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Executive summary

Cloud kitchens represent a large market opportunity and offer attractive unit economics, assuming restaurants can achieve high enough order volume

Addressable market

Total US off-premise food consumption market growing to $474B by 2026

Cloud kitchens could be $49B by 2026 on a standalone basis or ~10% of the off-premise market

Structural tailwind in the form of changing consumer preferences

Unit economics

Margin expansion for operator versus regular restaurant

Lower upfront cost -> lower payback period

Attractive payback period for startup leasing the kitchens

Key economic lever is restaurant order volume

Value proposition

Allows restaurant expansion into growing consumer demand at low upfront cost

Optimizes restaurant business model for delivery / takeout

Allows more efficient menu planning and utilization

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Agenda

A brief look at the value proposition of cloud kitchens

Estimating the total addressable market for cloud kitchens in the US

Assessing potential unit economics

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Value Proposition

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The value proposition of cloud kitchens

To understand potential demand for the cloud kitchen concept we need to understand the problem it aims to solve

What is the nature of the problem?

Why does the problem exist?

How might the problem be solved?

Consumers (especially younger ones) are increasingly using online food delivery services, a trend Covid has accelerated
Embedded in this usage is a requirement for choice, quality, convenience and speed - all at affordable prices
Restaurants cannot meet all these needs currently, rather their business model and infrastructure force trade-offs
Restaurants cannot easily scale their infrastructure or footprint to meet growing demand for delivery

Restaurant infrastructure was not designed for multiple simultaneous workflows
Cost structure not optimized for delivery, meaning delivery commissions can exacerbate already thin margins
Efficient delivery order processing requires menu consistency, but pleasurable on-premise dining experience requires menu variety
Upfront cost of opening a new restaurant near valuable consumers is very high and challenging long-run economics make this hard to justify

Running a cloud kitchen vs traditional restaurant entails a much lower fixed cost base
Menus can be matched to demand, leading to higher ingredient utilization, leading to lower costs

E.g. ‘Virtual brands’

The cloud kitchen model boosts profit margins
The upfront cost of opening a cloud kitchen is dramatically lower than opening a regular location, meaning restaurants can scale into consumer demand

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Total Addressable Market

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Snapshot of the global foodservice market in 2019

Source: Deloitte, Euromonitor

In 2019 the global foodservice market was estimated at $2.9 trillion, of which the US represented $600 billion or 21%

Total $2,915

billion

45%

21%

20%

14%

Geography Mix (%)

$1,323 B

$600B

$579B

$364B

Geography Mix ($)

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Off-Premise US food consumption will continue to grow

Source: Euromonitor, Deloitte, US Census Bureau, Statista, McKinsey, DoorDash S-1, Own estimates

Covid-19 forced a rapid change in food consumption habits, strengthening the tailwind for the off-premise market

CAGR 1.0%

CAGR 3.1%

The addressable segments for cloud kitchens I take to be delivery, takeout and drive-thru, aka off-premise food consumption
I estimate the US off-premise market at $367B total in 2021, growing to $474B by 2026 (see accompanying excel file for detail on assumptions)
The pandemic has significantly increased the market share of off-premise food consumption and this trend is likely to continue
58% percent of all adults and 70% of millennials say they are more likely to have restaurant food delivered than they were 2 years ago

But how much of the total off-premise market could be penetrated by cloud kitchens?

