With Whitney Tilson, veteran hedge fund manager and Author & Publisher of the Empire Investment Report
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This week Steve spoke with Whitney Tilson, a 20-year veteran in the hedge fund industry and the author and publisher of financial and investment articles on Empire Financial Research. They talked about the fact that despite the quick rise in popularity of ride-hailing tech companies, Uber is somehow managing to not make money. Steve and Whitney covered the good, the bad, and the ugly—and it’s all about Uber.
Uber In A Nutshell
Uber came onto the scene about ten years ago. It quickly became popular with every demographic. In a number of ways, Uber revolutionized the ride-hailing sector of the market, nearly knocking cab companies off the map in a very short period of time.
But despite its apparent “success”, many market analysts are less than sold on Uber as an investment.
The founder of Uber, Travis Kalanick developed a testosterone-driven “bro culture” which used “super pumped” as its mantra. The Uber staff and drivers were all heading out every day, all pumped up and violating laws and regulations, with some even taking part in reckless behavior. Although he acknowledges the huge entrepreneurial success story that Uber is, Whitney is not a fan of the company’s less than ethical business practices.
The Ugly Side Of Uber—Cheating The System
A documentary released on Amazon Prime revealed that while Uber is incredibly popular and successful, it bullied its way to the top. How? They developed apps that helped them target drivers from other companies, like Lyft, as well as drivers from cab companies, and offered them incentives to become Uber drivers. They also danced around regulators and the regulations regarding ride-hailing rules. In fact, they created a covert app that would show no vehicles available if a regulator were to request a ride.
Spokesmen for Uber, as expected, claim they never knew anything about these practices. Consistent, intentional breaking of laws, bullying their way into the market made for an unfair playing field when it comes to other ride-hailing companies. And the upper echelon of Uber is always conveniently ignorant of such practices and, of course, promises to put such practices, if discovered, promptly to an end.
One of the most devious aspects of Uber is that they claim to be only a technology company, just an app, instead of a ride-hailing company. This means that Uber drivers aren’t actually working as employees for Uber but are independent contractors.
Employees Versus Independent Contractors
Because apps like Uber hit the market and took off unexpectedly, rules and regulations surrounding such companies were basically non-existent. But Uber’s ability to skirt certain responsibilities has come to an end. California, where Uber was launched, recently got legislation passed mandating that all gig economy companies—Uber, Lyft, DoorDash, etc.—must treat the individuals working for them as employees, instead of independent contractors. This means that the companies have to pay these individuals benefits, and they have to pay payroll taxes.
This is bad news for Uber because it increases its costs by something like 30%. For a business losing ever-growing amounts of money, it could end up leading them to bankruptcy.
Uber still maintains that this law doesn’t apply to them (keep in mind it was only passed in California), but the fact is that the law was passed specifically to cover Uber because of its notoriously shady reputation. California’s Supreme Court established the “ABC Test” to help determine if someone is an independent contractor:
- A worker must be free from the hirer’s direction and control
- All work done is outside the hirer’s usual business
- The worker is engaged in a customarily independent trade
There’s enough gray area with each of these points that people tend to disagree on whether Uber’s drivers are, in fact, employees or independent contractors. Some clearly are independent contractors, as they only drive a few hours per week and have other jobs. But others are clearly full-time workers for Uber, with no other job or income. If the law that all drivers must be considered employees takes off nationwide, Uber could be in serious jeopardy of going under.
A Good Idea Gone Bad
We know Uber has used some shady tactics, and changes in regulations are starting to affect its business. But what is really causing Uber’s financial numbers to drop so rapidly? Part of it is because so many new ride-hailing and ride-sharing apps have popped up. (Lyft remains Uber’s biggest competitor.) One of Warren Buffett’s key concepts is to watch for companies with a moat, in other words, a company with a high barrier of entry, one that’s difficult for other companies to come in and execute the same idea. But clearly, Uber’s business has a very low barrier of entry.
On top of this is the competition for drivers. With so many companies offering rides, the need for drivers has increased. And just as Uber used nefarious means to take drivers from other companies, Uber drivers are now also being lured away by its competitors
With the cutthroat battle between these companies, the push to lower costs to customers means you get a better rate, but it also means the companies are bringing in less revenue.
Also, there is the matter of paper losses, things that aren’t a cash expense. In the past 12 months, Uber reported a net income of minus $8.1 billion, with $4 billion of that being non-cash, stock-based compensation.
