Are The People Investing In Lyft Brilliant Or Crazy? Is Lyft Another Google Or Another WebVan?
At current prices, is there any sales level where the income line and the expense line will cross and Lyft will become profitable?
By David Grace (www.DavidGraceAuthor.com)
I’m fascinated by smart people investing billions of dollars in companies that might never operate at a profit.
You would think that it would be relatively easy for financial professionals to figure out when the numbers for a business that’s been in operation for several years add up or don’t.
I’m thinking about WebVan.
VCs invested $396 million in WebVan and the public threw in another $375 million at its IPO.
In its peak year, WebVan garnered $178 million in annual sales and spent $525 million in costs. It would have had to triple its prices without suffering any decline in sales in order to get into the black.
You have to look at those numbers and wonder where the disconnect was between WebVan’s financials and WebVan’s investors.
Sorry, but I think that if Lyft were a movie its title could be: WebVan Redux
More Sales Do Not Necessarily Mean More Profits
This “When we have higher sales some day in the future, then we’ll make a profit” business theory reminds me of the old I Love Lucy episode where Lucy decides to start bottling her wonderful salad dressing. While Ricky is away on a business trip, she fills their apartment with hundreds of bottles of the stuff.
When he comes home, Ricky stares in amazement at the cases of salad dressing and asks Lucy how much she’s charging per bottle. She says something like “Eighty-nine cents.” This is around 1956 after all.
Then he asks her what it costs her to make the stuff.
“A dollar a bottle,” she admits, then quickly adds, “But I make up the difference in volume.”
No, Lucy, you don’t.
When You Actually Need Lots Of Initial Capital
Yes, some companies need a lot of capital before they can be profitable because
- They are inventing new technology, or
- They are building out manufacturing and distribution capacity, or
- They have to stay in business long enough to achieve a sales volume that is high enough to benefit from the economies of scale, long enough so that fixed costs per unit sold are reduced to a minimum level.
If you’re a pharma start-up with an idea for a new family of cancer drugs or you’re building a new car company, sure, you’re going to need a lot of runway before the plane can take off, BUT, at least you have a business model that shows how many units you will eventually need to sell at what price per unit in order to be profitable.
If you have those numbers AND reasonable people can see a way that you may actually be able to reach that level of sales at that price point, then it might make sense for the investors to take a chance on you.
So, Let’s Talk About Lyft
And then there is the ride-sharing business. I have never seen any pro-forma numbers that show at what sales volume and at what price Lyft’s revenues will ever exceed its costs.
The Tech For The Core Ride-Sharing Business Is Already Built
Unlike a pharma or a high-tech equipment start-up, whatever tech Lyft and Uber had to invent to run their core ride-sharing business was built and paid for years ago.
Yes, they are spending lots of money to develop autonomous vehicle technology, but that’s not needed for their ride-sharing business today. We can back that autonomous vehicle R&D spending out of the balance sheet and just focus on the ride-sharing revenue versus the core-business ride-sharing costs to see if the ride-sharing business itself can ever generate a profit at its current price point.
Ride-Sharing Volume Has Already Achieved The Level Of Economies Of Scale
Unlike a fledgling company that has yet to achieve a material sales volume, both Uber and Lyft have long since passed the point where additional sales will materially reduce their per-unit ride-sharing costs through the mechanism of the economies of scale.
Ride-Share Companies Are Not Generating A Positive Cash Flow
Amazon took a long time to show a GAAP profit, but at least some of that delay was because it was generating a positive cash flow which it was using to fund company’s expansion.
Unlike Amazon, neither Lyft nor Uber are unprofitable because they are plowing a positive cash flow back into the business.
In 2018 Lyft’s gross sales were about $8 billion of which it kept about $2.2 billion in net revenues after paying the drivers.
Excluding its payments to its drivers, in 2018 Lyft spent about $3.11 Billion. $2.2 billion in revenue minus $3.11 billion in costs = a loss of about $911 million.
That’s a ratio of profits to revenue of about –$911/$2200 or a negative 41.4%.
Put differently, Lyft would have had to increase its prices by 41.4% while not losing any customers as the result of the price increase in order to break even.
In 2018 its product was priced about 40% lower than it needed to be in order to break even. That’s like selling a $10 bill for $7.15.
Yes, a 41.4% price increase to get to break even isn’t nearly as bad as WebVan’s roughly 300% required price increase in order for it to break even in its peak year, but at that point in its operations WebVan hadn’t yet come close to having enough sales volume to realize the benefits of the economies of scale.
Lyft’s sales, however, have long since reached the level of reaping the benefits of the economies of scale for its core ride-sharing business.
In 2017 Lyft’s net revenues (after paying drivers) were a little over $1 Billion and its losses were about $696 Million. –$696/$1,000 = about a negative 70% ratio of profits to revenues.
In 2018 the ratio of profits to revenues was down to about minus 41.4%
At what level of gross sales, if ever, will the ratio of Lyft’s profits to net revenues rise to break even, 0%?
Can We Calculate When, If Ever, Lyft Will Be Profitable?
It seems to me that after backing out its autonomous-vehicle R&D spending, a skilled accountant should be able to analyze the financial data that Lyft filed in connection with its IPO to calculate Lyft’s core, ride-sharing-business’ fixed and variable costs per million miles of ride services and its revenues per million miles of ride services.
With those numbers he/she should be able to calculate what Lyft’s total revenue and total costs would be across a wide range of millions of miles of ride services.
In other words, those financials should tell that accountant if Lyft can ever be profitable at any volume of sales at its current pricing level, and what that level of sales would be.
