The glaring problem with millennial lifestyle subsidy

In June this year, Kune Food Chief Executive Robin Reecht announced that the start-up was being wound up.

The foodtech start-up was terminating operations only six months after its launch, taking down with it nearly a hundred employees and a number of investors.

The gift that had seemingly kept on giving had finally given up.

Kune described itself as a foodtech company "that produces $2 (Sh240) to$3 (Sh360) prepared meals distributed through Kune apps, fridges, canteens and vending machines to individuals, retailers, partners and corporates."

"Following a $1 million (Sh120 million) pre-seed round, Kune built a 13,000-meals-a-day food factory and hired its founding team," read the company's profile on LinkedIn.

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"Since the beginning of the year, we sold more than 55,000 meals, acquired more than 6,000 individual customers and 100 corporate customers. But at $3 per meal, it just wasn't enough to sustain our growth," wrote Mr Reetch.

He blamed "the current economic downturn and investment markets tightening up" as the reason the company was unable to raise the next round of funding as well as rising food costs and deteriorating margins for the failure of the business.

The company's model was to offer cheap, affordable food to Kenyans, an idea birthed out of what the founder insisted was the need to fill the gap in the market.

But trouble started following the rise in the costs of acquiring and preparing food, even as the subsidised cost to customers held constant. The company was forced to change the distribution model without an impact on the production one.

Production capacity

Kune Food had set out to raise $3.5 million (Sh413 million) from local and international investors to ramp up its production capacity early this year.

The start-up could then amass numbers and grow the business, with investors recouping their investment in due course.

Critics of the ready-to-eat food maker and distributor criticised its business model, noting it was "impossible to get great food at a cheap price" in Nairobi.

While it created convenience for customers by packaging and delivering food, it came off as "elitist" and out of touch with the common man on the street. This model has been common since the turn of the century as digital businesses come up with a model that gives hefty subsidies to customers, hoping to aggregate traffic with time.

In the process, such companies could benefit from huge sums of data, which economist Ken Gichinga says, could compensate for the financial loss the companies make in their expansionist pursuits.

Some of this data could be traded off to third parties, subject to legal limitations, or could be used to model advertisements on the customers' behaviour.

"One of the things they are set to get it is data from the ever-growing customer base," he says. "They might be loss-making, but that does not have a big effect on them."

In the meantime, investors keep on pumping money into the business, hoping to recoup their investment along the way.

"These companies' investors didn't set out to bankroll our decadence. They were just trying to get traction for their start-ups, all of which needed to attract customers quickly to establish a dominant market position, elbow out competitors and justify their soaring valuations. So they flooded these companies with cash, which often got passed on to users in the form of artificially low prices and generous incentives," read an article in The New York Times on the business model.

A change of model to slash the subsidies on the customer could be a fatal blow to such businesses. Once the customers are drawn in by the reduced rates, changing that could see them leave en mass. In many instances, customers have ready substitutes.

Timely exit

This business model is, however, largely unsustainable. Mr Gichinga says that nascent businesses establishing themselves on this model could suffer if they do not take a timely exit.

"This model can only be workable in a limited time. If it takes too long, it becomes a solid business model such that when the time comes for the company to make a profit, raising costs for customers, it hurts the ecosystem," he says.

"Changing the course becomes difficult." Uber and other ride-hailing apps as well as a host of food delivery and courier companies were built on the same model.

Over the years, complaints about Uber's breach of laws in some jurisdictions have been on the rise, especially the heavy subsidies on fares at the expense of drivers.

The race to the bottom is so stiff that most of these complaints largely go unaddressed.

When pushed to a rethink by tough economic times, the fragility of such models becomes evident. The average Uber and Lyft ride costs 40 per cent more than it did a year ago, according to findings by Rakuten Intelligence in June as published in The New York Times.

Food delivery apps have also been steadily increasing their fees over the past year.

The average daily rate of an Airbnb rental increased 35 per cent in the first quarter of 2021, compared with the same quarter the year before, according to the company's financial filings. Investors are increasingly having to make the hard decision of whether to fork out more money to plug in the losses or to hike prices for customers.

Economist Wahoro Ndoho says investors may take up to 10 years to social-engineer change, which can bring about a permanent deviation in behaviour.

But this model, where subsidies are given to lure customers at the expense of investors, can only survive in big economies such as the US, where companies have huge cash reserves and are able to spread their risks through their global operations.

"You need strong government protection, alongside very, very deep pockets, which may include government investment. In many developed countries, the government is protectionist. When push comes to shove, these businesses, if struggling, are supported by the government," says Mr Ndoho.

He also notes that venture capitalists are all too aware of the risks involved every time their stake their money in a business.

"Those (businesses) that win compensate for those that lose," says Mr Ndoho. Mr Gichinga notes that in a price-sensitive economy like Kenya, it becomes difficult to change prices once the market adapts to them.

For basic goods, for instance, tinkering with the prices could be fatal for the business. But for luxury goods, he notes, customers are quick to adjust.

Yet this model has been applied for basic goods, including food and transport, meaning a shift in operation could have seismic effects on the ecosystem.

When the model collapses, investors are hurt the most. Kune Food founder Mr Reetch may have realised this too late.

"My... thought goes to our investors. Some of you joined the Kune journey when it was just me and a chef, delivering food on foot to a nearby office. Some others joined later and helped us grow into a foodtech start-up with a tech platform, a factory, a kitchen studio, seven distribution hubs, 6,000 customers and a team of 90 people," he said.

"Not only did you invest in Kune but you gave us your time, brain width, connections, and emotional support. I am deeply sorry that Kune's vision didn't come true. To betray your confidence is something for which I will never forgive myself."

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