Equities

Uber’s upcoming IPO promises to be monumental. The big question for would-be buyers is: will this loss-making juggernaut be a good investment? Or, like its rival, Lyft, will its shares plummet after the float?

Uber is the epochal poster-child amid an avalanche of celebrated loss-making, multibillion-dollar, start-ups that have used software to reshuffle the deckchairs of industries from finance to logistics.

Uber has now filed its pre-IPO S-1 documents with the SEC and while the details of how much it plans to raise has not been revealed, it is expected to raise up to US$10 billion (less than the US$16 billion Facebook raised in 2012 or the US$24 billion Alibaba raised in 2014) and be valued above US$100 billion for the billions of rides it loses billions of dollars providing.

Everything about the Uber IPO will be monumental, including the 29 underwriters that will help get the float away, and presumably support it, lest it end up like rival Lyft’s debut which is now 23 per cent below its IPO price.

I have little doubt that Uber is also the potato in a game of ‘hot-potato’ with its backers potentially unwilling to continue funding its ‘uber’ losses.

The obvious question, however, is whether Uber’s IPO is another common example of more knowledgeable private equity and venture capital sellers taking advantage of less knowledgeable Mom & Pop buyers? The prospectus doesn’t reveal who will be selling their stakes but it won’t be any of the contractors who drive for Uber because they don’t have a stake and haven’t been given one.

What we do know is who the biggest shareholders are. With slightly more than 16 per cent, Softbank is the most significant shareholder. At a US$100billion valuation Softbank’s stake could have a market value of US$16 billion.

Venture Capital firm Benchmark, founded by now 42-year-old Matt Cohler and five other equal partners, previously invested $6.7 million in eBay in 1997. That stake is now worth tens of billions. Cohler and his partners also invested in Dropbox, Twitter, Snapchat, Instagram, Discord, WeWork, Yelp and Zillow. Benchmark holds an 11 per cent stake in Uber, which would of course equate to $11 billion.

Uber’s estranged founder Travis Kalanick owns a near seven per cent stake while co-founder Garrett Camp holds six per cent through his start-up incubator Expa-1.

Loss making…but look over here

As is typical for loss-making companies, the pre-IPO filing is full of distracting milestones. The prospectus has more than 280 pages of commentary before the financials appear. For example, the company points to the 26 billion miles consumers used Uber to travel during 2018. That’s enough to circumnavigate Earth more than a million times.

Since Uber first launched in 2009 with its on-demand taxi service, it has ‘diversified’ into bikes and scooters and food delivery through Uber Eats. And to distract you further the company is dreaming big with its Uber Freight offering, connecting “carriers with the most appropriate shipments available on our platform, and gives carriers upfront, transparent pricing and the ability to book a shipment with the touch of a button.” It’s also hoping Uber Health will take off, helping health care agencies arrange rides for patients.

In India, Uber Auto and Uber Moto provide hailing options in rickshaws and on motorbikes and, in Cairo, Uber Bus allows passengers to reserve a seat on an air conditioned mini-bus.

So what?

The economics of taxi and bus transport companies have rarely been exciting and the benefits of scale are usually limited to the individual cities they operate in.

The reality is that Uber doesn’t make an economic return to its shareholders on the technology it has built nor on the quarterly operational costs. Therefore, its service isn’t priced correctly. In turn, its popularity is at least partly due to it being underpriced. If it were priced to generate a profit, the ride hailing service would be far less popular.

And since rival ride-hailing company Lyft opened its first day of trading at $87.24 – above its US$72 IPO price – the shares have fallen 31 per cent to $59.90.

Unconventional metrics

Back when I was working at Merrill Lynch in 1999, one of the signs I knew meant the tech boom was a bubble was that analysts were adopting unconventional measures, metrics and multiples to justify the patently absurd valuations the market was willing to attribute to loss-making companies.

Fortunately, for many analysts who were too young to have invested during the 1999 boom and 2000 bust, Uber is going to help them out by offering its own suggested metrics.

Its “core platform adjusted net revenue” is one such helpful measure with the core platform consisting “primarily of ride-sharing and Uber Eats,” and stripping out excess driver incentives and referrals. Presumably excess driver incentives and referral payments are paid with Uber dollars rather than real money and are therefore able to be disregarded.

In point of fact, Uber has admitted drivers sometimes take home more than Uber actually receives from a customer for a given fare thanks to incentives.

Other suggested, but ultimately useless metrics include “monthly active platform consumers,” which is the number who use Uber for a ride or meal in a given month. There were 91 million such consumers in 2018, up from 68 million in 2017. Uber also reveals 5.2 billion “trips” in 2018 but if three people share an Uber and pay separately that’s three “trips”, which means analysts won’t be able to directly compare Uber to Lyft.

Uber’s revenue grew 43 per cent to $11.3 billion in 2018 from $7.9 billion in 2017. Importantly, in 2017 revenue grew more than 100 per cent so the revenue growth rate is slowing. And that’s true for its “core” platform too.

