Food Ordering and Delivery: How Platforms and Restaurants Should Split the Pie

Abstract

Food ordering and delivery platforms generate online demand for restaurants and deliver food to customers. In return, restaurants pay platforms a commission, typically a percentage of the order amount. Platforms offer partner restaurants the choice of a range of commission rates, rewarding higher commission payments with featured display slots and discounted delivery fees, both of which stimulate demand. Unfortunately, the current environment is grim: platforms scurry to cover delivery costs while restaurants gripe about excessive commissions. To understand current practice, we develop a game-theoretic model with a platform and multiple restaurants. Our modeling results highlight two existing problems. (1) Platforms, on their apps/websites, feature restaurants that are located too far away. Since these restaurants do not internalize the platform's delivery costs, they are willing to choose aggressively high commissions to earn featured display. (2) Platforms charge delivery fees that are too high and set delivery boundaries that are too narrow. This is because they bear the entire burden of delivery but earn only a fraction of food revenues. To solve these problems, we propose a simple fix to existing commission contracts: beyond sharing food revenue (currently done but at high commission rates), platforms and restaurants can also split delivery costs and fees (currently not done). We show that our method attains first-best, i.e., maximizes the total pie shared by platforms and restaurants. Using data on a representative city, we numerically show that, on average, our coordinating contract lowers commission rates by 33.3%, lowers delivery fees by 40.4%, increases restaurant profit by 25.0%, increases platform profit in 30.9% of the markets, and increases total profit by 13.3%. We discuss the characteristics of markets that enable our coordinating contract to yield a winning outcome for all parties.

Keywords: platforms, restaurants, food delivery, contracts

JEL Classification: M21