So, Uber emerged as an idea that quickly bloomed into a service that has transformed society, but, at present, the company is being squeezed dry on all sides.
Is Uber A Worthwhile Investment?
On one hand, Uber’s become a massive business, with $12 billion in revenues. On the other hand, as a stock-market investment, Whitney thinks it’s probably best to avoid it. The company is hemorrhaging money and its stock price is down considerably since its IPO earlier in 2019.
Whitney actually advises against investing in IPOs in general. A better idea is to wait long enough to see how well a company performs over a period of time. Uber is kind of an “Exhibit A”, a cautionary tale of how investing in IPOs can be dangerous. Whitney’s been a super-successful professional money manager for more than two decades, and he says he’s never invested in a stock right after its IPO. In his opinion, the only time you’ve got a real solid shot with IPO investing is when the company is a viable business, but its stock is a bargain after falling 80-90% from its IPO price.
Uber is essentially in a race to the finish line: can the cash it brought in and banked get it through a period of operational problems before the tides turn in its favor? Its main competitor, Lyft, is looking stronger than Uber. Uber’s numbers are increasingly worse, while Lyft’s are slowly improving.
However, Uber may be able to survive just because there are plenty of people and investment companies willing to take a gamble and invest in it. PayPal invested $500 million in Uber (although that was before its IPO).
It’s really a confidence game. How much confidence do investors have in Uber’s ability to weather its current financial instability and eventually land on solid ground? It’s not irrational to invest in companies that have chronically been losing money and will most likely do so for several more years. Amazon didn’t start off with anything close to profitable numbers, but it certainly shows a profit now. These investors are betting on long-term profitability.
Still, such investors are typically looking for a strong business model and a company that is losing less and less each year. Uber simply doesn’t stand up under that criteria.
If you’d like to read more breakdowns of companies and get more investment advice from Whitney Tilson, click on Empire Financial Research!
Disclosure: The opinions expressed are those of the interviewee and not necessarily of the radio show. Interviewee is not a representative of the radio show. Investing involves risk and investors should carefully consider their own investment objectives and never rely on any single chart, graph or marketing piece to make decisions. Content provided is intended for informational purposes only, is not a recommendation to buy or sell any securities, and should not be considered tax, legal, investment advice. Please contact your tax, legal, financial professional with questions about your specific needs and circumstances. The information contained herein was obtained from sources believed to be reliable, however their accuracy and completeness cannot be guaranteed. All data are driven from publicly available information and has not been independently verified by the radio show.
Steve Pomeranz: I was thinking the other day about great companies and how the expectations when you see a company, especially a relatively new company, start out building a wonderful business. Think about Google or Apple. They all started out as small companies. And you see how the very, very, very small percentage of them actually succeed. But the ones that do get universal acceptance, and they start making money for their investors. And I think we know the rest of the story. So I started thinking about Uber, which has been in business for about 10 years and has grown worldwide. It’s a wonderful service and yet they’re still losing money like crazy. I was flummoxed, so I thought I would go to someone I thought knows the answers to these kinds of questions, and I’ve invited him back on my show.
His name is Whitney Tilson. He was a hedge fund manager for two decades, and he now publishes the Empire Investment Report, something that I subscribe to and recommend to you all to read on a daily and a monthly basis, where he talks about top recommendations, but he also talks about issues like this, about this company and that company and why this is working and why this something is not, and you can get them at empirefinancialresearch.com. I highly recommend it. So, he’s on the line with me right now. Whitney Tilson, welcome to the program.
Whitney Tilson: Thank you very much for having me back, Steve.
Steve Pomeranz: So as I said, I was wondering about Uber. And here you’ve got, I mean we’ve all used it. And for me, personally, when I use it, I marvel at its simplicity and what a great technological tool it truly is and how it needed to revolutionize the ride-hailing business because this idea of trying to get a cab like on a catch me if you can basis, it just is so inefficient. What are your feelings about the company Uber?
Whitney Tilson: I have mixed feelings, Steve. Generally leaning toward the negative side, both as a company and as a stock. But I acknowledge that Uber is a wonderful service. I remember the day my first friend told me about it, trying to get a taxi in New York City after an event and no taxis were available. Just like the moment it starts to rain, you can’t get a taxi.
Steve Pomeranz: Yes.
