esm7i Instacart, a startup that delivers groceries, was recently valued at $4.2 Billion. Patrick Gaffney, a Finance Expert, uses basic assumptions and works backward to determine the valuation.
Companies are opting to remain private longer. Analyzing private companies this way will help us understand industries that are typically shrouded with secrecy and shed light on the effectiveness of certain business models.
As an equity analyst for the past 12 years, I have valued many public companies in order to determine whether or not the current stock price (market value) is correct. The companies I evaluated ranged from real estate to video games, and even those that had businesses in different countries with different business models. I used multiple methods of valuation, such as DCF, NAV, and multiples. However, I also created detailed models, starting from the bottom, by examining unit economics.
As companies choose to remain private longer, we can better understand the industries that are typically shrouded by secrecy. The fairness of the valuation can provide insight into how investors perceive their investments and the effectiveness of certain business models. This article can help you to deconstruct your competitor’s strategy and economics and make similar estimates.
What is Instacart?
Instacart, a private startup for online grocery delivery, is a company. Instacart customers can order groceries through the app or website. Instacart will then shop for the groceries and deliver them to customers without having to leave home. Instacart does not directly employ Instacart shoppers but rather contracts via the app. This is similar to how Uber matches drivers with customers. The company earns money by charging delivery fees as well as placement fees to companies that are interested in marketing directly to shoppers (grocery stores or manufacturers).
As a starting point, we’ll use the $4.2 Billion number. We will then take two approaches in order to determine if the $4.2 billion figure is justified.
Start at the bottom: Economical Orders
Let’s begin by evaluating economics per order. As mentioned above, the company has a variety of revenue streams: delivery fees and payments from grocery store partners, markups, and placement fees. We’ll do some bottom-up analysis of these channels, as well as estimate expenses.
The order size is a key assumption, as it helps us to determine any possible markups or promotion fees. I estimate the final order size to be $75. With 1.5 trips a week, the average US grocery spend is about $100. This means that Americans spend an average of $67 on each trip. Instacart consumers are from wealthier-than-average households that can afford to pay for convenience and spend more on groceries. Whole Foods stated on a February 2016 earnings call that Instacart could cost up to $100 in some stores. However, I think it is reasonable to assume that the average order will be lower.
Delivery Charges
Instacart charges a delivery fee for every order. The charges are different, but they start at $3.99 per 2-hour delivery or $5.99 for a 1-hour delivery. Instacart Express is a $149/year option that allows unlimited deliveries for purchases above $35. Instacart Express costs just $1.90 for each delivery. The average American shops at the grocery store 1,5 times per week or 78 times in a year. Let’s assume, based on the average order size, that most orders are placed through Instacart Express. The average delivery charge would be $3.00 (60 percent through Instacart Express, 30 percent at $3.99, and 10 percent at $5.99).
Grocery Store Partners Fees
Instacart generates income from its grocery partners, who charge them a percentage of their sales. A Forbes article stated that more than 80% of orders were now placed with partners. Let’s assume then that 90% of orders are made with partners.
Instacart charges 3% for each order. This would be $2.25 extra per order. You can think of the 3% as the cost to grocery stores of outsourcing their online ordering. The average grocery store spends just under 1% on advertising. However, I believe that Instacart is in many ways both advertising and eCommerce, so 1% seems too low. A comparison of the current spending on marketing, sales, and eCommerce is also possible. Costco, for instance, spent 10% of its revenue on SG&A during 2017. However, this amount is too high for a business the size of Instacart.
Markups
Instacart prices its products the same as in-store, but there are some markups. An article from Recode revealed that Instacart charged 15% more for Costco products in Manhattan. This may seem high, but I can see that at least 20% of orders include a 5% markup. Then, we get $75 x 25% x 5%. This would mean that the markup is only $0.75 per order.
Placement fees
Manufacturers also pay placement fees. Imagine that Procter & Gamble wants to promote Crest toothpaste. P&G can offer coupons or samples to Instacart users who purchase toothpaste. Instacart will charge them a fee. Manufacturers are already paying for premium placement and longer shelving in grocery stores. As retail moves more online, consumers are less likely to “run into” products as they would normally in a physical store. Instacart could solve this problem. This revenue is largely cost-free for Instacart.
Let’s assume that this program is promoting 10% and that the manufacturers will pay a 10% incentive to increase sales. In this example, $75 x 10 x 10 equals $0.75 for each order.
Revenue Channel Round-Up
My assumptions suggest that Instacart could generate a total fee revenue of $6.75 for each order from partners, placements, and markups. The findings of reporters are in line with my assumptions. A Fortune article citing board materials stated that the company made $6.96 for each order in Atlanta, $2.45 per order in San Francisco, and $4.29 per order in Chicago.
What Expenses Are Included in Your Budget
Let’s now examine the cost side of the equation. The biggest expense is labor. Total labor time will be 30 minutes if we assume it takes 15 mins to fill an order and 15 mins to deliver. Instacart has significantly improved order fulfillment times over the past few years. Our estimate of 30 minutes and an average hourly labor cost is $10. This would mean that an order requires $5 in labor. If you had a $7 charge, which is close to Atlanta’s figure, then only $2 would be left for other expenses. Profit.
