A world with less pollution and no traffic jams, where taxis are cheap and safe and you never have to wait for a pickup: It’s a rosy vision Uber is peddling, and venture capitalists, those professional optimists, are fully on board. An app-based service that lets anyone in need of a ride summon one within minutes, Uber recently raised $1.2 billion at a valuation of $18 billion, making it, on paper, one of the world’s biggest transportation companies, more valuable than such venerable competitors as Hertz, Avis and United Airlines.
It’s a bold upside bet, one in which the five-year-old startup not only continues to dominate the peer-to-peer rides market it created but transforms everything from urban planning to parcel delivery. Yet the people behind Uber think it’s conservative: CEO Travis Kalanick has said he thinks public markets would price Uber even higher. Benchmark Capital’s Bill Gurley, who sits on its board, argues that the company could easily attain a $150 billion valuation, and his fellow director Bill Maris has tossed out $200 billion.
Less speculative appraisals suggest a lower number; a fine-grained analysis by Aswath Damodaran, a finance professor who teaches equity valuation at NYU’s Stern School of Business, pegged Uber’s intrinsic worth at $6 billion -- though he produced that number without ever having tried the service. “It’s undoubtedly inflated simply because of all the hype,” says Wharton professor David Reibstein. He sees a similarity to Groupon, the daily deals provider, which debuted on the public markets with a market cap of nearly $20 billion, only to see its shares fall 90% within a few months.
That’s not to say it’s all hype. Whereas Groupon was still losing money when it went public, Uber has real profits to go along with its other metrics. Public comments by Kalanick suggest an annual gross revenue run rate of more than $2 billion already, with the top line doubling every six months as Uber pours money into recruiting new drivers and passengers and upgrading its technology platform. By comparison, when Facebook booked its first $2 billion year, it was already valued at $50 billion despite slower revenue growth (though Facebook didn't have to pay 80% of its gross to drivers).
But if there are sane reasons to be bullish on Uber, there are equally solid grounds for doubt. The scenario implied by Uber’s valuation is only one way things could break. There are others in which the company finds its ambitions constrained or even disappears. Competitors will steal market share, encouraged by the lack of any strong barrier to entry. Regulators will keep imposing new costs, and cities will continue to ban Uber outright. Looking further down the road, a new technology, be it driverless cars or a nonprofit collective, will inevitably threaten Uber’s business in the same way Uber has unsettled the taxi industry’s.
“Right now, I would consider it to be the fat, dumb and happy phase of disruption to transportation,” says Mohanjit Jolly, a partner at the venture firm Draper Fisher Jurvetson, whose investments include Tesla Motors. “I don’t know if we have enough data points thus far to crisply identify what the gotchas are just yet.”
COMPETITION
Even in the let’s-disrupt-transportation church, Uber has no shortage of competitors pecking away at it from every angle. The biggest, Lyft, competes primarily in the arena of low-cost service, but in May it added a premium tier, Lyft Plus, challenging for the market where Uber makes its biggest profits. There are services that specialize in traditional taxis (Hailo, Flywheel), services for riders willing to share the backseat with strangers (Hitch), services for those who just want a cheap car for a few hours but no driver (Getaround, Relayrides) or a driver but no car (Redcap). And of course there are the traditional taxi and car-service companies and rental providers.
Uber bulls think none of that matters much -- that Uber’s head start will only snowball with time in a pattern of increasing returns. In digital marketplaces that connect buyers and sellers, “typically, there are strong first-mover advantages,” says Jeff Jordan, a partner at Andreessen Horowitz, whose investments include Lyft and Instacart, an Uber-like grocery delivery service. The existence of so-called network effects causes big companies like Uber and Lyft to get bigger and starves small ones as consumers flock to the services with the most providers, he says.
It’s a common view in Silicon Valley, but not necessarily a reliable one in this instance. “The idea that there is this first-mover advantage where essentially customers are locked in -- history just does not support that,” says Peter Golder, professor of marketing at Dartmouth’s Tuck School of Business. Predictions of a winner-take-all market usually don’t pan out, he says, pointing to has-beens like Netscape and MySpace.
Network effects are strongest when each new user adds utility for other users; think Facebook, which is more fun if your friends are on it. Uber doesn’t work that way. In fact, riders compete with each other for cars, and drivers for fares. Even Gurley, he of the Uber board seat and $150 billion prediction, acknowledges this. “It’s indirect, but [additional users] do add value because it allows the system to get better,” he says.