Whitney Tilson: So, Uber, the creation of Uber has been great for humanity in my opinion. And now, my problems with Uber are numerous. And by the way, I highly recommend a new book called Super Pumped, which was one of the catchphrases of Travis Kalanick, the founder of Uber. He created this very testosterone-driven bro culture where one of their mantras was “we’re super pumped” and they would go out and violate every law and engage in all sorts of reckless behavior.
And that’s part of my problem with the company. But in fairness, it did create a very large business that has $12 billion in revenues right now that has provided a great service to humanity. Right? So, that’s partly why I have a mixed feeling.
As a stock, I would highly recommend avoiding it. The company is hemorrhaging money, and I think it’s going to continue losing money. The stock is down quite a bit since it IPOed earlier this year. A good cautionary tale about why I tell all individual investors, just avoid all IPOs. I have never bought an IPO in my life, and I was a professional money manager for almost 20 years. Just avoid them like the plague. Uber is exhibit A, but the company… It would be one thing sometimes you can make money investing in busted IPOs, where the stocks down 80%, 90% from the IPO price, but there’s still a viable business and usually they raised a lot of cash during the IPO, so they’re not going to go out of business anytime soon, and you can get a nice recovery on some busted IPOs.
The problem with Uber though is even though the stock’s down, not a ton, but maybe it’s been cut in half or so. I forget the price at which they IPOed and where it was trading the first day, but the company today has a $54 billion market cap. In other words, it still has one of the largest market caps in the world. So when you want to be bottom fishing among IPOs, you want a company that’s got a small market cap where there’s a lot of room to grow it.
Steve Pomeranz: Well, I do have some of those numbers handy, and it originally came out at an $82 billion valuation, $45 a share. It’s now in the low $30s and that gives it a $50 something billion valuation. But it is a rags-to-riches story. Ten years ago, it was an idea. Technology was created. And 10 years later, they go public for $82 billion. It’s actually magnificent in and of itself, that whole idea.
Whitney Tilson: Yeah, it is pretty remarkable that in less than a decade, an idea can turn into a $54 billion market cap company that operates all over the world and is providing an incredibly valuable service to millions of people every day. So, I don’t want to denigrate the entrepreneurial achievement here, but the way in which Uber went about doing it and the book Super Pumped reveals a lot of this better than anything that’s ever been revealed before.
They were operating when they opened up down in Brazil, 16 of their drivers were literally murdered. And the company, because Brazil is sort of the Wild West, and you’ve got people operating in very dangerous areas, but it took way too long for Uber to start requiring people to prove their identity when they signed up for the app, for example. T.
There was a bribery scandal in India when regulators were cracking down on the company, the bro culture that was so toxic to women at headquarters and in many of their offices. So, that’s why I say I have very mixed feelings about the company, and I have very clear feelings about the stock.
Steve Pomeranz: We’ll talk about that in a minute. In that Amazon prime documentary about Uber, the documentary spent a lot of time in Australia where Uber is incredibly popular and incredibly successful, but it really described in detail how they bullied their way into the marketplace through apps, being able to target drivers of other companies, of cab driving companies to enlist them to join Uber, to give them cash benefits and other things. But really breaking all of the laws set up to regulate the ride-hailing business. And yet, they were able to do that consistently. And through manipulating the app and targeting who the regulators were, they were able to create a grey app where if a regulator were to try to hail a ride, they would see no cars available for them.
But, of course, the Uber spokesman didn’t know anything about that and any other practices that were egregious of that nature. She would say, “Well, that happened before I joined and we don’t do that anymore. But it was this consistent breaking of the law, which really caught my attention, making it quite an unfair playing field for those who were actually trying to work within the law. And I think this goes from country to country. I don’t know what they’re doing now, of course, but they’ve got a lot of problems and a lot of headwinds because, basically, Uber says that they’re just a technology company, that they’re not a ride-hailing company. And therefore, their drivers are not really working… They’re not employees of Uber.
Whitney Tilson: Yes. You’ve hit upon a number of distinct but related issues. The first being how they tried to put Lyft out of business in the US and some of their other competitors. They engaged in very nefarious, underhanded tactics, not necessarily illegal, that remains to be determined. So, that’s issue one. Issue two is how they thumbed their noses at regulators in cities across the United States and in countries around the world, often engaging in blatantly violating the law when they were instructed to shut down or not to open in a city. They just did so anyway. And then as you pointed out, they used various technology tricks to make sure that the regulators could not enforce the law. And then the third issue—I’m trying to remember, there’s a third issue you mentioned just at the end of your-
Steve Pomeranz: Well, the question of whether they’re independent contractors or truly-
Whitney Tilson: Oh, yes. Thank you. There’s now been a sort of a regulatory blowback. And for example, in their largest single market, the state of California where they initially launched, the legislature just passed a law mandating that not just Uber but all of these gig economy companies, from Lyft to Door Dash, etcetera, that their employees that are actually delivering the service have to be considered employees, not contractors. And that means they have to pay various benefits and payroll taxes, et cetera.
