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August 22, 2022

How the cost-of-living crisis killed the convenience economy

As the world tightens its belts, start-ups offering convenience to consumers are starting to suffer.

By greg noone

It seemed like a good idea at the time. Frustrated at having to venture out to convenience stores whenever they got hungry at night, two university students in Philadelphia realised the potential of a business that, for a small mark-up, could deliver groceries to their front doors in mere minutes. And so, in 2013 they founded GoPuff, a food delivery start-up which employed a small army of couriers on bikes and motorcycles to deliver anything that could be grabbed off supermarket shelves in under half an hour.

Within three years, the start-up had raised $5m in Series A funding, fuelling expansion from their base in Philadelphia out into cities including Chicago, Nashville and Miami. Similar start-ups soon sprouted around the world, their own growth catalysed in recent years by a new era of remote work. By the beginning of 2022, cities across Europe and North America were witness to an upsurge in sweaty bike couriers, their burly backpacks emblazoned with names like Zapp, Gorillas and Getir, crisscrossing side streets and boulevards to satisfy consumer demand for vegetables, biscuits and toothpaste.

Then the money ran out. None of these ‘convenience economy’ companies were turning a profit, instead reliant on successive rounds of venture capital (VC) funding to fuel aggressive expansion into new territories in the hope that this would, eventually, lead to a self-sustaining business.

Russia’s invasion of Ukraine, however, put paid to this hope, as rising energy prices pushed the Western economies into an inflationary spiral. Suddenly, the idea that millions of consumers would pay a fee to have their groceries delivered to their house in minutes seemed too good to be true. With VCs reluctant to invest, redundancies quickly followed, with Getir alone announcing in May that it would cut its global workforce by 4,500 people. 

Rapid delivery isn’t the only sector that has fallen victim to the cost of living crisis. As millions of people around the world tighten their belts in response to rising inflation, dozens of tech start-ups built around the idea of convenience are coming under financial pressure.

Earlier this month, Deliveroo cut its UK sales forecast as consumers spent less on takeaways, while Swedish loan platform Klarna saw its valuation slashed. Crypto exchanges, too – which flourished during and after the pandemic as a means of passive speculation – have also seen significant layoffs, while Uber and Lyft have been forced to raise their prices and switch to subscription models as oil hovers around the $100 per barrel mark.

Meanwhile, VC sentiment toward tech start-ups has begun to shift. Content for years to participate in endless funding rounds, rising interest rates have forced many funds to reconsider their investment strategies. As their interest drifts to new and exciting technologies – platforms that, increasingly, are seen to have a more logical path to profitability – the impact on the gig economy and other start-ups premised on convenience at all costs will be stark.

On-demand grocery delivery is an example of convenience economy services.
Apps and services predicated on convenience for users are facing hard choices about their future, as economic conditions worsen. (Photo by Halfpoint/iStock)

Dog days for the convenience economy

Even if economic conditions had remained steady, rapid grocery delivery would still be running into difficulties, says Tom Eisenmann, a professor at Harvard Business School, as the number of companies competing for first-mover advantage was unsustainable. With “so many players coming from so many different directions, something had to give,” he explains.

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The sheer scale of rapid grocery start-ups’ dependency on VC investment to scale up was also raising eyebrows among investors and analysts. “I was looking at GoPuff the other day,” says Dave Marcotte, a senior vice-president at Kantar Consulting. “They’ve been through ten rounds of funding. That’s insane. They’re making money on funding.”

That model is likely to disappear very soon. Tech start-ups’ ability to rely on generous allowances from VC patrons for so long is partly thanks to the historically low interest rates enjoyed in the West for the past decade. And the ready availability of credit made investors more susceptible to those start-ups’ pitches.

This led to some eye-watering valuations, on paper at least. Used car sales platform Carvana, for example, “had a peak valuation in 2021 of $40bn, or thereabouts,” says Eisenmann. “It’s now $3bn.”

As central banks raise interest rates to damp down inflation, however, VCs have had to re-evaluate their investment strategies. That’s resulted in a 25% reduction in the amount of venture capital going to start-ups, explains Eisenmann, increasing the competition for whatever’s left.

In some ways, start-ups are built to meet this kind of challenge: while they usually begin with a core of loyal customers, it becomes more challenging to increase their number over time. The way firms usually solve this problem is by cutting prices and doubling down on marketing.

However, “when you hit a rapid shift in capital market sentiment like this one, a smart response is to go back and focus in on the people who really value your product most,” says Eisenmann. That means “either slowing growth or, in a lot of cases, actually shrinking – and with it, layoffs”.

Alternatives to this might include automating internal processes, as e-commerce pioneer Ocado has done. This is unrealistic right now, explains Marcotte. Current volatility in supply chains means that it’s unlikely that any sort of start-up will even get the materials to build new assembly lines or buy robotic systems within 18 to 24 months. “In the VC world…that’s freaking forever,” says Marcotte.

