Dark store operators are building technology and data models to deliver the most frequently ordered items in dense urban zip codes, all under 15 minutes. The SKUs within these stores are dynamic and change per customer preferences, but the value proposition remains the same: a sharply condensed turnaround time from order to delivery, which transforms grocery shopping into an on-demand utility. 

Part of the success of this model predicates on building a smart network of physical real estate, which ensures lightning-fast delivery. These dark stores typically range between 250 to 5,000 square feet, are spread across the city, and are essential in building the physical spoke around the centralized technology hub that powers fast delivery. For context, these 'micro warehouses' are emerging across New York and startups in the space have plans to open hundreds of such centers to further streamline operations and delivery times. 

But this is where it gets a tad tricky. 

Venture-backed capital is often used to sign real estate leases, with startups entering into multi-year agreements, locking in their cash outflow. This is not just an expensive way to finance real estate spaces but also creates a dangerous asset-liability mismatch. While lease agreements run into several years, dark stores need to fulfill a certain number of orders every month just to break even on the real estate costs. One could argue that signing leases through venture-backed dollars is underscored by the imperative to scale quickly, expand one's geographic footprint, build network effects and subsequently, acquire and retain users. Unfortunately, this was the same pitch used by coworking providers and short-term rental operators, which ultimately led to their demise.  

Co-working providers and short-term rental operators once thrived on their ability to start new locations fast, giving existing users flexibility and a multitude of options. The lease arbitrage model seemed to work well as entrepreneurs sold short term, and bought long term, profiting from the difference. Yet when the world changed during the pandemic, revenues dropped, lease payments were still due, and venture financing dried up. Many of these businesses were forced to default, renegotiate leases, and eventually shut shop – the mismatch between cash inflow and cash outflow, combined with an overreliance on the next venture financing round proved to be lethal. 

While it is still early days for the dark store universe, operators in the space should start thinking about the right balance between the pace of growth and the amount of operating leverage on their balance sheet. For one, commercial vacancies continue to be at record highs and that gives prospective tenants the ability to negotiate revenue share and/or management agreements with landlords, lowering the contractual cash outflow every month. 

More significantly, the ability to carve out a separate propco entity that holds real estate leases and is financed by non-venture dollars might bring better alignment between the sources and uses of capital. While the core operating entity or the opco could build out the product and tech, and continue to be financed by venture capital, the propco could presumably go after alternative and less dilutive sources of capital, given the different risk profiles between both entities. 

Slowing down growth is often considered anathema in the venture world, and for good reason. In a large market with changing consumer preferences, the first-mover advantages of building a network effect—both online and offline—are very real. Yet, taking a cue from some of the more asset-heavy predecessors in the business, perhaps the time to rationalize risk and focus on sustainable growth for dark store operators is now. 

Kunal Lunawat is co-founder and managing partner of Agya Ventures.