first to spot the shot opportunity: GrubHub’s short interest ratio has been rising precipitously in the past year, rising above 12 as the latest short interest was over 20 million shares, or 22% of the total float – the highest since mid-2016.
Finally, as CNBC noted, Chanos warns that these companies can’t afford to be as aggressive as Uber, which has its own food delivery service Uber Eats, because they don’t have the “financial wherewithal.” Competing with Uber, Chanos said, is like being “locked in a cage with a psychopath with an ax.”