Description

Lyft common stock, at around $54, has a decent chance of beating the market over the next several years.

Lyft is a ridesharing business focused in the US and Canada markets. The company has generated $2.5 billion of revenues over the past twelve months. In Q1, revenues grew 95% YoY to $776 million.

I’ll go over what I find compelling about the business, and then go over the risks. Then, I’ll point you to some resources for further research if you’d like to look at this.

The opportunity

Census data estimates Americans spend $500 bn to $1 trillion per year on automobiles, depending on whether you include the cost of the cars or not (if you don’t, it’s $500 bn for fuel and maintenance and parts).

This is the market Lyft is attacking. Together with Uber, Lyft claims the ridesharing category is still under 1% of vehicle miles traveled in the US. By this measure, we’re very early in the adoption curve.

The vision: these companies will be able to penetrate this market and get more of those miles traveled, and shift folks from pure car ownership to car ownership plus TaaS or pure TaaS (transportation as a service).

It’s also possible that they open up new use cases and generate miles that weren’t traveled before. People who can’t drive or who are disabled, elderly or ill, would be an example. For this investment to make sense, you have to believe this can happen.

Lyft is at $2.5 bn in revenues in Q1, up from $1.3 bn in Q1 ’18. I believe they can reach $5 bn in 12m revenues by the end of 2021 (~30% CAGR). At that point, Uber and Lyft would likely still be under 2.2% of VMT.*

Lyft believes that it can achieve a gross margin (“contribution margin”) of 70%, with 20% operating margins. Let’s take them at their word for a moment. Assuming that’s true, $5 bn in revenues becomes $1 bn of operating income, and 800m of net income (assuming a 20% tax rate). At 23x earnings that’s $18 billion. If we give credit to 3.5 billion of net cash the company currently has (and let’s assume the cash burn this year is offset by cash build until then), we get a market cap of  ~$22 billion or $77 per share. That’s ~15% compounded from the current price (again, through Q4 2021).

The implied EV/S at that point would be 3.7x which is lower than the 4-5x sales that consumer internet companies have with similar growth rates (~20%). So I don’t think these are heroic assumptions, again with the caveat that we must believe the business model works in the first place.

There are scenarios in which the IRR is more compelling. The company could grow faster. They could decide to go into international markets (so far, they’re firmly focused in the US and Canada). The stock could end up trading at a higher multiple. Operating margins could be higher. With the same inputs and a 23% operating margin, the IRR jumps to over 20% by Q4 2021.

The risks, or what needs to be worked out

My biggest fear with Lyft is that it hits an “invisible asymptote” and stops growing before fulfilling its promise. As an example, Uber is guiding for ridesharing revenue growth of 9% in Q1 in its S-1. Why would a nascent category be experiencing such a dramatic revenue slowdown if the TAM is so massive and the opportunity so compelling? It’s unclear. Perhaps there needs to be business model innovation. Perhaps these companies need to figure out ways to increase the addressable market, like supplying cars with car seats for parents or minivans for commutes.

Autonomy is also a risk and an opportunity. There are different schools of thought here. On one extreme is Elon Musk, who believes autonomy will be a step function and level 5 autonomy will suddenly “arrive” and take over. Most other practitioners believe autonomy will arrive much more gradually, beginning with geofenced locations (like Waymo’s Phoenix trial), in places with good weather, in select use cases (Las Vegas strip or retirement homes), etc. In this scenario, which is espoused by both Uber and Lyft, the market grows and while autonomy takes over at the edges, there will be more drivers needed 10 years from now than today.

It’s unclear what the economics of ridesharing will be with autonomous electric vehicles, because the rides would be much cheaper (in principle), yet there would be no sharing of economics with a driver.

I believe that the value in ridesharing will accrue to the owners of the networks (Uber and Lyft), not to the manufacturers of LiDAR units. Lyft has said it’s agnostic when it comes to technology partners in autonomy. They’re investing in autonomy themselves through their Level 5 division and also partnering with folks like Aptiv and Waymo. However autonomy arrives, they’ll plug it into their network.

Other things I like about Lyft

Lyft is developing an interesting enterprise segment, partnering with companies like Delta and their loyalty program, and Disney, to become the exclusive ridesharing partner at their parks. They’re also partnering with healthcare transportation brokers and integrating with their dispatch to help the elderly make it to their doctor appointments (previously, this was done via inferior taxi dispatch). These programs have the opportunity to improve the quality of revenues, and eventually earnings.

Lyft also seems focused on improving driver loyalty by creating driver centers where drivers can get discounts on fuel and car maintenance, their biggest operational expense. The company has also addressed the pain point of high banking fees by creating a no-fee checking account and instant payment of ridesharing revenues to drivers. Finally, they created a way for drivers to lease cars by the week, giving them greater flexibility than standard 3-year leases. I believe these initiatives have the potential of engendering driver loyalty for Lyft.

Long-term, the founders have said they’d like people to have a ridesharing subscription, like Netflix or Spotify.