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US cloud kitchen market on a standalone basis

Source: Euromonitor, Deloitte, US Census Bureau, National Bureau of Economic Research, Own estimates

On my estimates, cloud kitchens could be a $49 billion market in the US by 2026 or ~10% of the off-premise market

I derive a forecast for cloud kitchens on a standalone basis by using my estimated annual revenue for a single cloud kitchen (see next section on unit economics) and multiplying this by an estimated total number of cloud kitchens in the US
In 2019, there were 1,500 cloud kitchens in the US according to Euromonitor
I forecast this number into 2021 with reference to the growth rate of online food delivery business openings as cited by the National Bureau of Economic Research
I then forecast into 2026 using an estimated long-term CAGR
With more access to data, I could make more precise forecasts by referencing specific data on the footprint expansion of the US restaurant sector and online food delivery sector

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Unit Economics

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Cloud kitchen unit economics: restaurant operator

Source: Restaurant Dive, Toast, Statista, Own assumptions

Below is an illustrative monthly P&L for a restaurant operating a 500 sqft cloud kitchen, with scenarios around order volume

The choice to operate a cloud kitchen instead of a regular restaurant essentially substitutes higher variable costs for much lower fixed costs (primarily lower labor and rent), which makes sufficient order volume crucial to the success of this business model. This P&L shows three scenarios for order volume.
With profit margins for US restaurants averaging 3-5%, my base case would result in a ~5-7 percentage point margin uplift for a restaurant operating a cloud kitchen
Upfront savings are more significant:

Based on my research, the upfront cost for starting a cloud kitchen ranges from $20K to $50K compared to a median all-in capex number of $225K for a regular restaurant of the same size
This would result in a payback period of ~3 months or less for our 500 sqft cloud kitchen on base case numbers, while a regular restaurant generating our base case revenue with a 5% profit margin would take 28 months to pay back its upfront capital cost

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Cloud kitchen unit economics: startup leasing the kitchen

Source: Restaurant Dive, Toast, Statista, Own assumptions

Below illustrates potential unit economics for the same 500 sqft kitchen for the startup leasing the premises to the restaurant

P&L

The same scenarios around order volume used for the restaurant operator are applied here
In exchange for bearing the capex and upfront risk associated with setting up the kitchen, the startup relies on generating a high margin on the commission it charges the restaurant by containing its cost base to fixed property/rental expenses
The operating leverage inherent to this business model emphasizes the importance of order volume to both parties, as shown here by the wide range of outcomes between the high and low scenarios

Payback Analysis

According to Toast, the median all-in capex for a regular restaurant in the US is $450/sqft. I assume $200/sqft, as I believe a cloud kitchen is comparatively no frills, which results in total capex of $100K for this kitchen
This implies a payback period of 9 months in my base case and 4 months in my high volume case. The low volume scenario implies an untenable payback period.

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Order volume will make or break this model

Assuming sufficient volume can be achieved, the unit economics for both the restaurant and the startup look attractive

Restaurant operator

Cloud kitchen startup

Lower gross margin in exchange for lower operating expenses - lower labor costs and property expenses
Additional potential benefit not reflected in my assumptions is lower food & packaging costs as a result of lower waste / higher menu utilization
If the restaurant is successful in generating high order volume, this should result in an attractive profit margin uplift compared to running a brick and mortar restaurant
At mediocre volume levels (<10 orders per hour on my estimates), the economics are not attractive
The comparison to a traditional restaurant is more starkly favorable when comparing upfront costs, which for a cloud kitchen can be paid back in months versus years for a traditional restaurant
This theoretically lowers the hurdle rate for geographical expansion

Bears all upfront capex and associated risk, but in exchange reaps high margin on commission income received from restaurant
Economics are also very sensitive to volume assumptions, given fixed operating cost base
Looking at one kitchen in isolation and assuming sufficient volume, my estimates result in an attractive payback period of less than a year
In reality the picture for the startup is more complex, as one facility would contain multiple cloud kitchens / restaurants, meaning occupancy less than 100% would yield worse economics than presented here

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Cloud kitchen commission pricing

A commission rate of 15% under my assumptions yields attractive economics for both parties

A higher rate (e.g. 20%) would benefit the startup but at a diminishing level, given the payback is already attractive at 15%, while the restaurant would lose a valuable portion of the margin expansion that quantifies the value proposition of a cloud kitchen

At a lower rate (e.g. 10%), the payback period for the startup only remains attractive at high order volume (~30 per hour), which makes the risk/reward of the business model challenging