Uber finally delivers

Here is a written version of the audio recording for the Unhedged podcast episode titled 'Uber ultimately fulfills its promises.'

Exciting update from the realm of ride-sharing: Uber, a service I believe you've used before, has achieved a positive financial outcome.

No tricky accounting, no dishonesty, just a true and authentic profit from operations. In the second quarter, they made $326 million, which is an increase of $1 billion compared to the previous year. This is the first time they have achieved this, which is a significant change for a company that has been losing money since it started. Today on the show, we will discuss why it took them so long. This is Unhedged, the show about markets and finance from the Financial Times and Pushkin. I am reporter Ethan Wu, and I am joined in the New York studio by uber elitist Rob Armstrong, who refuses to use Lyft on principle.

I am exclusively associated with a single platform for ride-sharing services.

Ethan Wu (Chuckling) You were instrumental in securing that impressive $326 million profit for them.

I am contributing my fair share.

Ethan WuWow, that's really impressive. Uber is one of those incredible success stories that comes out of Silicon Valley. It started in San Francisco and quickly expanded throughout the country, completely changing the way we travel and causing disruption in the taxi industry. However, it's always been strange that they have never been profitable. But if you think about it, it's not hard to see how they could make money. The initial idea behind Uber was to act as a middleman, connecting independent drivers with customers who need a ride. They would take a small fee for the service and everyone would benefit. With the power of networking and scalability, it seems like a great business model. So why haven't they been successful in making money?

Robert Armstrong Absolutely. That simply did not occur. I'm referring to the whole buzz surrounding Uber's prosperous quarter, and undoubtedly, it's more advantageous to make a profit than to not make any profit.

Absolutely. That statement holds validity.

Robert ArmstrongUber has reached a significant milestone. The truth of the matter is that, according to their financial statement, this is what they possess. They possess a sum of accumulated losses, approximately accounting for all the unfortunate financial outcomes they have encountered throughout their existence, totaling $33 billion.

So far, a total of $33 billion has been invested in this business, but a significant portion of that money has been wasted. The total amount of money put in as capital is $42 billion. It's astonishing how much money has been burned through, only to make a profit of $300 million in one quarter. This seems to be the pattern for this business. The question is, why did this happen? If this business was as successful as a technology company that effortlessly generates income from various sources, it begs the question, why hasn't it become a major player in the transportation industry like Microsoft?

Why isn't transportation like Mastercard, where two individuals engage in a transaction, receive a portion of it, and simply walk away with effortless earnings? No upfront expenses involved whatsoever.

Ethan Wu Indeed. And I believe that anyone who has experienced Uber would understand why it isn't as effortless as it may seem. I mean, there are numerous factors to consider. Firstly, you're maneuvering a bulky metallic object through the streets, reaching speeds of 60 miles per hour.

Ethan WuAnd accidents will occur, individuals will sustain injuries.

Robert Armstrong: Absolutely. Additionally, the tires will need to be substituted, and the oil will require a change, among other things. Consequently, you can express it in this manner. In the most exceptional technology enterprises, in the most exceptional network enterprises, the additional expense of delivering the service is nonexistent. For instance, after Microsoft has developed the software, and after Mastercard has constructed the payment network, there is no cost associated with selling an additional unit of the software or conducting another transaction through that network.

Robert ArmstrongAnd Uber, throughout its past and throughout its upcoming journey, will continue to experience significant incremental expenses due to the necessity of transporting a human being, composed of flesh and bone, within a massive metallic vehicle.

Robert ArmstrongAnd that is quite expensive every single time you engage in it.

That is one contrasting factor between those enterprises and Uber.

Ethan WuAbsolutely. And you've articulated this point quite well. I just wanted to emphasize that insurance serves as a major financial burden for Uber.

Yes, one might assume that is solely the responsibility of the driver, isn't it?

Robert ArmstrongYou know, it’s just like any other motorist. You have your own insurance coverage. However, you must presume that the drivers are not unintelligent.

Robert Armstrong doesn't simply agree to be a chauffeur with a meager wage and take on the responsibility of paying for any accidents that may occur. Ethan finds this amusing. It's similar to saying, "I'll work at McDonald's, and if the deep fryer goes up in flames, I'll shoulder the cost of calling the fire department."

Robert Armstrong I really appreciate that great offer. (Ethan chuckles) Therefore, it is crucial for the drivers to receive payment for the decrease in value of their vehicles and the chance of an unfortunate incident.

Absolutely. In addition to earning a salary that you are aware is superior or on par with another profession.

Ethan WuIndeed, that's an extremely challenging standard to meet. Moreover, like you mentioned, it's definitely not without expenses. Uber has to invest a substantial amount in order to expand its operations.