I like the fact that Lyft is still founder-led and has a focused mission. This might seem silly but it helps attract talent and gives people something exciting to work for. It also makes it more likely the founders will persevere (and they’ve had a lot of persevering to do, with cities threating to shut them down, etc).

Given how messy and unwieldy Uber’s financials seem to be, and how they’re buffeted by issues in different businesses and geographies, it feels easier to bet on Lyft, which is much smaller and focused.

Lastly, although Lyft has dual classes of shares, the company has obvious strategic value to an acquirer.

Other risks

There are tons of shares that could dilute the 285m share count. My estimate is this could balloon to 417m based on S-1 disclosures. IR has confirmed the 285m share count is appropriate for Q2. The IRR gets cut in half at 417m shares.

It’s unclear what their “Plan B” is if drivers are declared employees instead of contractors. I doubt this would happen, but it could. It’s also unclear if the economics to the drivers are attractive or not. They had 1.1 million drivers as of Dec 2018 and they all drive for different reasons (to earn something extra, to pay for a daughter’s wedding, to meet new people, etc). I doubt 1.1 million people would be opting into Lyft driving if the economics are terrible in a sub-5% unemployment economy.

Excessive traffic might be the bottleneck that prevents these ridesharing companies from growing further The founders have promoted the idea of congestion pricing, which seems to be the only way to control excessive congestion long-term—there’s research showing that no matter how many lanes you add to a highway, you always get more traffic.

Can this company ever be profitable? I think it can. The CFO seems giddy talking about improving insurance costs (its biggest cost of revenues). If they get to 70% gross margins, in principle, this is just a software company that does match-making. Although they do have some physical investments (in driver centers, car leases, bikes and scooters), it's hard to see them not clearing the 20% operating margin hurdle at a larger scale.

Quick comparison with Uber

Lyft has a market cap of $15.39 bn with 285m basic shares out (as of Q2). It has $3.5 bn in cash and no debt, so EV is $11.9 bn. This means it’s trading at 4.7x EV/S.

Uber, assuming it goes public at $47, will have a market cap of $78.8 bn, with $10.7 bn of net cash and $11.5 bn of minority stakes, for an EV of $56.6 bn. Including its guidance for Q1 ’19 revenues, TTM revenues are $11.76 bn so it’s going public at roughly the same multiple, 4.8x EV/S.

Uber, however, expects its ridesharing revenues (the bulk of its revenues) to grow only 9% this quarter, compared with Lyft’s 95%.

* I am assuming that vehicle miles traveled (VMT) grow 0.30% per year going forward, which is about half the rate of recent growth. Based on gross bookings, which is an imprecise number because of how it’s accounted for, I estimate Lyft is 14% of the market, and Uber 86% (globally). I’ve also guesstimated that these companies pick up about $1.68 of gross bookings per mile.

Assuming Lyft’s take rate remains about 27%, when the company hits $5 billion in revenues ($18.7 billion in bookings), which I estimate will happen by Q4 of 2021, Uber and Lyft combined should still be less than 2.2% of VMT. (Please note this take rate math is theoretical at this point: Lyft won’t be reporting bookings anymore because they believe this isn’t a relevant metric, and I think that makes sense. The CFO stressed the take rate was up in Q1 but they prefer investors focus on revenues.)

I’m going through this to show how $5 billion in revenues seems possible in this very nascent market, at a level of penetration of VMT that appears to be barely scratching the surface.

And $19 billion of bookings or $48 billion if you include Uber in the US is also barely 5%-10% of what Americans spend on cars every year.

During the roadshow, Lyft’s CFO commented that he was spending time with a lot of sell side analysts. JPM’s initiation report estimates that Lyft can hit $5 bn of revenues by Q4 2021 and I believe that’s reasonable give my glide path of declining revenue growth rate (by then, I have top line growing 20% YoY, declining to 10% growth by 2024).

Resources for further research:

Lyft’s IPO prospectus:

https://www.sec.gov/Archives/edgar/data/1759509/000119312519091446/d721841d424b4.htm

Q1 results and slides:

https://investor.lyft.com/events/event-details/lyft-first-quarter-2019-financial-results

Q1 call transcript. Note how the CFO thinks there is a lot of opportunity to bend the cost curve on insurance, which is Lyft’s biggest cost of revenues.

https://www.dropbox.com/s/7p8iyrljwk26r5w/call%20transcript.pdf?dl=0

Young folks might be driving less (bullish for ridesharing). It’s unclear to me if this is a real trend or temporary:

https://www.wsj.com/articles/driving-the-kids-are-so-over-it-11555732810

How I Built This episode with John Zimmer:

https://www.stitcher.com/podcast/national-public-radio/how-i-built-this/e/lyft-john-zimmer-49110765

Catalyst

It grows faster for longer and turns profitable. I'll note the CFO has reiterated that 2019 is "peak" investment year and we should see operating cost leverage in 2020 and onwards.