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This article has been written by Shraddha Vasanth, pursuing the Diploma in Business Laws for In-House Counsels from LawSikho.

Introduction

If there’s one business that will never go out of vogue, that is food; and combine that with technology and what we have is a highly profitable, low investment, a low-risk business model called cloud kitchen! As the name suggests, cloud kitchens form part of the booming and hugely popular online food-tech industry. The online food industry is valued at the US $ 4.35 billion in 2020 and is expected to grow at a CAGR of about 30.1% in the next 5 years. The market is a high-growth-oriented one as well as highly competitive, with players like Swiggy, Zomato, Foodpanda, Faaso’s, FreshMenu, etc. vying for the top spot. 

In fact, the setting up of aggregators like Zomato that provide access to a large market, customer-related data, delivery support, etc., have paved the way for the growth of cloud kitchens. Moreover, with the pandemic setting in, a large number of people prefer ordering food online to dining at restaurants, and lockdowns have also given time for several people to convert their passion for food into a viable business. This article throws light on the legal formalities required to start a cloud kitchen, get them listed on Zomato, and the challenges therein.

Basics of the online food industry 

The online food industry consists of 2 critical players, the restaurant owners, including cloud kitchens and food aggregators including their delivery partners. Basically, the online food industry operates through two platforms, websites and mobile applications, that are maintained and operated by the restaurants, cloud kitchens themselves, or through tie-ups with the aggregators. While there are many business models, the basic premise is fairly simple; the customer simply books the food online using the website or apps of the restaurant or the aggregators, makes a payment (online or offline) and the food is delivered at their doorstep!

Cloud kitchens : an introduction

Cloud kitchen, also known as ghost kitchen, dark kitchen, virtual, or satellite restaurant, is a business that is growing at 3 times the rate of dine-in restaurants in India. They are basically restaurants or kitchens that operate only on a delivery-only model and do not provide dine-in facilities. The food can be ordered online or by telephone. These are generally smaller than the regular on-premises restaurant, and as such, they rely heavily on food aggregators like Zomato, Swiggy, Foodpanda, etc. for their orders. Some cloud kitchens that have made it big include Faaso’s, Oven Story, Firangi Bake, Behrouz operated by Rebel Foods. Touted to be the largest cloud kitchen chain in India, it operates over 1500+ restaurants serving across 16 states. Some of the other popular brands are Burger In My Box (BIMBo), Sweet Tooth, Biryani by Kilo, Pizza on my Plate (POMP), Café Reset, Kitchen Mantra, etc. that are operating in different parts of the country. 

The increasing popularity of cloud kitchens

What makes cloud kitchen so popular is the ease of operations for both entrepreneurs and customers. Some of the reasons it is so popular for investors and owners are:

  • An expanding market – The economic and social landscape of India is shifting towards nuclear families, urbanization, and double incomes. With the increasing purchasing power of urban Indians, home cooking has in a way been outsourced to cloud kitchens. This explains their huge popularity and outreach in recent times. With the onslaught of the pandemic and subsequent closure of dine-in restaurants, cloud kitchens saw a remarkable boom in sales, with some brands like Homelynow (which offers home-cooked food in Mumbai) reporting over 90% sales from new retain customers during the pandemic. Surveys have also revealed that about 21% of customers are likely to continue with online ordering as opposed to 9% who prefer dine-in restaurants in the post-pandemic world
  • Low investment and high returns –The investment is very low compared to dine-in restaurants as the costs with respect to the location, interiors, large number of hospitality staff, etc. are drastically reduced, and this is perhaps the biggest advantage that cloud kitchens offer. With reduced investment levels, the returns are naturally higher. Moreover, the scalability of the business is also high as newer models and facilities like shared kitchen spaces are fast emerging. 

Business models 

These kitchens operate using various models that have adapted to changing requirements, some of them are:

  • Single brand – A single brand kitchen operates on a small scale with a single theme or concept. The menu size may be around 10-15 dishes limited to 1-2 cuisines.
  • Multi-brand – A multi-brand kitchen, on the other hand, has a larger infrastructure and operates with multiple brands, themes, cuisines; thus, catering to a wider customer base. Rebel foods is an example of a multi-brand cloud kitchen.
  • Virtual restaurant – Virtual restaurants are independent brands but do not have their own infrastructure; they operate from the facilities of existing restaurants and are only available through listings on food aggregator apps.
  • Shared kitchen spaces –These are large working kitchen spaces that house the business requirements of several brands. Essentially, they provide kitchen infrastructure to many small businesses on a customised basis for rent. 
  • Aggregator managed – These are also shared or co-working kitchen spaces but are managed by the aggregators. Zomato had set up the Zomato Infrastructure Services in 2018 but was soon shut down owing to the failure of its kitchen project in Dwarka. It now owns Loyal Hospitality which provides similar services. Swiggy too has launched Swiggy Access, with an intention to provide coworking kitchen spaces to its partners; which is operational across the country.
  • The operator managed – These are managed by the kitchen operator/ owner themselves, which are then listed on the aggregators’ platforms. 

