Ghost Story: The Operational Challenges of 'Dark' Kitchens

In the August 2019 issue, we looked at how third-party delivery is changing the restaurant business. Americans are increasingly choosing not to cook at home, and many are turning to the convenience of restaurant delivery, with an increasing variety of concepts offering their fare door to door.

As guest demand for delivery increases, we expect the number of "ghost" or "dark" kitchens to follow. This strategy favors the established operator; however, as a startup, you need to understand this scary new landscape. It affects your competitiveness and could drive your plans for expansion.

Multinational independent investment bank and financial services company William Blair & Co. projects third-party ordering platforms will source over $43 billion of delivery orders in the United States by 2022, up from its 2018 estimate of $13 billion.

Smart operators have already seen the proverbial writing on the wall. They ask, if a significant percentage of sales can come from delivery, why operate a concept out of premium real estate? Why not lower your rent factor by preparing food in an industrial park space?

Since the food is being delivered, the guest doesn't care where it was prepped; only that it arrives at her doorstep in good shape. (Another issue altogether.)

One of the names describing these operations is "ghost kitchen". Also called virtual, cloud or dark kitchens, they are basically commissaries shared by traditional restaurants and delivery- only concepts.

With Halloween falling at the end of this month, the name "ghost kitchen" might raise a smile; however, the savings, flexibility, ease of entry, and potential for growth they offer are not laughing matters.

A ghost kitchen can be the sole food preparation space for a delivery-only brand. Or it can complement dine-in and take-out concepts, taking pressure off their kitchens and increasing the profit on the delivery side of their business.

According to Ken Schwartz, president of SSA Restaurant Design + Foodservice Consulting in Tampa, Florida, such kitchens "allow operators to provide delivery without impacting their current operation or guest experience. In some models, the operator only provides culinary staff and pays rent for any equipment and managed facility. This minimizes an operator's capital investment and time needed to get into the market."

With increasing guest demand for delivery, the model makes sense on its face. Nevertheless, no one in the restaurant business would deny it is disruptive. If this is a strategy you have been contemplating, this article pushes back the curtain on the ghost kitchen business model, how it works, and the upsides and downsides.

Frankly, ghost kitchens are a growth strategy for existing operators with brand presence. It is not ideal for startups. (See "Who You Gonna Call?" below).

Still, even if you are just launching your concept, you need to understand how this model works. If not for your future plans, once your guests know and love you, but to understand how your competitors are using them.

A Production Machine

Says Schwartz, ghost kitchens "require planning and oversight just as another location would," Schwartz adds. "In ghost kitchen operations the design is strictly geared toward delivery, so as long as that aspect is considered in the design it should provide speed of service and access."

The restaurant business is a manufacturing operation, regardless of the style of service. You need to look at these kitchens as "production machines," say Schwartz. Done correctly, the speed of which ghost kitchens are capable allows for quick expansion. "We have a ghost kitchen client whose concepts are popping up around the country."

Savings can potentially be huge. A traditional brick-and-mortar operation lease can cost hundreds of thousands of dollars over 12 months, depending on size and location. "With a ghost kitchen, it could be a fraction of that," says Herman R. Lipkis, an attorney who specializes in hospitality and real estate law for Holland & Knight LLP in Fort Lauderdale, Florida. "It could literally be a third or less of what you might otherwise be paying with a traditional lease. These kitchens are not just for you; there are other people us- ing them, so the costs are spread for the owner."

Restaurants also might only use the kitchen for part of a week. "With a lease, you've got the full rent no matter how many days you are open," Lipkis points out. "In the ghost kitchen, they may only charge you for the days you are actually using it. You can have a situation where maybe you're only using it once or twice a week, or only for a weekend. Or maybe you only need it for the work week and not the weekend."

How One Chain Went Dark

As Schwartz notes, the dark kitchen model can be a fast track to multi-unit expansion. And emerging chains can offer the independent some guidance on how it works.

Founded by Vener and partners Hagop Giragossian and Quasim Riaz in 2010, Dog Haus's menu appeals to the same younger consumers who dominate demand for delivery. The menu items would appear to travel well, and include signature all beef Haus Dogs and handcrafted proprietary Haus Sausages, as well as its 100% genetically tested, humanely raised, hormone- and antibiotic-free Black Angus beef from Creekstone Farms.

