Understanding The Time Value Of Transportation
A rider in the San Francisco Bay Area once told me: “My monthly budget for commuting is $400. If it’s more than that, I would consider the service a luxury and wouldn’t use it every day.” He is an engineering director at a large tech company in the Bay Area, and commutes about 25 miles each way every day. His monthly budget for transportation services is standard for the area.
Everyone hopes and wishes for affordable rides. Why is this goal so difficult to achieve? Have Uber or transportation network companies (TNCs) really achieved this or do they just give the appearance of doing so?
Many of us think it costs less to drive our own car, so we drive our self. It’s true that the costs for commercial insurance and other costs associated with running a transportation business are not negligible. Plus, one must pay for the vehicles. But these costs are relatively stable and can be spread across all rides if you have a booming business. The most expensive cost in the transportation services is the labor which can be 50% of the total cost. So, let’s focus in on the driver cost for transportation.
The true cost of driving your own car is not that much different from of the cost of being chauffeured if we assume the cost of labor, ( i.e., your time and the other person’s time), is the same. If you think your time is worth more, than the cost of driving yourself becomes higher and you’re more inclined to look for a service. And if the cost is the same or less for using service, then why doesn’t everyone use services?
How We Value Our Time
The answer is complex. First, even though we value our time, that value is rather soft. We’re willing to adjust it for the things that we need or want to do. For example, you may ignore the time cost of leisure driving on vacation but hire a car service for an important business meeting where you want to use the 15-minute travel time to prepare for the meeting. In the first example, the value of your time was low but in the second it is high.
Older generations habitually budget time for their daily activities and this includes driving. Because that time is already budgeted, its value is ignored. That’s why when they think about the cost of driving, they mostly consider tangible costs such as gasoline, wear and tear, and insurance. But they don’t consider the most substantial cost — the cost of time.
This thinking is changing as Millennials and Gen Z enter the workforce. These generations haven’t formed the habit of driving everywhere and have a vastly different view of the value of their time.
How Service Providers Value Time
For a service provider such as a fleet operator, time is a solid cost, i.e., “time is money”. If they employ a driver to drive eight hours a day, they want those eight hours to generate revenue by ferrying passengers. However, that’s just not possible in practice. In the fleet business it’s extremely difficult to achieve more than 50% utilization.
So, 50% or less of the driver’s time is used to transport passengers. The remainder of the time is spent driving to the pickup location or waiting for the next trip. Whether you’re a fleet owner who pays drivers by a fixed hourly rate or a driver using one of the TNC platforms, you must charge an hourly rate that covers both when you are servicing passengers and when you’re not.
For example, if your average cost per operating hour is $10 and you estimate your idling time is 60% then only 40% of each operating hour is used to ferry passengers. So, you would need to charge riders $25 per hour or $10/(1–60%) to just break even. Because service drivers have idling time, but you don’t, the cost of using a driver is much higher than driving yourself.
The Impact of Idling Time on Cost
Idling time is the true killer of providing cost-effective transportation services more broadly in the U.S. How much a driver is idling is intrinsically related to the service area. In a small and densely populated area, the demand is high and the trip distance is short. As a result, the idling time is brief and this drives down the service hourly rate. In this instance, the service fee can be quite affordable. In addition, the cost of real estate in such a market is likely high and this increases the costs for parking and owning a car. Therefore, urban dwellers are more inclined to use transportation services. In Manhattan, taxi cabs and buses are much more affordable than elsewhere in the U.S. and as a result most people rely on these services to get around. That’s why car ownership is lowest in the country, i.e., 22% compared with the 92% in the country.
In contrast, suburban areas have lower population density and sprawl more than the urban cities. It’s inevitable that the idling time is much longer in this type of market. Hence the cost of service in suburban areas can be higher even for trips of the same distance.
In a separate article, I explained how Uber and other TNCs lower the service cost by not paying for idling time. This essentially transfers a significant part of the service cost to the driver. Obviously, this is not a viable long-term solution. Regulators have begun to scrutinize these companies’ business models and labor practices.
It’s worth noting that Uber’s business model not only shifts a substantial portion of the cost of service to the drivers, but it also creates diverging financial interests between Uber and its drivers.
The table above shows a simple simulation of Uber’s business model. Assume that:
- the true cost of an Uber driver is $10 per hour,
- drivers are idling 50% of the time on average,
- service demand decreases while the fee increases.
Using these numbers, we can calculate the revenue and profit for Uber and its drivers, which are listed in the table. The numbers tell a sobering story — Uber will make the maximum profit when it prices the service at the true cost, at which drivers are at a substantial loss as they’re paid less than their true cost. Drivers will only make a profit when the service price reaches a level that exceeds their true cost. But at this price, Uber’s revenue and profit are reduced due to decreased demand. This is a major flaw in the TNC model. When the financial interests of the company and the drivers are not aligned, the business is not sustainable.
Is Reducing Idling Time and Cost Impossible?
Can we reduce idling time? Yes, but scale is important in doing so.
Some Uber drivers are already building this scale on their own by driving for multiple platforms. If one platform doesn’t have a rider for you, another one will. These drivers are being smart and entrepreneurial in the way they protect their financial interest. However, tech startups are supposed to be powerhouses of innovation. It’s time for us to step up and build better products and technologies based on a more sustainable business model that creates true economic values for drivers and riders.
Our company, Duet, is leading the way by developing a technology and business model that does just that. In a separate article, we’ll explore the different ways to reduce idling time even in suburban markets.