Zomato : an introduction 

Brief history

The success of cloud kitchens depends largely on the food aggregators with whom they tie up and Zomato is one of the leading aggregators in India. Zomato was started under the name Foodiebay.com by IIT alumni Deepinder Goyal, Pankaj Chadha, and Gunjan Patidar in 2008. In about 9 months, the company became the largest restaurant directory in and around Delhi. In 2010, after a successful stint, the company was renamed Zomato. The company boasts of funding from several high-profile investors including Info Edge India, Singapore-based investment firm Temasek, Sequoia, Vy Capital, and Ant Financials.

With innovation, investment, and the zeal to succeed, the company became India’s first unicorn in the food tech industry. Zomato has also set its footprints abroad in countries like Sri Lanka, Qatar, UAE, Philippines, Brazil, and many more. In July 2021, the company went public to a stellar opening, with subscriptions more than 38.25 times the issue size. The company is valued at over INR 64,365 crores. It is the largest IPO size in India, especially, that of a startup.

Role in aiding cloud kitchens

Zomato is an online restaurant search and discovery and food delivery services platform. It helps the customer search for restaurants and order food online, as well as deliver the order through their delivery partners. Apart from the above, Zomato also offers certain other services; they are:

  • Advertising – Zomato initially started off as a restaurant rating platform; and as such, advertising forms a large share of the company’s revenues. Restaurants listed on the Zomato app/ platform signify great quality and thus, it serves as a huge advertising platform for restaurants and cloud kitchens.  
  • Subscription – Zomato also offers its analytical tool to its listed restaurant partners on a subscription basis. This tool can be used by restaurants to understand consumer behaviour and purchasing preferences and market trends; and thus, make products that cater to their customers’ requirements.
  • Event organisation – Zomato also partners with restaurants on festive and other such special occasions and makes festive food easily available to its customers. 

Thus, Zomato bridges the gap between the restaurant owners and the customers. The role is thus, a critical one, especially for small startup food entrepreneurs, who, by listing on Zomato can avail a wide range of inputs, ranging from market and consumer insights to product development to advertising and final delivery. For the cloud kitchen owner, it is a large avenue to showcase their culinary skills and reach out to potential customers in a highly crowded market.

Legal formalities and registrations

The setting up of a cloud kitchen is fairly easy, with minimum legal requirements. These are mostly in the form of licenses and registrations to commence operations. These legal formalities are listed below:

Selection of a business structure

The structure best suited to a cloud kitchen would be either a sole proprietorship or a partnership since the investment is low and is often managed by the entrepreneur themselves or with a small number of employees. There is no specific registration required for a sole proprietorship; however, the owner may submit the proprietorship declaration at the concerned sub-registrar’s office signifying the establishment of the business. In the case of a partnership, a partnership agreement is to be executed between the partners, which can then be registered. In both cases, no separate filing or submission is required. 

License from the Food Safety and Standards Authority (FSSAI)

The governmental body regulating the food industry is the FSSAI, which prescribes guidelines and standards regarding the preparation, packaging, quality, and more importantly, the safety of food for consumption. A license from the FSSAI is mandatory to start a food business. A license is a 14-digit number that is valid for a period of 1 to 5 years, after which it has to be renewed. 

In case, cloud kitchens operating on a small scale, Registration with the FSSAI would suffice. However, the type of license depends on the services provided and the scale of operations. The details of the registration can be found here. Some documents required in this regard are valid ID and address proof, email address, phone number, affidavit, declaration of food safety management plan, food category, kitchen layout plan, etc. 

Eating house license/health or trade license 

This license is issued by the state municipal corporation or the health department. The rules vary depending on the state in which the cloud kitchen is proposed to be located. Some documents required in this regard are sanction and completion (proof of ownership or rent agreement), letter/NOC from the concerned police station, indemnity bond, property tax receipt, receipt of payment of electricity and water bills, etc. This is a mandatory license.

Fire and safety license 

This is not mandatory; however, it is preferred to get the same from the concerned fire department as it can come in handy in case there are any future mishaps. 

Income tax PAN (Permanent Account Number)

This is mandatory for all businesses. The details required for obtaining PAN are proof of address and identity. The details can be found here.

