Latepost A Disruptive Cab Ride To Riches: The Uber Payoff

On June 3, disruption, the latest buzzword inwards strategy, amongst fellowship owners arguing that they are upending existing ways of doing line organisation (hailing a taxi, amongst Uber, in addition to finding lodging, amongst Airbnb) in addition to given the sizes of the businesses that they were disrupting, that the heaven is the bound on value. 

If you lot are old plenty to retrieve marketplace seat fevers from past times booms, you lot are in all likelihood inclined to dismiss both the claims in addition to the valuations every bit fantasy. I do believe, however, that at that spot is a nitty-gritty of truth to the disruption declaration though I think investors are beingness far likewise casual inwards accepting it at confront value. As I elbow grease to attach a value to Uber, I have got to confess that I merely downloaded the app in addition to have got non used it yet. I pass most of my of life either inwards the suburbs, where I tin laissez passer on notice go past times away for days without seeing a taxi, or inwards New York City, where I divulge that the subways are a vastly to a greater extent than time-efficient, cheaper in addition to frequently safer trend of shipping than taxis. 

Uber: The line organisation model

Uber is non inwards the taxi business, at to the lowest degree inwards the conventional sense, since it owns no cabs in addition to has no cab drivers every bit employees. Instead, it plays the purpose of matchmaker, matching a driver/car amongst a client looking for a ride in addition to taking a spell of the fare for providing the service. Its value comes from the screening that it does of the drivers/cars (to ensure both security in addition to comfort), its pricing/payment organisation (where customers withdraw the grade of service, ranging from a machine to a SUV, are articles/201830936-How-do-I-get-a-fare-estimate-">quoted a fare in addition to pay Uber) in addition to its convenience (where you lot tin laissez passer on notice rail the machine that is coming to pick you lot upward on your squall upward screen). The figure below captures the steps inwards the Uber line organisation model, amongst comments on what it is that Uber offers at each phase in addition to whether that offering is unique:

Uber has been able to grow at exponential rates since its founding inwards 2009 past times Garrett Camp in addition to Travis Kalanick, amongst the latter (who is novel CEO) claiming that it is doubling its size every vi months. While nosotros have got no access to the company's financials, at that spot have got been periodic leaks of information close the fellowship that allow us to larn a feel of its growth. Here, for instance, was a film that was widely dispersed inwards Dec 2013 of a five-week catamenia inwards belatedly 2013:

While the fellowship claimed to live on outraged past times the leak, it played nicely into the narrative of growth that it was selling to its investors. In fact, the Dec leaks suggested that the fellowship generated gross receipts (the fares paid past times customers for cab rides) of $1.1 billion, which would interpret into revenues of $220 meg (based on the 20% spell that Uber claims for itself). That was a few months agone in addition to at the rates at which the fellowship is growing, I would non live on surprised if the updated values for both numbers are higher; I volition live on using $1.5 billion for the gross receipts in addition to $300 meg every bit revenues for Uber every bit base of operations twelvemonth numbers.

There was no information that I could divulge on the company's expenses in addition to income, but according to populace sources, the fellowship has 900 employees inwards its dissimilar locations in addition to that it pays them reasonably well. Uber has been active inwards both marketing its service in addition to offering deals to attract firms fourth dimension customers in addition to has an active technology scientific discipline department (doing the equivalent of R&D). In summary, these expenses are likely to have got been much larger than the revenues (of $300 million) posted during the period. Since the fellowship tin laissez passer on notice legitimately debate that some of these expenses (such every bit the R&D in addition to client acquisition costs) are to a greater extent than inwards the nature of majuscule expenditures than operating expenses, I volition assume (generously) that the fellowship generated an operating income of $10 meg inwards the most recent 12 months. (The resultant on value of changing this publish is relatively small).

An intrinsic valuation of Über

There are many who volition debate that this likewise immature a fellowship in addition to that at that spot is likewise much doubtfulness for an intrinsic valuation. I have got argued inwards prior posts in addition to in this paper that this declaration is a cop-out, since non dealing amongst doubtfulness does non brand it go past times away away. Having said that, I would hasten to add together that what follows is my gauge of value for Uber, non the truthful value.

A. Potential Market: Size in addition to Growth

For my base of operations illustration valuation, I am going to assume that the main marketplace seat that Uber is targeting is the taxi in addition to limo service market, globally. I know that at that spot is verbalize (some from Uber's management in addition to some from analysts) that Uber could extend its achieve into other businesses (car rentals, moving in addition to fifty-fifty driverless cars), but I don't come across whatever evidence that it has succeeded inwards making whatever breakthroughs  (yet) in addition to volition come upward dorsum to this query after inwards my post.

