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Scaling Up: The Economics of Your Home Delivery Business

Marc Kuo
Marc Kuo

If you're scaling your home delivery business, monitoring and lowering your cost per delivery is key to profitability.

  • If you already have a delivery business, and it's starting to scale beyond 50 or 100 orders a day, it's vital you closely monitor your cost-per-delivery. In other words, how much does it cost you to fulfill each order?
  • Lowering your cost-per-delivery should be your goal from day one. The smartest way to do this is by creating route density – the number of deliveries your driver makes per hour. The higher your density, the lower your cost per delivery.
  • You can lower your route density by tactfully choosing your delivery areas, choosing to make deliveries only on select days and times, and by adopting route optimization software. 

The COVID-19 pandemic has created an urgent demand for home delivery like we've never seen before.

With retail businesses closed and people staying home under quarantine, small businesses around the world are seizing this new opportunity.

Over the last month, we've spoken to hundreds of such businesses that are pivoting and scaling home delivery operations to keep their business alive.

In my previous article, I covered three basic elements of a delivery business that make up the first layer of the Ideal Delivery Model framework, with specific recommendations and tactics to help you get started quickly. 

In this article, we’ll complete the Ideal Delivery Model by discussing the economics of your delivery business. 

As you scale up the number of deliveries you make, you can end up losing and not gaining money if your home delivery operations aren't built in a way that can handle growth efficiently.

Having worked with hundreds of home delivery businesses around the world, I’m going to share some important operational and logistical considerations you’ll need to make to run a profitable delivery business.

Monitoring your cost per delivery

The most important number you need to understand and monitor closely for your delivery business is your cost per delivery: How much does it cost me to fulfill each order? 

As a business owner, I assume that you're already familiar with the concept of calculating gross margins, but don't ignore or underestimate the cost of fulfilling your order and making the delivery. Your production cost aside, it is often the largest cost driver in your unit economics, and also one you can improve upon significantly with a few important decisions.

Here’s an example of the unit economics of a food delivery company:

Image courtesy of Routific

In this example, you’ll see that the total production plus cost per delivery in May was $29.60. Meanwhile, the company was only making $11.53 per order. They were losing an average of $18.07 per delivery!

Keep in mind that this is a contrived example of a venture-funded startup that was trying to grow at all costs, hoping that "at scale," the business would be profitable. A lot of venture-funded startups in the delivery space take this very risky strategy of growth first, profitability later. But as a small business owner, I urge you to not try this at home.

Instead, I highly encourage you to aim to be a profitable business right upon launching, if not within a few weeks. It is definitely possible, and many businesses have done this. It is especially crucial in today's economy.

Before I share with you the how, it's important to first understand the concept of route density.

Route density explained

How many deliveries does your driver make per hour? That is your route density in a nutshell. The higher your density, the lower your cost per delivery. Here’s an image to explain this concept with some example numbers:

Image courtesy of Routific

At the time of writing, the average delivery driver wages are $15.65 per hour in the U.S. If your driver only made one delivery per hour, that's how much it would cost you to fulfill each delivery.

For simplicity's sake, we are going to omit fuel costs, which at the time of writing happens to be at an all-time low, because the driver’s time is much more expensive comparatively.

If you're only completing three deliveries every hour, you end up paying about $5.20 per delivery. That kind of route density is bad and hardly sustainable. Now, compare that to a good route density of six deliveries an hour. Your cost per delivery has been lowered to $2.60. 

This makes a huge difference, especially as you consider passing on this cost to your customers by charging a delivery fee. How would you feel if the delivery fees were as high as $10? Even at $5, it becomes hard to swallow. But if you can get the cost as low as $2 per delivery, you could even delight your customers and throw in the cost of delivery for "free."

The big question is, how can you create high route density? 

The answer: higher order volumes.

This is what many companies attempt to do. They prioritize growth at all costs, and then they hope and pray that they get the order volumes necessary to lead to route density and thus profitability.

But we all know how that turns out. 

Couriers who work for large companies like UPS and FedEx often have route densities that are higher than 10, allowing drivers to deliver more than 100 packages a day. That's because they receive thousands of orders a day in a small geographic region. As a small business or startup, it might take you a while to scale to that kind of volume.

Luckily, there are a number of other ways for businesses without high order volumes to still achieve high route densities.

Delivery area

As you prepare to launch your delivery business, the first important decision you'll need to make is your delivery area: How far are you willing to drive?

The larger your delivery area, the larger your market. But, also, the longer your drive times will be. The recommendation is to start small, perhaps as small as a 3-mile radius, and expand from there. The advantage of doing it this way is that you'll get route density even with lower order volumes. You can always expand your area later, whereas shrinking it is much harder.

Delivery days

Another tactic is to offer deliveries only on select days. To start, you could offer deliveries only once a week; this way you can collect orders throughout the week, batch them all up, and deliver them all together on a single day. 

The obvious impact of this is that the customers have to wait longer for their orders to arrive. As you get a healthy route density on a single day, you can start to expand it by adding delivery days.

Another option is to combine the previous tactic together with this one and only offer a particular delivery area on a particular day while delivering to another area on another day.

Route optimization

One of the biggest levers to create route density that does not impact your business model or your customer experience is using route optimization

Given a set of 100 orders, route optimization software can easily shave off 20-40% in mileage and drive time compared to a manually planned route. Your route density is guaranteed to go up significantly.

Note that you can use route optimization in combination with any of the other tactics as well.

Delivery dates or time windows

Allowing your customers to select their own preferred delivery date and time window makes for an amazing customer experience. I'm sure you can identify with the UPS experience of "we’ll deliver between 9 a.m. and 6 p.m. today.". This is an opportunity to provide a much better experience by giving your customers more control.

The downside of this, however, is that the more granular control you give to your customers, the less room you have for efficient route planning. For example, if a customer selects 9 a.m.-10 a.m. as their preferred time window, meanwhile, their neighbor selects 4 p.m.-5 p.m., you're going to have some circular routes. Instead, you might want to consider offering morning/afternoon options so you have more room to plan efficient routes.

It is also common practice to charge a premium delivery fee for this extra service, so you don't end up with everyone selecting very tight time windows without being compensated for it.

As you're starting off, the more flexibility you have, the easier it will be to create route density, so I recommend offering these options only once you're more established with higher order volumes, or if your product requires timeliness (e.g., hot lunch delivery). 

Going even further on the spectrum of flexibility, many new (and even established) delivery businesses simply take orders with a promise of delivery within seven days. With this approach, you gain the flexibility to decide what day to deliver to a particular customer, which allows you to group your customers by proximity, thereby again creating route density. 

In conclusion

After your first month of running your delivery business, make sure you start to measure your route density as well as your gross margins. This will inform you what you should be charging your customers as well as whether you need to work more on creating route density by following the various tactics presented in this guide.

These are extraordinary times. The demand for delivery services has exploded overnight. If you're considering pivoting your business to add a delivery service, or you're looking for a smart way to scale up, the timing has never been better. Hopefully, this guide will help you on your journey. Best of luck!

You can read the first installment by Marc Kuo, "How to Launch a Home Delivery Business During COVID-19."

Marc Kuo
Marc Kuo,
business.com Writer
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Marc Kuo is a routing expert with nearly a decade of experience in last-mile logistics. He wrote his thesis on advanced vehicle routing algorithms and he is the Founder & CEO of Routific.