Uber clips the ticket for each ride its contractors provide (as they are not employees, this allows it to potentially bypass human right and employee entitlements). It’s called the “Take Rate” and sits at 20 per cent. To calculate the number, the company helpfully suggests analysts look at the core platform adjusted net revenue as a portion of gross bookings from ride-sharing, “New Mobility” rides, Uber Eats deliveries and freight shipments, without adjusting for discounts and refunds. The latter, of course, paid with Uber dollars rather than real dollars.

Selling the dream

Uber is also leading analysts to classify its newer ‘off-piste’ ventures as “Other Bets”. Uber Freight and New Mobility (the bikes and scooters found at the bottom of Melbourne’s Yarra River) are carved out to make it simpler for analysts to assess the performance of the more established revenue sources.

Of course, other bets such as Uber’s air taxi option through Uber Elevate inspires investors to dream big but of course it distracts from the painful reality of governments, infrastructure and funding. And remember history is replete with examples of world-changing technology that lost its investors billions.

While revenue from Other Bets revenue jumped from US$67 million in 2017 to US$373 million in 2018 with Uber Freight being the primary driver, overall losses continue to grow.

Losses, however, are not quarantined to the Other Bets. While the sale of operations in Russia and Asia allowed the company to report US$1 billion of net income, the operating loss was US$3 billion.

The nightmare

There’s been a lot of hype about autonomous vehicles. But much of it is just that, hype. The argument that autonomous vehicles will be much safer has been kicked into touch by the fact that 80 per cent of the lifesaving benefits of autonomy can now be found in features such as lane holding, autonomous emergency braking and cabin safety measures.

Moreover, it strikes me that Uber would be the last company to successfully launch an autonomous fleet of robotaxis. This is because, in order to succeed, it must necessarily displace its core source of revenue (drivers). Businesses that need to protect legacy revenue streams are historically unwilling to disrupt themselves.

Perhaps that is why the prospectus says, “We expect driver dissatisfaction will generally increase”.

And remembering the company is unprofitable, it will either have to charge customers more or pay drivers less. Neither option will be popular and new shareholders will be left holding the baby at a record high price.

A conference I attended recently revealed that the proportion of people who use a ride hailing service more than once a week is declining in many major capital cities. And while the proportion of people who use a service in an ad-hoc manner is increasing, the most popular ‘trip’ is the 2am drunk ride home from a bar. Mums with shopping, two kids and a pram are as likely to hail an Uber as they have been to hail a taxi. And taxis have been around for decades.

There’s also the issue of bypassing employee entitlements and work safety standards by classifying drivers as contractors. If Uber is forced to classify its drivers as employees the change would generate even larger losses.

Keep in mind the EU’s European Court of Justice reclassified Uber as a taxi company in 2017.

And finally, putting aside the reputational issues associated with its founder, Uber is simply a ten-year-old company that has never made a profit. The current popularity of its service is a function of its underpricing, and its losses are reduced by a potential unsustainable relationship classification with its drivers.

Given the current popularity of businesses that have used software to ‘eat the world’ there can be little doubt Uber’s early investors will have luck on their side and make a lot of money. The question is whether later investors will be as lucky.



Comments

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Jonathan Rochford

Nice article Roger. There's all sorts of shenanigans in valuation metrics with WeWork's "community adjusted EBITDA" the leader in this regard. On the theme of comparisons to the Tech Wreck, the current IPO of pet supply company Chewy is being compared to pets.com IPO of 2000.

Patrick Poke

"community adjusted EBITDA" - I haven't heard that one before Jonathan! I will forever associate WeWork with CEO Adam Nuemann's quote: "No one is investing in a co-working company worth $20 billion. That doesn't exist. Our valuation and size today are much more based on our energy and spirituality than it is on a multiple of revenue."

James Waggett

Roger, given that drivers represent the largest individual cost to Uber which, over time, automation will completely displace, why do you assert that "Uber would be the last company to successfully launch an autonomous fleet of robotaxis." I suggest they will be amongst the first, given that eliminating driver costs would be a huge step change for Uber's profitability, now that they have global scale. Or am I missing something ?

Roger Montgomery

Hi James, thanks for your comment. Yes, I think you are missing something. I assert it because Uber have the most to lose from switching. They already generate billions of revenue in rides with drivers who would strike and protest at any sign of change that disenfranchises them. They would lose billions of revenue as drivers switch en-masse to rivals and the fleet of robots taxis would be very small. Uber would be decimated. Note the recent driver strikes in LA. Moreover, fully autonomous vehicles in scale is a future whose horizon has just shifted a lot further down the road. Keep in mind autonomous vehicles were originally pitched to governments on safety grounds. But now, 80% of the lifesaving benefits of autonomous technology are available in driver assistance systems such as autonomous braking, lane holding and distant polio systems. That means it’s no longer a safety issue that the government needs to consider but a massive cost issue only.

Al Bentley

Agree with them masking losses with growth but MAU or monthly active users is a critical metric for any technology business like Uber, I don't think it is fair to call it useless!

eric wells

I simply don't like Uber. That company ruined the price of taxi licences, bankrupting many people, and behaving in a predatory manner. I would NEVER use Uber, preferring to use a local AUSTRALIAN owned taxi. Eric Wells