$UBER - Transition to a complete Software Applications Company

Everyone is well aware that Uber ($UBER:NASDAQ) disrupted the transportation industry starting in 2009. Then called Ubercab, it was infamous for its management practices and regulatory troubles. However, since the arrival of its new CEO Dara Khosrowshahi, the company has become far more agreeable to investors and regulators. It turned profitable in 2023 and for 2024, had a net income of $2.8Bn on the revenues of $43.9Bn and stock has also risen ~4.5x since the lows of June 2022. Today, it has 180Mn monthly active users and a 40% share of global market - Nearest competitor is Didi with a 24% share.

I started looking at Uber because of its high ROIC (consistently making money at more than its cost of capital). The PE also looks low due to earnings inflated by one time items. As I looked into it more and more, I found that it is an absolutely compelling business to invest in. As it stands today, it consistently ticks all the right boxes - 

• Consistently growing gross bookings and take rates - this is the actual revenue ($43.9Bn last year) Uber makes on each trip - now at ~30% per trip

• Increasing revenue per trip in the face of stabilizing average order value due to lift provided by platform optimization and additional revenue generating products such as in-app ads, Uber One subscriptions and platform licensing revenues

• Fantastic operating leverage - massive upfront investments in software platform development are now paying off. Uber's current R&D expenses are much lower than its peers in the software applications industry.

• Minimal incremental fixed capital investments and negative working capital investments. Very low CapEx compared to a standard logistics and transportation business. Customers pay Uber first before Uber pays anyone else.

• Cost savings due to economies of scale - reduced fixed technology costs per trip, optimized SG&A, resource cost reduction by sharing with adjacent areas such as food delivery and freight, increasing network effects driving increased efficiencies
• Cost efficiencies unrelated to scale - Algorithm and AI driven efficiencies (route optimization, predictive dispatch, uber pool), platform and engineering optimization (big data, cloud, caching) and financial and operational discipline (hiring, spending, surge pricing, partnerships)

The headwinds that Uber faces are constant - regulation, perception through an increasingly socialist point of view and insurance costs - they can derail the company's growth plans. However, the silver lining is that they will affect the entire industry and not just Uber itself.

And Uber does face stiff competition everywhere - in fact it withdrew from China and South East Asia surrendering to the market leaders there - Didi and Grab, and sold its operations in return for a stake. Its current main competitors are Lyft in the US, Rapido and Ola in India ( Ola seems to have lost focus and Khosrowshahi mentions that Rapido is its main competitor) and Bolt in the EU/Africa. However, none of these companies are profitable (except for Didi and Grab) and lack Uber's scale. Especially for companies in low cost markets of India and Africa, it will get more challenging as investors start getting impatient. Uber on the other hand competes in high margin markets - that gives it more flexibility and a longer runway.

Uber, by continuing along the same trajectory that its currently following, will become a significantly large business and mega cap in the next 5 to 15 years. As always execution is key. Here are a few base rates for Uber:

Uber today is being rated as a below average applications software company by the market. Current Uber operating margin is 6.4%. If Uber wants to be rated as one of the best software applications businesses, it must increase its operating margins 3 to 5 times the current number. 

The current physical component of the business will always act as a drag, but even with that I see operating margins growing to between 16 - 20% by the end of this decade. However, the thing that intrigued me is this - what if the management converts Uber to a majorly software applications company? Let's look at what they are planning to do or doing already:

• Moving to a model where a majority of their customer base shifts from the consumer to the enterprise. Uber has increasingly started working with fleet management companies rather than individual drivers. This in general will result in better operational efficiencies, better cars and faster service. 
• It rolled out a subscription model in India for autorickshaws and motorbikes where it lets the drivers keep 100% share of the fares but charges them a subscription to use its tools and software. While this was done in response to Rapido, it shows that the company can react quickly. It also shows that there is no real defensive moat on the consumer side of the market.
• Working with autonomous fleets such as Waymo, Baidu, etc. that take the drivers out of the picture, reduce fares and improve revenue per trip.
• Building their own Robotaxi fleet with Lucid (EV manufacturer) and Nuro (autonomous driver software). Uber will invest hundreds of millions of dollars in this venture in addition to PE and other funds once the revenue model is proven - it could be fixed payments, profit sharing, or direct ownership.

These can be looked at as steps to a grand strategy that transitions Uber to a software company. The analogy I like here is Microsoft, the kingpin of all software applications companies. Microsoft has roughly a 55%/45% enterprise to consumer split. Could Uber achieve that? Theory says yes, if we consider that Uber app as a transportation OS.

• Fleet management companies could be the enterprise customers that purchase Uber's Enterprise OS version. This could even be individually tailored to suit needs. Current share of Uber's revenue from fleet management is approximated at 15 - 20%. With upcoming EV and autonomous fleet partnerships, this number could rise to 45% in 2035.
• Delivery and freight, which is human today could become entirely robotic and autonomous. This number can rise to 32% of total revenue. This can become a part of the whole Uber or partner owned fleet.
• Drivers act as the distributors and pay Uber a subscription fee on a daily/monthly basis while charging individual riders within specific bounds. This could easily become a majority share in cost competitive markets. The drivers would end up using the Professional OS version. Let's say this becomes 10% share of revenues
• Finally, riders that want Uber to set the prices, especially in decontrolled markets that don't have autonomous rides could opt for the Home version of the OS. Let's call this 15% share of revenues. 

One thing Uber lacks with a pureplay software model is a hardware platform as $META found out to its peril. An auto manufacturer could make changes that drive Uber out of the market. The partnership with Lucid/Nuro provides Uber with hardware that it always controls. This is similar to what Microsoft has done with Surface/X-box, Google with Pixel and Meta with RayBan and Oakley. 

The company during this transitory period could then be re-rated as one of the top software applications businesses by the market. Even if it grows revenue at a 13% per year rate and earns $27.57 in 2035, it could trade at over $1000 per share. 

For this to happen, it needs to execute relentlessly and I remain quite hopeful that it will.