The concept grew quickly. Demand was so strong the partners opened a second location a year after opening, and a third six months after that. Dog Haus began franchising in 2013. Today, it has 35 locations, with 14 opening soon and more than 130 locations sold nationwide.

"We anticipate the delivery industry growing five times larger over the next three years, and we want Dog Haus to be a leader in this space," says André Vener, a partner in the Pasadena, California-based restaurant concept. "Ghost kitchens such as Kitchen United (see "Who You Gonna Call?" below) enable restaurants like us to serve today's consumers, who increasingly want to enjoy their favorite meal outside the four walls of the restaurant."

Kitchen United also assists in getting food quickly to the customer through delivery or pick-up, he adds, so that Dog Haus' main focus can remain on preparing its quality food.

"For example, Kitchen United uses a data-driven approach to select locations that will have high demand for delivery, which helps position partner brands for success,"

Vener explains. "They also work with a number of marketplaces offering choice to the consumer and the restaurant, and have a dedicated staff at the front-of-house to expo orders efficiently."

In partnering with Kitchen United, one of the leaders in the ghost kitchen space, Dog Haus has committed to its next 25 locations slated to open across the nation by the end of 2020. "We're extremely happy with our partnership, and we look forward to opening more successful locations," Vener explains. "We were thrilled with our first opening with Kitchen United in Chicago's River North neighborhood, and we've been working hand-in-hand to optimize marketing strategies."

Ghost kitchens allow Dog Haus to double its delivery sales and simplify its marketing efforts, Vener says. Working with Kitchen United has enabled his company to expand its geographic footprint through its off-premise centers with little overhead required.

"This is a one-of-a-kind opportunity for Dog Haus to bring its unique chef-driven menu to current and future Dog Haus fanatics in one fell swoop," he says. "While also paving the way for (us) to expand its franchising reach in each of these new markets beyond the virtual kitchen sites."

Nimble Changes

Making changes in traditional restaurants can be cumbersome, Vener points out, "but in a ghost kitchen, we can be nimble. Kitchen United provides substantial data that allows Dog Haus to optimize our offerings within key markets, creating tailored menus to satisfy the demand in each community." With strategically located off-premise sites, Vener and his partners can expand their delivery capabilities "and dominate the craft casual space, contributing to our aggressive expansion and success in 2020 and beyond."

Through our data-driven approach, we identify the most promising locations for our kitchen centers, and therefore our restaurant partners, aggregating insights on demographics, income levels, and cuisine-specific demand, as well as drive time, traffic patterns, and other data to ensure restaurant partners have the best possible opportunity for success.
- Craig Cochrane, EVP of Marketing - Kitchen United

All of the prep and cooking operations in Dog Haus's ghost kitchen locations are the same as in its brick-and-mortar locales. "Ghost kitchens require minimal staff," Vener says. "Kitchen United provides the front-of-house staff to handle delivery pick-up, and back-of-house staff to assist with dishwashing, food receiving, waste management, and other necessities." The company also provides all of the equipment, and Vener and his partners have collaborated to create what they call "the perfect floor plan and equipment list for this partnership." By constructing and providing a fully equipped kitchen and front-of-house staff, Kitchen United creates a space for Dog Haus to cook and deliver its one-of-a-kind menu items. Additionally, Vener says, Kitchen United's structure offers it the advantages of rapid speed to market, lower real estate, equipment and labor costs, plus an opportunity to expand to new markets and grow within established territories.

"For a restaurant to succeed in a ghost kitchen, it needs to ensure it's optimized for delivery and created strong partnerships with third-party delivery providers," Vener says. "A restaurant opening a ghost kitchen should also be prepared to reach audiences through non-traditional marketing channels, especially digital and social. Restaurants with a limited digital presence may not be a fit."

Guests can order from a Dog Haus Kitchen through their favorite food delivery app and get its highly successful menu delivered straight to their door. Dog Haus locations offer delivery through the Dog Haus app, as well as via third-party delivery service providers like Uber Eats, Door Dash and Postmates. At Kitchen United, drivers are greeted, and the food is delivered more efficiently, making for a better overall experience for consumer, driver, and operator alike.

If an operator is looking to expand or off-load delivery and pick-up congestion in the restaurant, Vener suggests, this type of symbiotic relationship "is certainly worth exploring. Finding the right partner with a location in the right area is key, and Kitchen United has been a great resource for Dog Haus to enter the ghost kitchen space in the most cost-efficient way."

