Uber's $70 bln value accrues mainly to customers

NEW YORK (Reuters Breakingviews) - Will Uber Technologies ever make money? The ride-share giant’s recent exit from the cutthroat Chinese market should help, but it may still lose $2.8 billion in EBITDA this year, according to figures reported by The Information on Dec. 19. Economic theory suggests Uber is handing its passengers lots of value. Turning a profit for investors, though, is a different story.

An illustration picture shows the logo of car-sharing service app Uber on a smartphone next to the picture of an official German taxi sign in Frankfurt, September 15, 2014. REUTERS/Kai Pfaffenbach

That makes Uber, valued at some $70 billion in private markets, sound a bit like Amazon. The $370 billion online retailer, which trades at not far short of 100 times its skinny forecast earnings, achieves that outsized multiple partly on the belief that there’s a sort of dial that founder and boss Jeff Bezos can turn to stop giving consumers such good deals and slow down investment, making a huge profit suddenly appear.

Perhaps the same applies to Uber, which is still losing $100 million per quarter even in its home U.S. market, The Information says, partly thanks to intense competition with rival Lyft – not to mention aggressive market-share grabs from traditional taxis in big markets like New York City. To begin to justify its paper valuation, even at an Amazon and Facebook-like EV-to-EBITDA ratio of around 40, the company led by Travis Kalanick needs to turn its current loss into approaching $2 billion of positive EBITDA – a swing near $5 billion.

With plenty of cash in the bank Uber has time, and it’s still expanding. But to help assess whether there’s enough juice in its chosen markets, there’s a concept in economics called the consumer surplus. It’s a measure of the gap between what people are willing to pay for goods or services and what they actually pay.

A group of economists under the auspices of the National Bureau of Economic Research, among them “Freakonomics” co-author Steven Levitt, analyzed a trove of Big Data from Uber. Because of the way the company deploys what it calls surge pricing – higher fares at times of high demand – they were able to investigate passengers’ sensitivity to prices.

This allowed the economists to estimate the consumer surplus enjoyed by users of Uber’s most-used UberX service across its four biggest U.S. markets – Chicago, Los Angeles, New York and San Francisco. They concluded the surplus was $2.9 billion in 2015. Those cities made up 43 percent of the company’s U.S. gross bookings, so nationally the figure could be nearly $7 billion. The surplus is equivalent to 1.6 times what users actually paid, excluding surge pricing.

Such a result implies there might be room for Uber to raise prices once it has saturated any given market, without taking away all the economic benefit customers currently enjoy. But it’s not so simple given competition from both the likes of Lyft and taxi fleets.

Take New York City. Add another assumption to the mix and divide Levitt et al’s figure up according to city population, and the consumer surplus from UberX in the metropolis was about $1.5 billion last year.

As for the Big Apple’s iconic yellow taxis, another economist, Nicholas Buchholz at the University of Texas at Austin, used data that’s now a few years old to conclude that the New York taxi industry generated a consumer surplus of some $260 million a year, with taxi industry profit amounting to an annual $1.6 billion.

Looked at another way, there are 13,587 licensing medallions riveted to the hoods of yellow New York taxis. Near the peak, coinciding roughly with Buchholz’s data, these were worth around $1.2 million each, according to statistics from New York’s Taxi & Limousine Commission. Assume a capitalization multiple of 10 times, and that kind of price tag represents a proxy for profit over and above daily taxi running costs worth – reassuringly – around $1.6 billion a year.

With Uber use exploding since then, it’s not surprising the near-monopoly riches available to taxi owners and operators have plunged. The value of a medallion has crashed to $500,000 or less. The same assumptions suggest the taxi industry now collects maybe $700 million a year over and above daily costs.

The lost benefit hasn’t all suddenly gone to taxi passengers. More likely, with the typical New York cab snagging roughly 10 percent fewer rides in 2015 than a year earlier, it has gone to Uber or – more accurately, to Uber’s customers. The Silicon Valley interloper has also enlarged the market, adding far more rides than taxis have lost.

Uber may choose to undercut taxis slightly, but it’s about more than price. As Buchholz points out in his paper, traditional taxis forgo huge economic benefit by not being able to link customers waiting on street corners with empty vehicles – both geographically and in terms of matching overall demand and supply at any given time. Uber’s app, its algorithms and the added twist of price flexibility help it capture this value.

For now, Uber’s Kalanick seems content for the gains to flow mainly to customers. Whether he has an Amazon-like knob to turn, though, is an open question. Taxis in New York and elsewhere are figuring out their own apps and algorithms to address the matching issue. And if Uber does put prices up, it will open the door for competitors. Above all, consumers like their surplus, and become accustomed to it. Unless the company ends up with its own quasi-monopoly, grabbing a big chunk of that back for investors may prove a very bumpy road.


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