Strong network effects also correspond to high switching costs. Quitting Facebook potentially means leaving behind years’ worth of accumulated contacts and photos. Quitting Uber carries no such penalties. In fact, there are powerful switching benefits in the form of the rich incentives just about every ride-sharing company is now offering to lure new customers and drivers. Uber guarantees some new full-time drivers a minimum of $45 per hour for their first two months, about what a New York City cab driver makes in a peak hour, and has dangled $1,000 signing bonuses and $5,000 guaranteed pay; Lyft offered customers free rides for two weeks when it launched in New York, and $750 bonuses to attract SUV drivers; and so on. “Throwing money at you kind of shows you there really isn’t that much on the services or technology side they can do to differentiate,” says Gartner transportation analyst Thilo Koslowski. “At the end of the day, this is isn’t something that has a whole lot of magic sauce to it.”
That leaves competing on price. Lyft president John Zimmer says his company is committed to being the cheapest option for riders; in order to keep drivers happy as well, it has had to forego taking any cut of fares, subsisting on the $333 million in venture funding it’s raised. To undercut Lyft in its home market, Uber recently dropped fares on UberX by 25% while promising to keep drivers’ take-home intact. Not only does Uber make nothing on those rides; it pays the drivers a bonus on top of the fare. Both companies say any sacrifice on their part is temporary, but in this environment, it’s hard to imagine Uber will be able to impose its 20% cut of fares consistently, especially with low-cost UberX growing at five times the rate of the premium tiers and new entrants popping up all the time.
Gurley says the prospect of an endless venture-capital-fueled price war is a genuine concern, but not an existential one for Uber, which he claims is already 17 times the size of its nearest rival. “If it’s a commodity market, then that’s bad for everyone, and the largest [companies] would probably stay the largest just because of scale advantages,” he says.
Gurley has a bigger worry.
REGULATION:
Across North America and Europe, taxi and limo drivers’ unions have been lobbying legislators to regulate or outlaw peer-to-peer services, and occasionally succeeding. “What they’re trying to do is get all their competitors to have to incur the same costs they do,” says Samuel Staley, who teaches economics and urban planning as director of Florida State University’s DeVoe Moore Center. One industry group, the Taxi, Limousine and Paratransit Association, claims that 30% to 40% of a traditional taxi’s operating expenses consist of regulatory costs Uber is now avoiding, especially primary commercial liability insurance. (Uber requires drivers to have their own insurance, although it does provide secondary coverage for certain situations.)
Hailo, a London-based company that connects users only to licensed cabs, is betting on the proposition that peer-to-peer ridesharing will soon be wrapped up in red tape. “Anytime you put more regulations in place, added costs are the next step,” says Justin Raymond, Hailo’s president for North America. “The business models of Lyft and Uber are going to have to change dramatically.”
While some places, including Colorado, have formally accepted Uber, others, like Virginia and Pittsburgh, have ordered it to suspend operations until the legal questions around it can be resolved -- questions such as what sort of licenses and insurance coverage drivers should be required to have. Even in relatively Uber-friendly places, there have been setbacks: Police in Los Angeles have impounded more than 40 cars in a crackdown on illegal airport pickups, while New York City forced Uber to curb its use of demand-pegged “surge pricing” during peak times like weather emergencies.
The bureaucratic hurdles are even higher overseas. “I worry about regulatory, especially on the global front,” says Gurley. “The U.S. I feel pretty good about, but it’s hard for U.S. companies to succeed globally at all.” Indeed, Google, Facebook and Twitter are all essentially shut out of China. Uber is there, but there and around the region it has stiff homegrown competition, including Tencent-backed Didi Dachi, GrabTaxi and EasyTaxi. And foreign regulators aren’t afraid to intervene against an interloper: The government of Seoul, perhaps the most tech-forward city on the planet, just outlawed Uber, and Berlin and Hamburg have also declared it illegal.
LABOR
For all the loyalty incentives it offers, Uber’s core message to drivers is that they can make more money on its platform than they would anywhere else. In June, it underscored this message by publishing earning data for UberX drivers. In New York, the median driver working 40-plus hours a week makes gross income of $90,766; in San Francisco, it’s $74,191.
But it quickly became apparent that Uber was finessing the numbers, leaving out the high costs of things like gas, insurance and tolls -- costs that Uber subsequently admitted often total more than $15,000 per year -- and misrepresenting the hours drivers must work to pull down those big numbers. Independent analyses suggest that $90,000 gross comes with a 70- to 80-hour week.