Vener calls it important to be mindful of the markets that an operator is entering, making sure to do the proper research that should come with any traditional restaurant launch. "In this instance, it's important to understand your current business and ensure that the demand and brand recognition are there for expansion and delivery through an off-site location."

The Right Mindset

"It's an interesting subject because I think operators of these types of 'restaurant' kitchens are under the impression that it is easier than running a conventional kitchen," says Tim Smallwood, of Foodservice Design Management in Australia. "But they are not thinking about the potential consequences of not being in control of the delivery of the meal to the guest. In one sense, the pizza industry has been on this path for years."

In fact, Smallwood continues, "It seems to me that ghost kitchens are just another form of a production kitchen, and the same risks apply: maintenance of quality at the receiving point - the diner; loss of control of food safety after the meal leaves the kitchen; and the need to beef up HACCP production controls because of the time-lapse between production and consumption."

Attorney Lipkis recommends operators reduce their risk by avoiding a long-term lease when setting up a ghost kitchen. He urges restaurant operators to have what some attorneys call an escape clause in the lease agreement; in other words, "have a way out, that you can terminate, that you can minimize any notice that is required for that termination. Maybe you give 30 days' notice."

Lipkis says operators "need to do their due diligence on the owner of the ghost kitchen just as you would with any business transaction. You want to know who are they, who are you dealing with, who is the owner here, how long have they been in business, what's their track record, do they have one location or multiple locations? Maybe talk to other restaurants that are using them. Call them up and ask, 'Are you happy with this kitchen arrangement you have with these people? What are your complaints? What would you want to see different?' Maybe you can take one or more of their complaints and work that into your agreement."

Beyond that, he adds, be as certain as possible that the basics are covered. "Make sure that you've got the right staff, that the people in place are reliable, because as an absentee owner, you may not be there every day. You've got to make sure you have a manager or somebody you trust who can manage the thing."

The right mindset is also needed, Lipkis stresses. "Go in with a positive attitude. The whole goal of these ghost kitchens is to either assist you because you are so crazy busy in your current location that you need additional space, or you are testing a new market and want to see how it goes. If that's the case, you really want to analyze your delivery where your orders are coming from. Really look at the numbers carefully and see if it justifies opening a location."

Liability is obviously a major concern. Says Lipkis, "That is the reason you might not want to take on somebody else's staff. You would want to have your own people there since this is your name and your brand. It's your food going out the door under your label, so you want to be able to be in control. The short answer there is that you want to make sure you are hiring the right people, that you have a management team in place to make sure there is quality control, and that you treat it like a kitchen in your own restaurant."

That lack of total control can present other potential problems, as well. "It's not your restaurant or your kitchen, you've got someone else holding that space," Lipkis points out. Just as with a landlord, if there is an interruption of service - for instance, if the power goes out, or there is an issue with the water - "you have got to rely on that operator. You've got to get them to fix it."

Smart upfront negotiation can prevent a host of problems. "For example, if there is an interruption in service that goes for more than two consecutive days or three, that you [include language in the agreement] you have a right to terminate," Lipkis says. "They might agree to that kind of termination right; that way at least you can get out and you are not paying them more money, throwing good money after bad at that point. But they are probably not going to give you any kind of compensation for that. You can try and negotiate it, but most likely you are going to get pushback."

Looking ahead, Dog Haus's Vener says he and his partners see very strong long-term opportunities, and view their partnership with Kitchen United as "not only an enormous growth opportunity for the brand but as a way for us to stay on the cutting edge of the off-premise dining experience."

In the past, says Vener, "it was all about the in-restaurant experience. Now, more and more consumers are looking for ways to get food delivered straight to their door. Today, your brand must carry weight in an online space cluttered with options. You need to constantly innovate your offerings and be on the cutting edge of emerging technologies and social media platforms to reach the consumer."

Executing changes in a traditional restaurant takes time, Vener concedes, but the speed at which changes can be implemented in a ghost kitchen makes operating one "so compelling. We will undoubtedly encounter needs for operational changes, but at this point we can only anticipate there will be changes to come, not what those obstacles or opportunities may be." Because ghost kitchens serve customers digitally, he continues, "we not only have the flexibility to change menus instantly, but also to launch digital-only promotions at a moment's notice, ensuring that customers experience the concept's menu item 'The Absolute Würst' in the best possible way."

