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COVID-19 exposes fragility of Meituan’s relationship with restaurants

Written by AJ Cortese Published on 

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As labor costs rise and demand is down, the relationship between Meituan and merchants has become strained, echoing resentment against Taobao in its early days.

The creation of online platforms and digital marketplaces for merchants revolutionized traditional businesses across the world, and particularly, in China. However, digital disrupters have faced obstacles in managing the delicate relationship with small vendors on their platforms while still running a sustainable and profitable business.

In 2003, Alibaba (NYSE: BABA) launched Taobao, China’s current dominant e-commerce platform, which connected many of China’s small and medium-sized retailers to vastly wider customer bases. Later, in 2011, when Alibaba wanted to further monetize its relationship with merchants, protests erupted from vendors, who felt they were being squeezed out.

Next, Meituan-Dianping (HKG: 3690), founded in 2010, changed the way China eats by triggering a food delivery revolution that gained momentum after 2014. At first, restaurants were able to leverage dine-in revenues to cover rental costs and delivery revenue to cover Meituan’s platform commission fees. However, that was until COVID-19 decimated in-restaurant traffic, forcing a complete transition to delivery as their only source of income.

Meituan’s initial efforts to provide relief to merchants suffering during the pandemic were limited to those in the epicenter of Wuhan, ignoring many restaurants throughout the country. On the other hand, e-commerce firm Pinduoduo (NASDAQ: PDD) has been providing subsidies to merchants nationwide throughout the crisis, in a bid to increase the number of sellers on their platform.

Burdened with unflinching rental costs and rigid fee structures from Meituan, the Guangdong Restaurants Association, along with other trade associations formally complained about the exploitative nature of Meituan’s exclusive agreements with merchants, KrASIA reported.

 

Source: Data from merchants on Meituan

For comparison, Alibaba’s Ele.me, Meituan’s main competitor charges commission of 10%, 13%, and 16%, depending on the restaurant’s scale, not the exclusivity of its partnership. Ele.me’s fee structure is based according to the restaurant size. For example, if you are a small restaurant looking to leverage online delivery orders for the first time, you could join Ele.me and be charged a 10% fee, while Meituan would charge 26% as a newcomer to the platform unless you sign exclusively which would only drop the fee down to 16%, and force the merchant to forgo traffic from Ele.me.

Meituan responded to the complaint, promising a review of their policies and an intention to return a portion of commission fees to “high-quality” merchants, without specifying what criteria are used to select these merchants. The company also claimed that 80% of revenue generated from merchant commissions go towards driver’s salaries.

The food delivery business was built on the back of thin margins and high volume to sustain operations, but in recent years, rent and labor costs have increased by 10.26% and 22.61% respectively, according to the China Hotel Association. Many restaurants operating under a traditional dine-in plus delivery model say that Meituan’s commission fees are too high, making it increasingly difficult to break even during this uncertain period.

Meituan has recognized that rising labor costs could jeopardize the sustainability of their business model and has begun rolling out autonomous delivery robots, first during the COVID-19 outbreak period. Before autonomous delivery solutions reach a maturity that allows them to be scaled to meet China’s massive consumer demand, Meituan will likely rely on increasing order density to keep labor costs at bay.

Food deliveries occur within a local area and increasing the order density allows a single delivery to the rider to complete more orders efficiently. By raising the number of deliveries a single rider can complete, the cost per order falls. Meituan’s average cost per delivery in 2019 was RMB 6.67 (USD 0.94), down 12.73% compared to 2018, with each delivery rider competing on average 29 deliveries per day.

The resulting pressure from slimming margins has caused some in the industry to rethink the very structure of the restaurant, giving rise to ghost restaurants.

These ghost restaurants look to minimize expenses, with no dine-in capacity and only bare minimum service staff, essentially serving as a fulfillment kitchen for delivery orders. Totally reliant on order traffic from platforms like Meituan, these establishments manage to forgo rent expense, a significant financial pressure in China’s urban centers.

Meituan’s success in becoming China’s dominant player in on-demand services has been reflected in its stock performance. After posting its first profit as a public company in the second quarter of 2019, Meituan’s share price has steadily climbed, from HKD 70 (USD 9.03) to HKD 108 (USD 13.93).

Meituan Dianping stock price since August 2019 Source: Yahoo Finance

Before Meituan there was Taobao

The tenuous relationship between Meituan and merchants is eerily similar to the early stages of the relationship between Alibaba’s Taobao Mall and sellers on the platform. In 2011, sellers were demonstrating outside Alibaba’s headquarters in Hangzhou protesting an initiative by the company to increase fees and commission on the platform. To end the squabble, China’s Ministry of Commerce announced an opinion inviting Taobao to “seriously listen to the demands of small and medium businesses.”

The proposal from Alibaba would raise annual service fees imposed on vendors from RMB 6,000 to as much as RMB 60,000 a year, and a compulsory fixed sum deposit will increase from RMB 10,000 to up to RMB 150,000. The price hikes even provoked online agitators to vandalize established large retailers on Taobao, canceling huge orders and leaving negative reviews. However, following these protests, Taobao recorded record sales on its Singles’ Day shopping event.

Meituan’s long-term outlook is fairly positive despite the short-term headwind caused by the pandemic, with plenty of room for growth in sectors like grocery delivery and ultra-fast e-commerce to increase user touchpoints. Whether the company deems it advantageous to adjust its pricing scheme may depend on the pace of China’s economic recovery, but with weak demand forecasted for the second quarter of 2020, Meituan may retain the current policies.

The company already provided a gloomy outlook for 2020, predicting a decline in the first quarter compared to 2019. In particular, the firm’s in-store and hotel business segment, which generated over 20% of its total revenue in the fourth quarter of 2019, is likely to contract significantly during the outbreak period as travel restrictions were imposed and large events were canceled.

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