Why Ghost Kitchens Are the Next Big Thing for Food-Service Franchises

by Bryan Smith, Entrepeneur Magazine

https://www.entrepreneur.com/article/344467

Dog Haus is the kind of place designed to spend time in. It serves dogs, burgers, beers, and the like, and its wide-open space captures the vibe of a beer hall -- industrial but clean, with high ceilings, wall-size graphics, reclaimed-wood-and-steel tables, and music trendy enough to draw in young customers. The first time Jesse Koontz checked it out, he wanted to spend more time there, too. “I just immediately fell in love with the concept,” he says. “I walked in and was like, ‘This place is cool.’ ”

Koontz set out to become a franchisee, and in 2018, he opened his own Dog Haus, now one of 34 spread across 10 states, in Chicago’s Lincoln Park. Shortly after he opened it, Koontz started thinking about a second location. He wanted one closer to downtown Chicago, where foot traffic is especially high. But the cost gave him pause. A full Dog Haus launch can cost more than half a million dollars. Did he really want to take another gamble that big?

What he really wanted was a way to test the market first. Then he realized he could -- but it would require ditching almost everything Dog Haus is known for. No high ceilings. No art on the wall. No tables where customers could sit and snap Instagram photos of their pastrami- and arugula-piled dogs. In fact, no way for a customer to spend any time there at all, because there wouldn’t even be a front door for them to walk through.

Instead, Koontz would open in what’s come to be called a “ghost kitchen.” Most consumers never see it, or care about it, or even know about it, but it’s there -- a place that produces food and, just maybe, will also produce the future of the franchise food industry.

Anyone in the restaurant business knows the trends: People are as hungry as they’ve ever been, and they’re willing to spend money on food. But they’re also focused on convenience. Workers are happy to eat lunch at desks, and when they return home at the end of the day, they have endless streaming to entertain them during dinner. Dining out just doesn’t hold the appeal that it once did.

“Customers expect options that align with their lifestyles,” says Christopher Sebes, partner in Results Thru Strategy, a hospitality consulting firm. “So if I’m going to watch Netflix at home, maybe I don’t want to cook. Maybe I want Chipotle or Outback delivered to my home.”

That demand for on-demand food has created a major shift in spending. In 2017, U.S. food delivery was a $43 billion market. By 2022, analysts expect it to hit $76 billion. That’s a projected 77 percent growth in just five years -- and to fill that demand, restaurants will have to rethink the ratio of griddles to tables. That’s why many of them, Koontz included, are turning to ghost kitchens. They’re a logical answer to the question: How can we best serve customers who aren’t even walking into our restaurant?

Think of a ghost kitchen as a shared workspace. Each brand claims a small stake of a big building and receives equal access to common services such as dishwashing, cleaning and maintenance, and delivery. These operations sometimes go by other names, such as virtual or smart kitchens. But they’ve become especially popular with QSRs and franchise operators, who are using them to expand their restaurants’ delivery capacity without the overhead that comes with parking lots, tables, and neon signs.

So, for example, a Chick-fil-A could pay for space inside a ghost kitchen -- and then, when an order comes in via Seamless, DoorDash, Uber Eats, or some other platform, the food is made there instead of at an actual Chick-fil-A. The customer receives the same chicken strips, nuggets, and sandwiches, but after eliminating the costs associated with a physical location, the company pays less to make them.

Part of the allure for restaurants is that ghost kitchens are built to maximize efficiency, with infrastructure and technology that helps food move from the kitchen to the customer with a speed that makes the teenage-pizza-boy model look like the U.S. Postal Service. Ghost kitchens are still a relatively new concept, but the industry already features a number of fast-growing companies. One is called CloudKitchens, and it’s backed by former Uber CEO Travis Kalanick and recently landed $400 million in funding from Saudi Arabia. Reef Technologies, a parking lot management platform, secured a $1 billion valuation thanks to a SoftBank investment.

The funds will let Reef Technologies enter the ghost kitchen business by housing kitchens in its parking lots. In 2019, Zuul Kitchens (named after the refrigerator ghost from Ghostbusters) became the first to open a space in New York City. In June, Koontz officially moved into Eats on Sedgewick, on the second floor of a squat block of redbrick and baker’s glass located strategically close to boutiques, business, and tech, and just half a mile from Groupon’s headquarters. It’s close enough to fill lunchtime orders quickly but far enough away to avoid the high rents paid by its tonier neighbors. With no build-out or liquor license to secure, the deal came together fast. And Koontz was able to escape many of the typical franchise costs: He skipped the $12,000 needed for street-front signage, $75,000 for kitchen equipment, and $125,000 for lease and construction fees. Instead, he just has to pay rent on a 350-square-foot kitchen, which exactly mirrors the one in his full-size Dog Haus.

“They build it to suit your needs,” Koontz says. “You just tell them what you want, and they give you a list of equipment to choose from.”On a recent weekday, the ghost version of Dog Haus bustles like any back-of-house kitchen, but it carries the edge of a Silicon Valley thought experiment. A few people scroll on their phones in the common area -- it’s available to all restaurants -- while two staffers in ball caps and Dog Haus T-shirts man the grill, dice veggies, and check a tablet for incoming orders.

