My inbox is choked with articles assuring me “Why Uber’s $40 billion value is justified.” Six months ago the same articles justified an $18B value, and it’s been barely a year since we were at $3B. So let’s invert the question: What valuation for Uber would be unjustified?
Rags Srinivasan at Iterative Path did a quick valuation based on Uber completely dominating the $22B worldwide taxi market. Assuming that Uber is able to capture half of all the dollars spent worldwide, and at a higher profit margin than Google, Inc. (GOOG) , the business is worth about $17B according to the current market P/E ratio. All they have to do is start getting one out of every two taxi rides worldwide. And then double that. And then do a little more on top of that.
As an alternative, let’s use the dividend discount model, which states that a business is worth the present value of its stream of future dividends. Warren Buffett has been known to value companies in this way. Since Uber pays no dividends, its total payout to investors will be limited to what the business fetches in a sale or in a liquidation of its assets. Let’s assume the business has a life of 40 years and that the discount rate equals the 12.55% average return in the S&P 500 from 1974-2013. Crunching the numbers reveals that Uber simply needs to figure out how to distribute $4.5 trillion in 2054 to justify a $40B valuation today.
What about Uber’s replacement value? What would you need to build your own Uber? You wouldn’t need an investment in automobiles (Uber doesn’t own their rolling stock). You won’t need lots of employees, as the drivers are independent contractors (although you will need lots of lawyers to fight taxi regulators city-by-city across 36 countries – oh wait you won’t, because Uber already did that for you). You will need an iPhone app for your drivers and your customers. You will have to do that. Is an app a barrier to entry? Aaron Paul, the actor who played Jesse Pinkman in Breaking Bad, just released an app that will message you and call you a bitch in his signature voice.
A Value Investing Reality Check
Value investors take a different approach. They invest based on what a company is, not what it might possibly become against great odds. We don’t pretend to know the future, and we know that trees rarely grow to the sky. Value investors seek to buy a $40B company for $17B and not the other way around. Uber might be the next Google. It might make car ownership obsolete. But most likely it is just a useful app that will hail you a car for hire. Though it will be a fun show to watch, its valuation most likely will come to reflect this realization. If you are still eager to get in on Uber, I recommend you download Aaron Paul’s app first – Jesse Pinkman has a message waiting for you.
Alan Stevens is Managing Director of Research and Portfolio Management at Lyons Wealth Management LLC, a Florida-based subadvisor to several mutual funds. He serves as Portfolio Manager for Catalyst/Lyons Tactical Allocation Fund and is Co-Portfolio Manager for Catalyst/Lyons Hedged Premium Return Fund. He also manages several separate managed account strategies and alternative asset funds, including Lyons Tactical Overlay Program. He holds his MBA from Harvard Business School and a BA from Lake Forest College.
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