The trend towards off-site dining experiences via delivery and pickup "is shaking up the entire restaurant industry, Dog Haus included," Vener notes. "Every day it becomes a larger part of our business, making up roughly 15% of our brand's busi- ness, and in some cases as much as 50%. We're excited about the new ways ghost kitchens allow people to experience our food and brand." The prognosis for ghost kitchens, then, is unquestionably growth. "Like everything, they will evolve," Schwartz predicts, but adds the proviso: "Do not compromise. And consider a truncated menu."

WHO YOU GONNA CALL?

Craig Cochrane, executive vice-president of marketing for Kitchen United, says her company provides restaurants a way to grow their market presence with a value-driven, low-risk way to expand their business through delivery, catering and takeout. "Many of the restaurants we work with came to us because they are looking for a way to off-load increasing congestion caused by delivery and takeout at their existing retail locations."

A startup concept "is less likely to perform well in a business model such as ours," Cochrane has found, "as without a sidewalk exposure, it can be a challenge to create awareness and connect with customers. Restaurants successful in this space are those who already have a strong market presence and need a solution for the growing demand of off-premise dining."

Kitchen United manages everything but the cooking and delivery to allow restaurant staff to focus on the food. This allows established and emerging restaurant chains to expand their market reach without an expensive new, standalone build, and off-load congestion in their traditional brick and mortar set-up often caused during busy times by an influx of delivery orders. It also provides members with key data insights to help them adjust and improve staffing, menu items, and more to position them for success.

"Through our data-driven approach," Cochrane explains, "we identify the most promising locations for our kitchen centers, and therefore our restaurant partners, aggregating insights on demographics, income levels, and cuisine-specific demand, as well as drive time, traffic patterns, and other data to ensure restaurant partners have the best possible opportunity for success."

Cochrane agrees with Holland & Knight's Lipkis on the need for research and vetting. "Given this space is still so new, there are quite a variety of options. Be sure to have a plan in place for operating in this model that differs quite a bit from the traditional four walls of the restaurant. Do you have delivery service partnerships in place? Do you have digital ordering capacity? Can you staff a ghost kitchen location?"

MORE THAN A KITCHEN

It is important for restaurant operators considering working with a ghost kitchen to know they aren't just kitchens.

Doug Marranci, COO of Atlanta, Georgia-based PREP, a culinary accelerator platform, says his company "reduces the barriers to entry and provides mentorship for food entrepreneurs bringing their products and services to market, as well as dedicated kitchens for commissary, catering and food production."

PREP's 175-plus clients include start-up restaurants, cookie bakers, food trucks, and commissaries. "We have six restaurants starting up in early October in our new facility," says Marranci. "We have had more than 300 concepts started here at PREP."

Baby Boomers "have shaped our lives and economy, being the largest economic group in the US with numbers up to 74 million," says Marranci. "In 2019, Millennials are expected to surpass this number." Businesses must re-focus their marketing and appeal to this demographic if they are to stay relevant. "This includes a need to customize menu options, provide ultimate convenience, healthful, well-sourced, unprocessed foods that are high quality yet affordable, and offer coupons. PREP offers a testing environment for national brands that are trying to learn how to take advantage of new consumer trends, as well as onsite procurement options to streamline the process."

PREP provides permit- and license-ready kitchens under the Health Department, FDA, Department of Agriculture, and USDA. The company promises to "navigate the web" of federal and local regulations so clients don't have to. In lieu of offering traditional landlord-tenant arrangements, PREP offers membership packages for the shared kitchens, private kitchens, and a base of operations for mobile food service operators. The membership packages vary in price, initiation fee, and applicable amenity offerings.

PREP's is a multi-faceted culinary campus spanning 83,500 square feet. One part houses multi-functional shared kitchen facilities with stations located in an open setting, as well as private or flex stations, and extensive equipment. Another section provides private production spaces for local entrepreneurs in 32,800 sq. ft. on over six acres. Kitchens range from 100 sq. ft to 6,000 sq. ft. A third area opening this year will accelerate small food businesses and provide expansion for those already established, and provide for commissaries of multi-location restaurants, delivery-only and ghost restaurants.

"Our marketing is bringing in many inquiries for 'dark' or ghost' kitchens," says Romildo Santos, CMO and co-founder PREP. "In order to continue in today's market; restaurants must consolidate catering and delivery offsite." Adds co-founder Mitch Jaffe, concepts like his "are the fastest growing trends in foodservice. Trend-making cities like New York, Chicago and San Francisco prove this is here to stay."