When an order comes through, Dog Haus staffers prepare and bag it just like they would at a real restaurant. But then things get different. They place the order onto a stainless steel platform the size of a record album. A hydraulic lift carries it upward toward a conveyor belt, and off it goes on the labyrinthine journey through the building until it ultimately ends at a tent outside the building. There, deliverymen congregate like cabdrivers outside an airport. As food shows up on the conveyor belt, a dispatcher calls out the next driver, and the food quickly goes into a passenger seat and then off to a home or office building.

If there are any hiccups in this process, Koontz knows immediately. In the kitchen, for instance, cameras powered by facial recognition software trigger an email alert if someone unauthorized so much as steps on Dog Haus turf. “The cameras can even pick up on body motions,” he says. “So if someone starts acting erratically, like if they’re upset and waving their arms, you’ll be notified. Or if someone is lying on the floor, it’s like, ‘Hey, this person is passed out and unresponsive.’ ”

The delivery software even draws on traffic data to dictate the delivery radius. Dog Haus will ferry food as far as four miles away during slow times, but that drops to two miles during the peak hours. That way, nobody ever receives a sack of cold dogs.

Almost seven months in, with zero seats, the virtual Dog Haus is feeding 200 people per day. Koontz is happy with his new franchise -- and at the corporate level, Dog Haus is now thinking even bigger about ghost kitchens

“We’d open a [virtual Dog Haus] in, let’s say, San Francisco,” says Dog Haus partner André Vener. “Once that’s up and running and doing great, we would hand it over to our franchise sales team.” If the plan succeeds, the company will soon be leveraging each low-cost ghost kitchen to sell a big, multi-unit franchise territory. It’s a strategy that could alleviate fear for franchisees who might be skittish about entering or expanding in an industry where six out of 10 brick-and-mortar restaurants fail. A successful Dog Haus ghost kitchen can prove that, at the very least, the market has an appetite for gourmet dogs.

Ghost kitchens aren’t the only strategy aimed at meeting the demand for home and office eating. If anything, they’re the pinnacle of a long-standing trend toward lean, efficient restaurants. In recent years, titans like Wendy’s, McDonald’s, and Dunkin’ have all opened smaller stores, and plenty of QSR owners have found that fewer tables can lead to bigger profits.

In 2002, Pete Mora, founder and CEO of Fajita Pete’s, opened a mammoth 6,500-square-foot eatery with a full bar, a dance floor, and 60 tables. “My thinking at the time was that you needed a big restaurant to make big money,” he says. “And then through the years, I started asking myself, What am I doing with all these tables? This isn’t the most efficient way to make money.”

When Mora’s catering business exploded in his second year, he says, “my eyes opened to the possibilities.” At the end of his five-year lease, he closed his original location and moved into a 1,200-square-foot location with delivery and catering as his primary focus.

To help the kitchen run faster, Mora also shrank the size of his menu -- dropping from 65 items to three types of fajitas -- beef, chicken, and shrimp. “That’s how Fajita Pete’s started,” he says. “As soon as I transitioned to a smaller restaurant -- which was really just a counter with a couple of tables -- something went off in people’s brains where they said, ‘Hey, this isn’t a restaurant; this is a delivery concept. It’s a catering company.’ ” Mora’s sales actually increased, while his monthly costs dropped about 20 percent. “My customers just stopped coming in and instead began ordering for their offices.”

Fazoli’s, a 220-unit fast-­casual Italian food chain based out of Lexington, Ky., counts itself among the restaurants shrinking its footprint. “When I started 11 years ago, we were 60 percent dine-in and 40 percent drive-through,” says Fazoli’s president and CEO, Carl Howard. “Now it’s 57 percent off-­premise and 43 percent dine-in.” The numbers have essentially flipped, and the trend suggests they’re going to continue moving in that direction.

The restaurant’s new test model, which has yet to officially roll out, shrinks the store from today’s high end of 4,400 square feet to 2,500 or less. But fewer tables doesn’t necessarily mean fewer diners: Fazoli’s is also planning to add a second drive-through lane, so more customers can grab and go.

Ghost kitchens take the shrinking trend to its extreme, and as such, some pundits worry that they’re bad for the restaurant industry. Their proliferation in metropolitan areas could steal customers who would otherwise dine in. They could even run nondelivery spots out of business.

But an industry in upheaval also pre­sents opportunity for entrepreneurs who are nimble enough to adapt, and Sebes, the hospitality consultant, sees a future where dine-in restaurants could justify the costs of signage, high ceilings, and painted wall graphics by serving as advertising vehicles for the delivery operation. “The food may be replicable, but the experience, atmosphere, and ambiance are not,” he says. People who walk into a full-size Dog Haus, for instance, are able to experience it the way Koontz did his first time. His restaurant plays music videos on the wall-mounted TVs and has a deep selection of local craft beer on tap. It’s only natural that customers fall in love the same way he did -- and they’ll remember that the next time they pull up Grubhub.