The global marketplace seat for taxis in addition to machine services may live on a large 1 but it really splintered, amongst lots of small, local operators dominating each city. In many cities,  this is also a cash line organisation where at that spot are no slow ways to rail the total revenues generated past times all operators. However, at that spot is information that nosotros tin laissez passer on notice prepare on. For instance, at that spot seems to live on consensus that the most lucrative cab marketplace seat inwards the footing is inwards Japan, where revenues are estimated to live on close $20-$25 billion annually just inwards Tokyo, followed past times the United Kingdom of Great Britain in addition to Northern Ireland (with revenues of $14 billion, amongst the volume from London) in addition to the USA (with $11 billion overall in addition to close $3 billion inwards New York). Making a judgment that taxi revenues currently inwards the remainder of the footing volition add together some other $50 billion to this total, I go past times away far at a total marketplace seat for taxi in addition to limo services of $100 billion.

It is truthful that many cities, particularly inwards Asia in addition to Latin America, are nether served currently in addition to that the taxi line organisation globally volition maintain to grow at  well higher upward the 2-3% charge per unit of measurement that nosotros have got observed inwards the US, Nihon in addition to UK, in addition to that services similar Uber volition contribute to the faster growth. I volition gauge an expected growth charge per unit of measurement of 6% a twelvemonth for the side past times side decade, increasing the overall marketplace seat to $183 billion inwards 2024.

B. Status quo, competition, marketplace seat part in addition to Über's spell (revenues)

The taxi in addition to limo marketplace seat currently is dominated past times small, local players in addition to is regulated inwards most cities. The cities trammel entry into the marketplace seat in addition to inwards return, they regulate the prices that cabs tin laissez passer on notice accuse their customers (more effectively inwards some cities than others). While Uber has exclusively a minuscule spell of the overall revenues currently, the marketplace seat part that it tin laissez passer on notice aspire to larn volition depend upon the next factors:

1. The efficiency of the condition quo or producers/consumers:  Under the existing system, cab drivers larn a relatively minor part of the taxi revenue pie (5-10%) in addition to customers inwards many cities (which are nether served) either divulge themselves without taxis, have got to hold off a long fourth dimension or have got to pay outlandishly high prices (as attested past times the carfare from Narita drome inwards Tokyo into the city). Thus, both many of my weblog posts over the concluding 2 years, the value of an property tin laissez passer on notice live on really dissimilar from its price. The old is determined past times the interplay of fundamentals (cash flows, growth in addition to risk) whereas the latter is a portion of demand in addition to supply. To toll an asset, you lot follow 2 uncomplicated steps. In the first, you lot facial expression for a metric that the marketplace seat is scaling the toll to; that metric tin laissez passer on notice live on an operating publish similar revenues or earnings or an intermediate publish similar publish of users or customers. In the second, you lot identify "comparable" companies, i.e., companies that are similar the 1 that you lot are valuing in addition to compare the scaled toll (the multiple) across these companies. Most investors in addition to analysts are to a greater extent than comfortable pricing assets, rather than valuing them, in addition to this is particularly the illustration amongst immature companies similar Uber. So, is that what investors are doing to go past times away far at the $17 billion toll for Uber? To brand that judgment, let's facial expression at the choices when it comes to pricing metrics in addition to comparable firms.

Pricing Metric

You cannot compare values or marketplace seat capitalizations across companies, because companies tin laissez passer on notice vary inwards terms of size in addition to scale. Dividing the estimated value past times a scaling variable creates a multiple that tin laissez passer on notice live on compared across companies. With mature companies, you lot scale marketplace seat value (equity or enterprise) to measures of earnings, dividing marketplace seat capitalization past times internet income to larn to a PE ratio or enterprise value past times operating income or EBITDA to larn an enterprise value multiple. With immature companies, where earnings are frequently negative or minuscule, earnings multiples either cannot live on computed or are non meaningful. In fact, the exclusively electrical flow operating publish that is consistently positive at those companies is earnings, explaining why revenue multiples are thus widely used at this phase inwards the life cycle. The fact that revenue multiples tin laissez passer on notice live on computed does non necessarily hateful that they are useful inwards valuation. Dividing Uber's value ($17 billion) past times the revenues ($300 million) yields a revenue multiple of 56.67, an outlandishly high publish but 1 that tells you lot picayune close the pricing of the company, partly because investors are pricing these immature companies on potential, non electrical flow performance.