And that, the estimates I’ve seen, would increase Uber’s cost by 30%. And keep in mind, this is a business that is already losing hideous and accelerating amounts of money, to then have by far their biggest costs rise by 30%, I think could bankrupt them very quickly. Now keep in mind, this is only California. Uber is still maintaining, “Oh, this law doesn’t apply to us,” when in fact the law was specifically written to cover Uber because Uber has such a bad reputation and behaved so badly over the years that the legislators, particularly in California—but I suspect in other areas—have no love for Uber and are happy to pass these laws, which I think could bankrupt Uber in fairly short order if this becomes widespread.
Steve Pomeranz: I think a lot of people listening now have owned businesses and understand this idea of what truly makes an employee and what truly makes an independent contractor. As a matter of fact, in California, the Supreme court set a strict new test. They call it the ABC test to determine who qualifies as an independent contractor. And here they are. Here it is. A, a worker has to be free from the hirer’s direction and control. B, the work is outside the hirer’s usual business. And C, the worker is engaged in a customarily independent trade.
So, let’s say I was a bookkeeper, and I had numerous clients and I did a job for an employer. Am I an independent contractor or an employee? Well, am I under the hirer’s direction and control as far as my hours and so on? Am I outside the usual business? Well, if I’m a bookkeeper, that business could be a pizza restaurant. They’re not in the bookkeeping business. So, I would be outside their usual business. And if a worker is engaged in a customarily independent trade, meaning I have numerous clients, numerous employers rather, then I would be considered independent. In the case of Uber, it doesn’t seem like they meet that test.
Whitney Tilson: Yeah, look, there’s enough gray area here that reasonable people could disagree on it. Some Uber drivers are clearly independent contractors. They just do it a few hours a week. They have another full-time job, etcetera. But there are plenty of people now whose primary occupation is doing this. And by the way, most people who do it have both Uber and Lyft and maybe some other app, but those would be the two big ones.
Steve Pomeranz: Also, do those drivers work for Lyft as well? Some of them?
Whitney Tilson: When you say work for Lyft, they contract for Lyft. It’s sort of funny. I often strike up a conversation with whoever I’m driving and I use both Uber and Lyft. And almost always they just have both apps. And if someone’s using the Lyft app and need somebody, they’ll go pick them up. And if they’re using the Uber app, they go pick them up. Doesn’t make really any difference. And this gets to one of your questions in your opening remarks, which is how is this incredibly well-known company that’s collecting $12 billion in revenue, etcetera, etcetera, how come they’re losing so much money? You think they’d be real profitable given that they currently, anyway, don’t have to consider all these drivers as employees and pay them benefits? And they really are, for now anyway, more of a technology company.
They’re just connecting the people like you and me who need a ride with people who are providing the ride and they just take a fee. Right. You think that would be the world’s greatest business. And the answer though, in part, is what we were just talking about, which is, well, if you could just as well use Lyft. In other words, there’s almost perfect competition out there. And that because almost all drivers have both the Uber and they drive for both Uber and Lyft, Uber and Lyft are in this cutthroat competitive battle to reduce the price to you and me, the customers. But also, there’s a lot of competition for drivers. So, they’ve got to pay drivers more and give us a bargain price. Not just competing against Uber and Lyft, but, of course, just competing against regular taxis and other forms of transportation. So, they’re getting squeezed on all sides. So, what initially you might think is a good business, really isn’t. It’s a pretty terrible business.
Steve Pomeranz: Well, one of the key factors when reading like a Warren Buffet is to look for a moat, a high barrier to entry. So when you’re looking at a company that makes ice cream, let’s say, it’s not hard for someone to buy the machines and to produce ice cream or yogurt or whatever it is. Frozen yogurt. That’s a low barrier to entry. And what you’re basically saying is, the taxi companies are not sitting idle, they’re creating their own apps now. You have a Lyft.
