Paid Placement Helps GrubHub Pad Its Bottom Line

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grubhub-300x300GrubHub posted better-than-expected earnings Thursday sending shares up slightly in early trading. The online ordering company, which hit the public markets earlier this year, saw revenue and profit inch up slightly in a seasonally less active third quarter due in part to the adoption of a new auction-based commission model.

Earlier this year, the company began to allow restaurants who use Seamless to pay a larger commission in order to place higher in results. The move drove take rates to 14.6% in the third quarter — a 10% increase from a year earlier that effectively accounts for $6 million of the $21 million jump in revenues over the same period.

“The speed at which the rest have migrated to the restaurant-driven pricing model has been quicker than we anticipated,” Adam DeWitt, the company’s chief financial officer said during an earnings call Thursday. “But at the same time we’re adding restaurants in disproportionately higher rates in secondary markets where, with less density, there’s less competition and lower rates.”

DeWitt warned investors that the growth in the take rates will likely plateau in coming quarters as the transition from the fixed model winds down. He said investors should expect take rates to hover in the 15% range with more densely populate markets seeing slightly higher rates and less populated markets seeing slightly lower. In terms of total volume, the company grew its topline by 33% year over a year, likely a better indicator of growth in the coming quarters.

As the company grows, the auction-based pricing model offers the company a more scalable approach to pricing. While it should help the firm optimize revenue in competitive markets, the model is not the panacea that it was for Google in the mid-2000’s. The success of auction-based models are a function of competition and outside of densely populated markets like New York, the competitive set — and subsequently, the need for better placement — naturally decreases.

The dynamic is structurally similar, and yet quite different, from the travel industry where online booking sites still dominate a large portion of buying traffic. Airline travel is a relative commodity, making price comparison — and thus aggregation — extremely important. In food ordering, the products remain extremely differentiated. By the time a user gets to a comparable product — say, sushi or Pad Thai — there’s simply not enough competition to make aggregation as an important.

But it’s still an important mechanism as the company faces pressure from more operationally-focused business looking to help businesses transact online through owned properties. New cloud-based operations software make it easier, and often even free, for a business to add ordering capability through its website.

Elsewhere, GrubHub’s businesses looks solid with spotted concerns. The company grew the number of active monthly users by 9% from a quarter earlier while decreasing marketing spending by 8% over the same period.

However, the company has struggled to retain frequency of ordering among those newer users. Over the past three quarters, the average order size has decreased on an year-over-year basis as the company adds more users from less active markets.

Frequency should not concern the company. In many ways, it’s a function of existing ordering behavior while the more important areas for growth come from changing the ways consumers order food, not the amount they order.

Steven Jacobs is Street Fight’s deputy editor.

Hear from GrubHub CEO Jonathan Zabusky in a fireside chat at Street Fight Summit in NYC on Nov. 4th. Click here for more info.