The Deliveroo share price has crashed to pennies. So what?

Female friends enjoying their dessert together at a mall

The food delivery operator Deliveroo (LSE: ROO) has been anything but tasty for investors. Over the past year, the Deliveroo share price has crashed 70%. The shares now sell for pennies, but I am still not tempted to buy. Here is why.

Food delivery business model concerns

My primary concern with Deliveroo is true about its industry generally not just Deliveroo specifically. In short, can it make money?

Tech companies invest heavily in platforms that they can scale up easily when they get new customers. Think about Netflix as an example. Making films and marketing to customers is not cheap. But at some point, every new customer account is almost pure profit. The content is already made, the digital infrastructure is already in place. The marginal cost of delivering existing content on an existing digital platform to a new customer is close to zero.

Now compare that to food delivery. Setting up the infrastructure is still expensive. But food cannot just be sent down the wire in the same way as the latest episode of Stranger Things. It needs to be cooked, wrapped, picked up, transported, and handed over at a specific address. A company can try to slice that in different ways, acting as a digital middleman and not getting involved in the labour-intensive elements. That is one reason the industry has had a lot of debate about whether delivery drivers should be employees or contractors.

Labour intensity

But however the model is developed, I see a fundamental challenge: it is ultimately still reliant on human labour. That reduces the benefit of scalability on which the profitability of many tech business models depends.

Just Eat has announced a €3bn writedown today in the balance sheet valuation of its Grubhub business. Grubhub has its own challenges, but I see the writedown as symptomatic of bigger challenges for the whole food delivery space. Whether it delivers revenue growth or not, there is a structural challenge around the profitability of such a model in my view.

Where next for the Deliveroo share price?

Deliveroo continues to lose money and I expect that to continue. Like its competitors, it has not yet cracked the challenge of how to acquire customers and deliver food to them profitably.

It may do so in future. Amazon is still refining its model after decades in business. For example, the cost of delivering food on the final leg to a customer is similar whether it is a sandwich or a full meal. But focussing on higher priced items like meals means the large transaction value could absorb delivery costs more easily. That is basically the approach taken to home delivery by grocers such as Sainsbury. It encourages customers to order bigger baskets for home delivery by using a sliding scale of delivery charges.

Deliveroo has assets that could help it do well, such as an established customer base and known brand. But until it finds a profitable business model I do not feel it merits a market capitalisation of £1.7bn. So I will not be adding its shares to my portfolio, even though they trade for pennies.

The post The Deliveroo share price has crashed to pennies. So what? appeared first on The Motley Fool UK.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. C Ruane has positions in Netflix. The Motley Fool UK has recommended Amazon, Deliveroo Holdings Plc, Just Eat Takeaway.com N.V., and Sainsbury (J). Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.