One solution to the work amongst electrical flow numbers non reflecting potential is to utilisation expected futurity revenues or earnings inwards computing multiples. Thus, you lot could split the enterprise value today past times the expected revenues inwards v or x years in addition to compare these frontwards multiples across companies. Applying this approach to Uber, I divided the enterprise value of $17 billion past times my expected revenues inwards x years ($3.59 billion) to yield 4.75, soundless a high publish in addition to 1 that should live on compared to the same multiple (enterprise value to futurity sales) computed for other companies. The work amongst this approach is two-fold. The showtime is that you lot demand to forecast revenues for each fellowship inwards your sample, non merely the fellowship that you lot are valuing. The 2nd is that these multiples are exclusively every bit skilful every bit your revenue forecasts, making this a articulation exam of the multiple in addition to your forecasting ability.

In my postal service on Whatsapp in addition to Facebook's valuation of it, I noted that the metric that best explains the deviation inwards values across companies is non revenues or earnings, but the publish of users. While that may boom some every bit beingness irrational, it is non unreasonable to assume that companies amongst to a greater extent than users are amend positioned inwards terms of potential. If Uber, Lyft in addition to Hailo (all of which function inwards the taxicab market) were all publicly traded, what equivalent metric would investors focus on? It could live on the publish the subscribers to the service, the publish of rides taken past times these subscribers or fifty-fifty the publish of cabs covered  by the service.  For the moment, though, nosotros are soundless inwards the night close all of these statistics for these companies.

Comparables

In pricing, the alternative of companies that you lot compare your fellowship to is critical. In fact, 1 uncomplicated means to tilt the pricing inwards the management that you lot desire it to go past times away is to alter the firms that you lot utilisation inwards your comparison. In the illustration of Uber, nosotros volition showtime attempt to value it, relative to other publicly traded immature technology scientific discipline firms in addition to and thus attempt again, relative to someone technology scientific discipline companies that have got received venture majuscule infusions inwards the concluding year.

If nosotros define Uber's comparable companies every bit young, technology scientific discipline companies that are beingness priced on potential, the most obvious subset of companies that nosotros tin laissez passer on notice compare it to are social media companies. In the tabular array below, I update the numbers for social media companies, amongst key multiples  computed inwards the concluding iv columns:

Enterprise in addition to marketplace seat values from June 2014, Trailing 12 calendar month numbers

Since the exclusively publish that nosotros have got some stair out of (and a crude oil 1 at that) is Uber's revenues ($300 million), applying the median multiple of 9.22 yields a value of $2.766 billion for Uber. Even applying the highest value (Twitter's EV/Sales of 21.82) yields a value of $6,546 million, good below the  $17 billion estimate. Uber reports the publish of cities that it operates in, but it provides no item on the exact publish of subscribers to the service in addition to the publish of rides that it provides. Even extrapolating from the leaked study (shown towards the top of this post), that shows upward 90,000 novel users signing upward each week, I larn 4.68 meg sign ups for a twelvemonth in addition to maybe xv meg subscribers overall. Applying the median value of $70/user to this publish leaves you lot amongst $1.05 billion in addition to fifty-fifty applying the high (Netflix's $568/user) yields a value of merely over $8.5 billion.

It is possible that the investors inwards Uber are comparing its pricing to the imputed pricing of the other non-public "big" companies inwards this space. In the tabular array below, I have got highlighted the largest someone technology scientific discipline companies amongst VC investments inwards the concluding 12 months, the imputed valuations in addition to the revenues inwards 2013 (or at to the lowest degree the best estimates that I could find):

VC investments, imputed valuations in addition to revenues inwards 2013

Even inwards the rarefied air of VC valuations, Uber's $17 billion dollar value stands out every bit an outlier. Applying the median multiple of revenue (32.14) across merely these companies to Uber's revenues would soundless go out you lot amongst a valuation merely nether $10 billion. 

The bottom line: Even if I utilisation the most favorable pricing metric (revenue) in addition to comparable firms (other favored VC targets), it is hard to justify a toll greater than $10 billion. 

Uber, the disruptor

This brings us dorsum total circle to the disruption argument. When Clayton Christensen coined the term "disruptive innovation" a few decades ago, I am for sure that he never foresaw its popularity amongst investors, analysts in addition to companies. Christensen draws a contrast betwixt sustaining innovations, which advance the condition quo (and established players) in addition to disruptive innovations, which novel entrants innovate to disrupt the condition quo. With the latter, Christensen's story mirrors David in addition to Goliath, amongst the novel entrants winning out over larger, entrenched entities, partly because they have got picayune to lose from upending the condition quo.