Robert ArmstrongHowever, it is important to note that this is not the underlying economic question.

Robert ArmstrongThe primary economic inquiry does not revolve around the monetary value.

Robert ArmstrongThe basic inquiry revolves around the amount of compensation they can receive for assuming those expenses.

Yeah, so this is the expenditure and we're currently discussing the incoming funds. Right.

So, what is the nature of competition? This implies that they are unable to significantly increase their prices in order to earn substantial profits.

Robert Armstrong, isn't it true? Why is it that other technology companies have been able to earn a significant profit above their minimal expenses, while Uber has failed to do so?

Ethan Wu: Oh, Microsoft, let's take you as an example. You don't need to compete with physical mobility, like walking or using the subway. (Rob chuckles)

Robert Armstrong (Chuckling) Absolutely! That's the point.

Alternatively, consider requesting a favor from your acquaintance to give you a lift.

Yeah, I believe that's a crucial aspect, which is that Uber's pricing must offer the most favorable balance between cost and comfort for the specific trip I wish to make. And in most cases, I have alternative choices available. I can opt for a city bike, utilize the subway, retrieve my personal car from the garage, if I own one, or even opt for a local taxi company. And these alternatives remain accessible.

Even though Uber has a significant presence in the ride-sharing industry, its influence on the overall transportation sector is quite limited.

Ethan Wu Indeed. We're discussing a service that is heavily commoditized. There is fierce competition in the industry of transporting individuals from one location to another, and the expenses involved in this business are significant. A tech analyst and reporter named Timothy Lee wrote an insightful article a couple of years ago, highlighting how Uber faces a fundamental dilemma between prioritizing growth or profitability. This is not the case for all tech companies; many can achieve both growth and profit simultaneously. Google and Microsoft are excellent examples of companies that have successfully scaled up while remaining profitable. However, Uber finds itself in a different situation due to the nature of its revenue and cost dynamics.

Ethan WuAnd in recent times, it appears that Uber has been striving to move towards profitability under the leadership of their new CEO, Dara Khosrowshahi, and they have now achieved it. However, it is worth noting that there are certain conditions and limitations associated with the number they are currently reporting for this quarter.

I would like to bring up something before we continue towards the future.

Another important aspect of competition that a reader of Unhedged brought up is the comparison between Uber and Airbnb. While Uber is a service I use regularly to get around my city or local area, and occasionally when I'm on vacation, I am familiar with the various transportation options available to me and can choose among them. On the other hand, whenever I use Airbnb, it is usually in a market or location that I am not familiar with.

When selecting accommodation, there are only a few choices available like FRBO, Airbnb, or a hotel.

Robert Armstrong Therefore, the market has a natural limit because it operates on a worldwide scale, and I am participating in it remotely. On the other hand, when I am nearby, I have a wide range of transportation alternatives to choose from. It's amusing that I finally had the chance to say it, the plethora of transportation options. Plethora.

Ethan Wu: Smorgasbord. (Rob chuckles) That's the name of this episode. A variety of transportation choices.

Robert ArmstrongAll-you-can-eat buffet. Nevertheless, at this very moment, in order to steer us towards the progress aspect. Uber is expanding.

Robert ArmstrongCurrently, it is generating profits and has had a successful quarter. Additionally, the revenue has increased by 17% during this period.

I believe it's significant that Uber has been focusing heavily on expanding their other business areas in recent quarters. They are scaling up their freight business, developing their food delivery service, and even venturing into advertising. These days, when you use Uber, you may come across ads for companies like JPMorgan Wealth Management or Amazon. It appears that Uber is acknowledging that their ride business has reached a mature stage with limited growth potential and is not generating substantial profits. Therefore, they are now focusing on reducing costs and making the most of their existing resources while seeking growth opportunities in other areas of their business.

And I also believe that we should consider the current profit with a small pinch of skepticism.

Robert ArmstrongAnd to consider the overall nature of the enterprise and its past. So let's ponder upon that classic instance of a lemonade stand. Therefore, during this summer, my son approaches me and expresses his desire to sell lemonade on the street and earn some money. I concur with enthusiasm. Consequently, I visit the grocery store to purchase a sack of lemons, a sack of sugar, as well as a couple of sacks of ice. I graciously provide him with my picture and my table to set up on the lawn in front of our house, for which I am the one who incurs the cost. Subsequently, he uproariously chants, "lemonade, lemonade," and some unsuspecting individuals happen to come by and purchase three cups of his lemonade for a dollar each. He then triumphantly displays the earned $3 to me and exclaims, "Look, Dad, I have earned $3." Following this, he cheerfully trots off to the store to acquire whatever children tend to purchase there.

Investing in a small piece of Uber.