GST (Goods and Services Tax) Registration 

GST Registration is mandatory for all businesses in India. Since it includes the entire supply chain from the vendor up to the customer end, having a GST registration will ensure that the processes are seamless and helps in the timely claim of input credits. The documents required for registration are ownership documents like a property tax receipt, electricity or water bills, rent agreement, signatory details, etc. Registration can be done here

Shops and establishments license 

The owner also has to get registration under the Shops and Establishments Act from the respective state government. The registration being state-wise; the requirements vary from state to state. Broadly, the documents required are photographs of the shop/establishment, signatory details, PAN Card, address proof, etc. 

  1. Other labour law registrations like Employees Provident Fund (EPF), Employees State Insurance (ESI), Contract labour registrations, etc. will apply in case the number of employees crosses the thresholds prescribed under the respective legislations. 
  2. Trademarks may also be registered in order to protect and grow the brand. 

Listing cloud kitchens on Zomato

Once the dark kitchen owner has all the licenses in place, listing the same on Zomato is a fairly simple process. The kitchen owner drops in a query with Zomato and a representative would then get in touch with them to understand their business and requirements. Upon submission of the necessary documents, menu, logo, etc. the request is processed and the kitchen goes live on the Zomato app. The website page for listing can be accessed here.

Legal formalities for listing 

Listing on Zomato is free of cost; the owner can maintain their kitchen page and also reply to customer reviews. The documents required for listing on Zomato are:

  1. FSSAI License or application number, 
  2. PAN Card,
  3. GST Registration,
  4. Canceled cheque, 
  5. ID and address proof,
  6. Execution of business collaboration/ service agreements.

As far as setting up kitchens with Zomato is concerned, the owner is required to enter into an agreement with Zomato for the establishment and development of the kitchen as per specifications and also invest in the kitchen space. Further details of the same can be found here.

Benefits

Partnering with a brand like Zomato is a sure shot to success for any small entrepreneur. Some of the key advantages of listing are:

  • Advertising and outreach to a large customer base,
  • Hassle-free delivery,
  • Customer feedback, 
  • Customer and market insights, 
  • Assurance of quality products. 

While listing on Zomato offers several benefits, there are a few disadvantages as well; some of them are:

Other legal issues when dealing with food aggregators 

As seen above, the aggregators play a prominent role in the food industry, and with a rapidly growing industry such as Food and Beverages (F&B), their role is only bound to increase. However, there are certain deeper issues that are being discussed and debated off-late. The Report by the Competition Commission of India on E-commerce highlights a few legal issues arising through partnerships with the platforms; these are explained below: 

  1. Conflict of interests – The issue of conflict of interest between the restaurants/ cloud kitchens listed on the platform versus the platform’s own cloud kitchen brands. Given that the competition in this segment is extremely severe, it is but natural for the platforms to market their own products preferentially and this dual role played by the platform both as a marketplace and competition disrupts the level playing field between the players as it inherently puts the platform on a higher footing. It becomes all the more important since all the platforms run on the basis of algorithms that are under the control of the platform.
  2. Unilateral and unfair terms of contracts – The report also states that the platforms, by virtue of their market share, customize the contracts in their own favour and provide barely any scope for negotiation with the cloud owners/ restaurants. Some of the terms that are often imposed upon restaurant partners are:
    • Deep discounting – Though the restaurant owners can participate in these deep discount offerings at their will, they did agree that non-participation reduced their visibility on the platform. Such discounting practices steeply affect their revenues, sometimes, to the point of unviability of the business. 
    • Bundling of delivery services – Delivery services are often thrust upon the restaurant owners along with listing services. This has a dual impact, first, the restaurant owner may not be in need of delivery services, and second, the choice of first delivery between the various restaurants’ vests with the platform; thus, there could be preferential treatment towards some restaurants over others. 

Conclusion

Cloud kitchens form a major chunk of the food industry today. As with various other industries and startups, they have been receiving huge funding as well. With smartphone penetration into non-urban areas and growth in technologies, the industry is sure to expand. In fact, the report also states that the food tech expansion is 7 times faster in non-metro cities than in metro cities. Hence, it is needless to say that cloud kitchens are here to stay! And to reach high growth levels, their dependence on the resources and expertise of aggregators like Zomato is inevitable. However, negotiation with aggregators remains a pain point for many smaller players. Thus, listing or not with them remains more of a commercial decision to stay relevant in the market. These challenges are being debated and policy changes may be initiated by the government in order to promote more transparent and fair competition, which would hopefully benefit all the players and the market at large. 

References


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