So, okay, so it’s a low barrier of entry. So, that’s a mark against them. But what is causing all these losses? I realize when you do an IPO, you give out a lot of stock and stock options and things like that to reward early investors and your employees. So, is much of their losses right now just kind of paper losses because that’s not really a cash expense?
Whitney Tilson: Yeah, it’s a good question. The answer is it’s both. In the past 12 months, the company reported net income on the income statement of minus $8.1 billion, but $4 billion of that was non-cash stock-based compensation. So when you consider whether a company might go bankrupt, you don’t care about the non-cash stuff. What you’re really looking at is how much cash they have left and how much they’re burning at what rate and can they access more cash and/or get that burn down. So, the number I prefer to look at it as is over the past 12 months, they had $2.7 billion of operating cash flow losses. That’s real cash. And then, they had to spend $626 million on capital expenditures. That was real cash. So you’ve got to look at the cash-flow statement, not the income statement. So that’s $3.4 billion.
Now, that in and of itself isn’t… They have $11 billion in cash and about $6 billion… I’m sorry. Yeah. $11 billion in cash and about $6 billion in debt. So call it, they have $5 billion of net cash and in the past 12 months, they burned $3.4 billion, which means they got a little over a year worth of cash left. The question though is, is that burn rate going down? And it is for Lyft. Lyft last quarter reported its first-ever operating cash-flow positive quarter. A mere $15 million and they had cap backs. So, it was still some cash burn if you count cap backs. But turning operating cash flow positive is a big step for an emerging company like this-
Steve Pomeranz: So, let me ask-
Whitney Tilson: Whereas Uber, the losses are accelerating. So, that’s why I think Uber’s in a much worse position than Lyft.
Steve Pomeranz: Yeah. So, a situation in which a company is burning cash, it’s a race to the finish, in a sense, to see whether your cash hoard, the amount you have in the bank is going to, how long it’s going to last versus your spending. But it doesn’t take into account the fact that you have people and institutions that are willing to come in and continue to fund the company by investing $500 million and $1 billion. PayPal invested $500 million before the IPO. I forget the company, but another company invested $1 billion in their autonomous car research project and so on. So, it’s almost like a multilevel marketing scheme. It works until people turn around and they go this is really not a good business. I’m going to stop the flow. I’m going to stop investing. Has that inflection point-
Whitney Tilson: It’s a confidence game.
Steve Pomeranz: Confidence game.
Whitney Tilson: And if investors believe in the long-term model—look at Amazon, for example, in its early years. It burned a lot of capital, but investors saw a brilliant entrepreneur, a rapid growth, a long-term growth runway. And so, they were willing to provide debt and equity capital to fund those losses as Amazon looked to go for market share and growth rather than current profitability. And the investors who provided that capital have been richly rewarded to the tune of 10 to a hundred times their money or more. Right?
Steve Pomeranz: Right.
Whitney Tilson: So, the question, it is not irrational at all for public or private market investors to invest in companies that chronically have been losing money and probably will lose money for the next few years because if there’s going to be an inflection point at some point in the future and the company becomes very profitable. But the things you want to see is you want to see a great business model, a very light business model, think of software as a service kind of companies, right?
But you also want to see a trend line of the company, at least losing less and less money over time, right? And in that case, that is true of Lyft. It’s not true of Uber. And obviously, you want to see a valuation that’s low enough that you can make a lot of money to the upside if you’re right. And again, Uber is still sitting here with a $50 plus billion-dollar valuation-
Steve Pomeranz: And losing money.
Whitney Tilson: … that just doesn’t give you the two, three, five, ten times your money upside scenarios that you look for if you’re going to take the risk of investing in a money-losing business.
Steve Pomeranz: My guest, Whitney Tilson, hedge fund manager for two decades. Also for more of this type of banter and on a regular basis, go to empirefinancialresearch.com and sign up for his daily letter. I get it every single day and really like it very much. That’s Empire Financial Research and while you’re there, while you’re thinking about this anyway, make sure you go and visit our website, which is stevepomeranz.com. Don’t forget, we’d love to get your questions and also you can say, “Hey, Alexa, play the Steve Pomeranz Show.” And we will appear right there on your Alexa device, but come to stevepomeranz.com and sign up for our weekly update as well. That’s stevepomeranz.com.
Whitney, hey, thanks for spending so much time and trying to elucidate this Uber story.
Whitney Tilson: My pleasure. Thanks for having me and I look forward to doing it again.