While I admire the large film perspective that strategists similar Michael Porter in addition to Christensen have got brought to business, I am, past times nature, a skeptic in addition to experience the urge to necktie the large film to the bottom line. As I come across it, disruptive excogitation affects value at 2 levels. In the first, it allows a novel entrant to go inwards a targeted market, disrupt the condition quo in addition to and thus capture the excess profits inwards that market. That tin laissez passer on notice live on captured inwards a discounted cash flow valuation, which is what I attempted to do inwards my intrinsic valuation of Uber. The 2nd grade at which disruptive excogitation affects value is to a greater extent than subtle. Assuming that the disruptor is able to succeed inwards its targeted market, success inwards that marketplace seat may allow the disruptor to go inwards novel in addition to potentially larger markets inwards the future. The fact that these markets are undefined at the minute in addition to the odds of success are depression hateful that the intrinsic value added from this possibility is small. However, the fact that the disruptor does non have got to commit to investing inwards these novel markets until the outcome from the initial marketplace seat is known, every bit good every bit the potentially large profits from this expansion, laissez passer on it the characteristics of an option. I do non desire to entangle myself inwards the mechanics of alternative pricing inwards this post, but the value of this disruption alternative is an improver to the intrinsic value in addition to volition increment amongst the size of the potential markets, the uncertainty/risk inwards these markets in addition to the competitive advantages that the disruptor brings to these markets.

Applying these really full general concepts to Uber, the attraction to investors is clear. Uber's argument is that it is targeting the machine service marketplace seat for the minute but its intention is to utilisation success inwards this marketplace seat to expand into other markets. While nosotros tin laissez passer on notice live on skeptical in addition to uncertain close its chances of success inwards these fuzzily defined markets, that uncertainty, which would trim down intrinsic value, increases the value of the disruption option. To laissez passer on Travis Kalanick, the co-founder in addition to CEO of Uber, credit, articles/2014-06-06/q-and-a-travis-kalanick-on-ubers-new-17-billion-valuation">his subtle pitch that Uber is inwards the logistics business plays into the alternative narrative, every bit does the fog that the fellowship has created merely about specifics. 

It is slow to come across the allure of the alternative argument, where doubtfulness becomes your ally in addition to large markets beckon, but every bit investors, nosotros demand to empathise that most deep out-of-the-money options never larn exercised in addition to that the fellowship owners/managers cannot live on given complimentary rein over narratives. I am non privy to the questions that investors inwards Uber asked earlier they made their investment, but I would promise that they pushed Mr. Kalanick to live on specific close his expansion plans, the details of  growth in addition to what it is costing to deliver that growth, in addition to most importantly, what volition laissez passer on Uber the exclusivity to live on able to advance into novel markets faster in addition to to a greater extent than profitably than its competitors (both electrical flow in addition to new).

Bottom line: Can the disruption alternative explicate the deviation betwixt the assessed value ($17 billion) in addition to the estimated value ($6 billion, amongst intrinsic valuation)? It is possible but non probable. For the alternative to live on worth $11 billion, the potential markets that Uber tin laissez passer on notice enter, assuming it is successful inwards the machine service business, volition have got to live on at to the lowest degree iv times larger than the base of operations marketplace seat (the $100 billion taxicab market). I know that at that spot is verbalize of Uber becoming a instrumentalist inwards a futuristic footing of driverless electrical cars, but fifty-fifty if that scenario unfolds, I don't come across why Google in addition to Tesla would permit Uber have got anything to a greater extent than than crumbs off the table.

The terminate game

The numbers seem to quest that Uber is beingness overpriced past times investors who have got valued it at $17 billion. Since these investors are presumably sophisticated players, how would I explicate their pricing? I volition non try, since I did non pay the price, but it is worth remembering that fifty-fifty smart investors tin laissez passer on notice collectively brand large mistakes, particularly if they lose perspective. The tech footing is a cloistered one, where the leading players (venture capitalists, managers, series entrepreneurs) immerse themselves inwards minutiae in addition to know in addition to verbalize to each other (and frequently exclusively to each other). Not surprisingly, they railroad train tunnel vision where technology scientific discipline (or at to the lowest degree their version of it) is the answer to every problem, the condition quo is both inefficient in addition to easily disrupted in addition to 50 times revenues is cheap! If history is whatever guide, tech geeks are merely every bit capable of greed in addition to irrational exuberance every bit bankers are.

Attachments
Intrinsic Valuation of Uber
Uber Pricing: Multiples in addition to Comparables