Once you work out all the math, the deal Uber is offering drivers is no better than what existed before, says FSU’s Staley, who has conducted his own research on income. “There are some taxi drivers who make $80,000 a year. You can do that with Uber or you can do that as a regular taxi driver,” he says.
If Uber has been able to convince so many drivers otherwise, it’s partly because the novelty of the model means most of them haven’t worked out the math for themselves. “Suddenly, you’re driving maybe two to three times what you normally would,” says Jolly of Draper Fisher Jurvetson. “I don’t think drivers have thought through what it means from a wear-and-tear standpoint.” Likewise, he says, their insurance premiums will rise as more time on the road translates into more fender-benders. Gradually, drivers will become more sophisticated about the total cost of ownership.
Currently, demanding a better deal means looking elsewhere, but in a handful of cities, including San Francisco, Los Angeles, Seattle and Atlanta, drivers are attempting to organize. “The company is somewhat structured not to take any input from drivers,” says Daniel Ajema, a co-founder of Seattle’s App-Based Drivers Association, which claims more than 150 members. At the top of his group’s list of demands is an appeals process for drivers who’ve been kicked off the platform for low ratings. Bargaining down that 20% commission rate is another priority. “We buy the car, we maintain the car, we pay for gas,” Ajema says. “At this point in time, it’s becoming unreasonable to maintain the business.”
As long as it has the most passengers to dole out, Uber will have the upper hand. But the drivers might have some leverage of their own: While they’re classified independent contractors, allowing Uber to avoid social security taxes and health insurance, it skirts a line when it requires them to drive full-time hours or tells them where to troll for fares. Those are the sorts of criteria the Department of Labor use to determine whether a worker is truly independent. “So we feel there’s strong control that makes us like employees,” says Ajema, “but we leave that for the legal professionals.”
DISINTERMEDIATION
Who’s to say that disruption halts at a point that’s convenient for Uber? The same innovations that made it possible -- GPS-enabled mobile devices, smart utilization algorithms, frictionless digital payment and social authentication -- make it possible for anyone who wants to build a platform that would do much the same thing, without taking 20% of the proceeds. “Uber is an intermediary, and, like any intermediary, technology could cut them out of the process,” says Golder.
The price war that Uber’s locked into now shows what happens when the marginal cost of providing a service shrinks to insignificance, says Jeremy Rifkin, an economics lecturer and author of “The Third Industrial Revolution.” “As you move toward zero marginal cost, the margins aren’t there for the profits,” says Rifkin. “You’re going to have cooperatives coming in, and you’re going to see governments coming in like they are with bike sharing.” (Let it be noted that Rifkin made that prediction before Seoul announced plans for its own Uber alternative.)
On the other side, companies with the resources and scale to challenge Uber may decide they need to be in the ridesharing business for defensive reasons. Gartner’s Koslowski predicts that Apple will be first to jump in, adding car-summoning functionality to iOS the same way it’s cloned other popular apps. “This is an adjacent business for them,” he says. One or more of the major automakers may as well, he says; integration with new cars could launch a new competitor overnight the same way it propelled SiriusXM’s satellite radio service.
If there’s one company that’s positioned to render Uber irrelevant, it’s Google. Luckily for Uber, Google is an investor through its venture arm, and the relationship has already resulted in Uber being the first and so far only rides app to be integrated with Google Maps (a distinction that may interest antitrust authorities if it keeps up). But Google also might be planting the seeds of Uber’s undoing through its self-driving cars initiative. Kalanick has said he thinks driverless vehicles are Uber’s future, but historically, it’s rare for a company that dominated one technology platform to retain its leadership position when the next one comes along.
That possibility doesn’t worry Gurley -- mostly because he thinks Kalanick is wrong. “My own point of view is that driverless cars are decades and decades away,” he says. He also believes the odds of Apple cloning Uber are “less than 1%.” While he’s willing to allow that there are forces that could curb Uber’s growth, they’re all ones that would hurt its competitors more.
Why is he so sure? Because, he says, so many of his peers agree with him. That $1.2 billion raise was the result of “the most structured financing process I’ve seen for a private company. The collective wisdom of the best investors who had access to a lot of data had one conclusion, and at the end of the day, that’s the best way we know to judge valuation.”
Making ever-bigger bets on the premise that so many other investors can't be wrong -- that's a pretty good definition of a bubble, whatever Uber's future holds.
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