Robert Armstrong, in his blog post, discusses the concept of fractional shares in reference to Uber. He mentions that while someone may claim to have made $3 from a fractional share, it is important to note that this is not the actual profit. The $3 amount should be adjusted for expenses such as the cost of lemons, sugar, rent, and the hardships endured as a journalist. Armstrong likens this situation to Uber, stating that they have made a significant operating profit of $325 million in just one quarter.

Robert ArmstrongOn a staggering amount exceeding $40 billion of capital pouring into the industry.

Robert ArmstrongThe most effective strategy to earn $300 million in the ride-sharing industry involves commencing with a mammoth investment amounting to $42 billion. (Ethan chuckles)

Ethan WuDefinitely. Additionally, I believe it's worth pondering over another aspect - who profited financially?

Remember when Uber went public? Well, those high-level folks definitely benefitted from it. I mean, the early investors who jumped on the bandwagon in 2009 and the following years probably made some good cash when they sold their shares on the stock exchange in 2019. However, if you were one of the people who bought in at the initial public offering (IPO) price of $45 per share, you'd only see a modest increase as the current stock price stands at $47.

Ethan Wu's investment hasn't yielded a fruitful return in the past five years, which is quite disappointing (chuckles).

Remember, there is a distinction between the internal workings of a business and its stock value.

According to the stock price, it seems like the company's value is $95 billion. I believe that is the correct figure. So, there has been a $45 billion investment, and the stock market predicts that the future income generated will be worth $95 billion.

Robert ArmstrongIn summary, the market is indicating that the investment was profitable, or at least yielded positive returns.

Of course, that's just a guess; the stock market often makes errors. However, this shows that investors are confident in the success of Uber's business.

Ethan Wu explained that the management team appears to be confident. During the recent earnings call, the CEO stated that the company would continue to generate operating profits for several quarters. They also mentioned that investors have underestimated Uber and its unit economics. While it has always been expected that Uber would be profitable, it is essential to establish a solid foundation for market expectations. Achieving a market cap of $95 billion will require multiple profitable quarters and sustained high profits. It is worth noting that Uber has not faced a significant economic downturn since its establishment. It is possible that investors are correct in their assessment that the unit economics of the business are not as impressive as initially thought, resulting in a break-even or slightly profitable situation.

Robert ArmstrongThe true gauge of a company's success is not solely based on its ability to generate profit as reflected in the final figures of its financial statement. Rather, the key indicator lies in its capacity to yield a favorable return on the capital invested.

All the funds that are invested in the company, are you getting a more profitable outcome from those funds compared to if you simply invested in government bonds or placed your funds in a savings account or similar option. Uber has shown that it can halt the financial losses. However, it has not demonstrated that it is a business that yields significant returns on investment or capital.

Sure. We'll return shortly with Long/Short.

Welcome back! This is the segment called Long/Short, where we express our admiration for something and our disdain for something else. Rob, a few weeks ago, I shared my thoughts on seeing Barbenheimer and how it made me lose hope for humanity. However, I must say, the never-ending cycle of reactions to movies in general is getting tiresome. Can't we find something fresh to discuss? It feels like there are countless articles reacting to the movie, then articles reacting to those reactions, followed by even more articles reacting to the reactions of the reactions. I've had my fill of it. Let's move on to a different topic.

The Oppenheimer/Barbie discussion time has concluded. (Ethan chuckles) Kindly shut your laptops, opinion writers, and proceed ahead. I share your sentiment, Ethan.

I currently hold a position in the 10-year US Treasury, and I want to emphasize this for a particular reason...

Ethan WuIt's a distressing profession.

Robert Armstrong. . . Fitch recently reduced the credit rating of the United States' government this week. It was widely acknowledged as an absurd action. I share the same opinion and currently observing the 10-year yield, which stands at 4.17 percent. I wish to express my readiness to provide financial assistance to the US government at this rate. (Ethan chuckles) I believe it is a logical and loyal act.

Ethan WuDefinitely, absolutely, absolutely. They ought to simply offer you a specific kind of investment bonds to raise funds for the shortfall. Rob Armstrong. (Rob chuckles)

The Bond by Robert Armstrong.

Ethan Wu (Laughs) That's correct. Okay, listeners, we will be back in your podcast playlist on Tuesday with another episode of Unhedged. See you then. Unhedged is created by Jake Harper and revised by Bryant Urstatt. Our executive producer is Jacob Goldstein. We received additional assistance from Topher Forhecz. Cheryl Brumley is in charge of audio at FT. Special thanks to Laura Clarke, Alastair Mackie, and Jess Truglia. FT Premium subscribers can access the Unhedged newsletter for no cost. A 90-day trial is available for everyone else. Simply visit FT.com/unhedgedoffer. I'm Ethan Wu. Thank you for tuning in.