The restaurant delivery market is another sector that might feel pain, explains food industry analyst Peter Backman. While he remains generally optimistic about the market (“I’ve been amazed at [its] resilience…I think it is evolving”), he nonetheless considers it vulnerable to VC scepticism, given the difficulty companies in the sector face in turning a profit.

“I’d be nervous, quite frankly, if I was a big investor in that industry,” says Backman. “I think a trigger could come when an investor says, ‘You know what? This is a waste of money. I’m going to get out and, what’s more, I’m going to tell everybody I’m getting out.’ At that point, the whole thing falls apart, because the investment tentatively dries up.”

Alternative investment prospects

That is not to say Deliveroo and Just Eat will tip into oblivion in the next few months, Backman says. These are, he points out, percentage businesses, piggybacking off the sales of ready-made meals through various commissions and fees. While a severe recession would endanger their profit margins, Backman believes that the sector will ultimately muddle on. It may, he says, “continue to struggle for a bit…and will then get to a point where it’s actually making a bit of money”.

Other sectors may be more resilient than they currently appear. Uber, argues Marcotte, is more than likely to pull through the current economic storm. After all, it weathered a pandemic in which demand for ride-hailing services sank to nothing. “It always helps to have a near-death experience – it does tend to focus the mind,” he says. 

Uber’s reaction to almost all demand for taxi services evaporating during this period was to diversify. The firm quickly realised, says Marcotte, that “the technology to do food delivery is absolutely the same as getting people from place to place.” Out went the focus on efficiencies in ride-hailing, and in came Uber Eats.

Now that its ride-hailing business has recovered to pre-pandemic levels, Uber also takes comfort in knowing from its price surging model that the general cost of rides doesn’t factor into the use of its services nearly as much as it first assumed.

As far as VCs are concerned, however, there are now more exciting investment prospects with more potential for rapid growth – and shorter paths to profitability. “I’m seeing more and more money get involved in climate change-type technology,” says Marcotte, particularly those involved in charting metrics for companies aspiring toward lofty ESG goals. “There’s an enormous need for that. And whoever can figure that out best is going to be able to cash in, which is a very VC way of saving the universe.”

Another focus is on driverless trucking. Already infused with technology aimed at making the vehicle safer and more efficient, a permissive environment for experimentation in states like Arizona and Texas has convinced VC funds that robot trucks are just around the corner. As a result, experimental start-ups like Aurora and Waymo have attracted tens of millions of dollars of investment in recent months. “That type of thing, in the VC world, is decidedly not sexy – but it’s practical,” says Marcotte. “There’s an IPO potential that justifies the initial four or five stages of investment.”

Rapid groceries delivery is one sector that has suffered as inflation and interest rates continue to rise. (Photo by South_agency/iStock)

Back to the future

The current economic conditions have frequently been compared with the 1970s, another decade that witnessed high energy prices, inflation and interest rates. But we’re a long way from those days of drama and decline, argues Marcotte, who considers the current anxiety over inflation to be misplaced.

“I’ve lived in countries that literally had triple-digit inflation,” he says. “It was not very pleasant and it was a mess and there was a lot of damage that it did. But it doesn’t mean the entire place implodes and we all wind up wearing loincloths, running around in circles hitting each other for a piece of meat.”

Even so, Eisenmann has spotted some eerie similarities between current economic conditions and those immediately preceding the dot-com crash of the early 2000s. “We think of it as one big boom-bust cycle, but the bust actually rolled in waves over different sectors,” he says, in a similar way to how tech start-ups in crypto, rapid delivery and car buying have been hit hard in recent months. Then, too, “venture capitalists rewarded growth at any price – until they didn’t".

Ironically, most VC firms have little institutional memory of the dot-com bubble that saw the demise of start-ups like Webvan and pets.com. “The current venture capitalist in his or her prime – it’s usually his – is going to be 40 years old,” says Eisenmann, which means that they were in high school when capital markets had their first concerns about profitability in the tech sector.

As a result, Eisenmann suspects, few have internalised the lessons from that crash. Others, he fears, think the lesson to be learned is how to pick the right moment to cash out before the bubble bursts.

Meanwhile, Eisenmann has a class of would-be founders to teach at Harvard Business School. In the programme he teaches, students have the option to drop out and create their own start-up, before returning to complete the course within the next five years.

A few weeks ago, Eisenmann was asked by a group of his pupils whether it was the right time to do this themselves and go ahead with starting a firm that helps big companies to roll out AI services. Their professor told them that they should, if only for the fact that if they didn’t drop out now, there might not be any funding left. “If I had to bet,” he told them, “I think it’s going to get a lot worse.”

This article originally appeared on Tech Monitor.

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