So my question is: Is there ever a volume of sales at current prices where Lyft’s income line and its expense line will cross and Lyft will become profitable?
- What is that level of sales in terms of millions of miles of ride services?
- Is it likely or even possible that Lyft can achieve that level of sales?
- Given the market’s size and Lyft’s past history of growth, how many more years will it take Lyft to achieve that level of sales?
- How many billions of dollars of additional capital will Lyft need in order to stay alive for that number of years?
Again, shouldn’t a lot of smart people have already calculated those numbers?
Will Lyft & Uber Have To Raise Prices In Order To Make A Profit?
“OK,” you say, “sure, they’ll have to increase their prices. Once the public is super-dependent on the service they’ll be able to do that.”
Not so fast.
If Uber are Lyft are both still alive, it’s going to be difficult for either one of them to materially increase their prices because if one does, the other one will seize on that as an opportunity to drastically increase their market share.
The only two ways that either Lyft or Uber will be able to materially increase their prices while they are both still alive are:
- They enter into an illegal agreement to fix prices, or
- They independently decide to mimic each other’s price increases in the same way that drug companies have mirrored each other’s price increases for insulin, digoxin and some other generic drugs.
Let’s say they elect to take option two and they both raise their prices by 40%.
How Much Will Lyft’s Sales Fall If It Raises Its Prices By 40%?
If Uber and Lyft both increased their prices by 40% by how much would their sales fall?
20%? 30%? 40%?
Even when sales fall, fixed costs still stay the same, which means that a material reduction in sales will likely drive Lyft back into the red even though it’s charging a higher price.
Hoping both that (1) Lyft will be able to massively raise its prices and (2) also that it will still retain enough customers that to be able to stay profitable, is a slim thread on which to hang your multi-million-dollar Lyft investment.
Will Driverless Cars Save The Day?
“Sure, maybe Lyft can’t turn a profit today,” you say, “but just wait until they can do away with the drivers and are able to operate a fleet of self-driving cars. Then Lyft will be profitable.”
Really? Have you run the numbers on that?
Today about 1.4 million vehicles are supplied by Lyft drivers at no cost to Lyft. Lyft would have to spend about $70 Billion dollars (1,400,000 vehicles X at least $50,000/vehicle) if it were to replace those drivers’ cars with its own fleet of autonomous vehicles.
But, you say, not all of those cars are on the street at the same time. How many vehicles would Lyft need in its fleet to supply the same level of service? 750,000?
OK, 750,000 vehicles X $50,000 each = $37.5 Billion.
If it financed this purchase at 10% interest it would have annual interest costs of $3.75 Billion/year.
In 2018 Lyft racked up about 3.8 billion miles. The average cost/mile to own and operate a vehicle is $.608/mile.
So, 3.8 billion miles X $.608/mile operating costs = $2.3 billion dollars in vehicle operating costs + $3.75 billion interest = $6.05 Billion in costs plus the $3.11 billion Lyft spent in 2018 on things other than payments to drivers = $9.16 Billion in total costs to render this 3.8 billion miles of ride-sharing services in Lyft-owed autonomous vehicles.
OK, Lyft acquired some companies and made R & D investments in autonomous vehicle technology so let’s reduce that $3.11 billion in 2018 costs by, say, about $500 million thus reducing the 2018 operating costs down to about $2.6 billion exclusive of R&D and exclusive of driverless vehicle ownership and operation costs.
$9.16 Billion in costs minus that $500 million in autonomous vehicle R&D expenses gets the total down to about $8.66 billion in 2018 costs.
So, about $8 billion in 2018 revenues if all these 2018 passengers were transported in Lyft-owned driverless cars and about $8.66 billion in costs to run the company in 2018 with a fleet of Lyft driverless cars.
That would mean a loss of about $660 million if Lyft had carried the same number of customers the same number of miles in 2018 in driverless cars that Lyft owned and operated instead in driver-owned and operated cars.
Well, Lyft lost $911 million using human-driven cars. If we subtract out the $500 million for R&D that reduces its 2018 loss to $411 million.
So, a loss of $660 million with driverless cars and $411 million with human-driven cars.
And a couple of final notes:
- I have to wonder if Lyft could actually acquire and retrofit vehicles for completely driverless operation for only $50,000 each
- Lyft would need a large number of additional human employees at a substantial additional cost to deal with breakdowns, accidents, and other problems with driverless cars that human drivers handle for free today.
Explain to me again how switching from driver-owned and operated vehicles to Lyft-owned driverless vehicles will make the company profitable.
Lyft’s Real Driverless Ride-Share Competitor Is GM
BTW, wouldn’t the driverless-car ride-share cost-per-mile and thus the price/mile to the consumer be a lot lower if GM licensed autonomous vehicle technology from someone like Waymo and built and operated its own fleet of autonomous Chevys than if Uber & Lyft bought vehicles from GM and retrofitted them with their own autonomous tech?
If fleets of driverless vehicles are the wave of the future then Ford, GM, Toyota, etc. are the logical lower-cost owners/operators of those fleets because
- (1) they will have a materially lower cost of fleet ownership and operation than Lyft and
- (2) fleet ownership will be attractive to the manufacturers because it will provide them with a captive market whose sales will keep their factories operating at full capacity
The Bottom Line
My final thoughts on this Lyft IPO can be summed up in Ricky Ricardo’s oft repeated refrain:
“Lucy, you got some ‘splaining to do.”
— David Grace (www.DavidGraceAuthor.com)