This is the first in a series of three articles from the end of 2019 that we have dug out of the archives in support of the Barcelona taxi drivers’ current conflict with Uber (see HERE)
Over his long career, Hubert Horan has worked on many of the most critical issues in the field of transportation economics, including the impact of regulation and mergers on industry efficiency, and the impacts of consolidation and other industry structural changes on consumer welfare. Mr. Horan graduated from Wesleyan University in 1976 with a B.A. degree and Honors in Economics. In 1980 he graduated from Yale University’s School of Management with an MPPM (MBA) degree.
Cross-posted from ProMarket of the Stigler Center
In the first of three interrelated articles, transportation consultant Hubert Horan discusses Uber’s “uncompetitive economics.” There is no real innovation in the company’s business model, he argues. Its market share is the product of predatory pricing and gigantic subsidies, not of higher productivity.
Why is Uber, a company that has lost over $20 billion and shows no signs that it could ever achieve sustainable profits, still widely seen as a successful, highly innovative company that has years of highly-profitable growth ahead? Why is it widely believed that Uber has brought major improvements to urban transport and huge welfare benefits for passengers when it has failed to establish a sustainably viable business model and was always explicitly pursuing artificial market power enabled by quasi-monopoly industry dominance?
This is the first of a three-part explanation. This first part provides an overview of Uber’s uncompetitive economics and abysmal financial results for ProMarket readers unaware of the evidence. Part two will explain how Uber manufactured and promulgated false PR narrative claims that created its “innovative and successful” image and blocked awareness and discussion of the losses and subsidies that directly contradicted those claims. Part three will describe the indefensible work produced by Uber’s “academic research” program, whose sole purpose was to create the false impression that major PR narrative claims were backed by independent research that met traditional academic standards.
Readers can find detailed discussion and documentation of these issues in two previously published papers. My 2017 Transportation Law Journal paper, which documents Uber’s uncompetitive economics and its narrative programs, and my recent American Affairs Journal article which updates Uber’s terrible financial results through this year’s IPO.
Uber’s Uncompetitive Economics
Uber (which began operating in 2010) has lost over $20 billion since the beginning of 2015. It is not (as it has long claimed) rapidly “growing into profitability” like previous Silicon Valley tech companies such as Facebook and Amazon, as it does not have the scale or network economies those companies had, and its cost structure has little in common with true tech companies.
Uber is actually a higher cost/less efficient producer of urban car services than the taxi companies it has driven out of business; individual Uber drivers with limited capital cannot acquire, finance, maintain and insure vehicles more economically than Yellow Cab; expenses other than drivers, vehicles, and fuel account for 15 percent of traditional taxi costs but Uber charges drivers 25-30 percent without coming close to covering their actual costs. All of Uber’s early popularity and rapid revenue and valuation growth are explained by the billions in predatory investor subsidies needed to drive those more efficient (but poorly capitalized) incumbents into bankruptcy.
There is no independent evidence that any Uber “technological innovation” had any material impact on its cost competitiveness and there is no evidence that they had any impact on competition in any other industry. Uber’s pricing system is far simpler than what airlines had 30 years ago. Oracle founder Larry Ellison noted that Uber’s app was less sophisticated than something his cat could have developed.
Uber’s margin gains have not come from efficiency improvements but from its ability to unilaterally cut driver compensation by 40 percent since 2016. These cuts reduced driver take-home pay below minimum wage levels in many markets and transferred over $3 billion from labor to capital.
Nothing in Uber’s business model actually increased overall car service productivity or solved any of the taxi industry’s traditional problems, which were due to structural issues common to all forms of urban transport. Service during peak periods (Saturday night; when it rains) was highly unreliable because the cost of peak capacity is 4-5 times higher than the cost of midday capacity (just like transit systems and expressways).
Taxi demand is sociologically bipolar; 35 percent of users have incomes over $100,000 and 55 percent have incomes under $40,000. Thus, on Saturday night wealthier people out for a night on the town compete for service with night shift workers who do not have transit options. Many neighborhoods were poorly served because the empty backhaul doubled the actual trip cost. Uber’s surge pricing does not improve efficiency, it simply prices those night shift workers out of the market. And as Uber has demonstrated, unlimited taxi market entry can lead to ruinous overcapacity and can allow part-timers to cherry-pick the peak revenue that full-time drivers depend on to cover their costs.
Converting these growing multi-billion dollar losses into sustainable profits would require one of the greatest operating company turnarounds in history. There is no evidence that the market is willing to pay the true cost of Uber’s service. Any attempt at a bankruptcy-type restructuring would wipe out its current owners and Uber does not have a sustainably profitable core business to reorganize around.
Uber’s Pursuit of Global Dominance and Unregulated Market Power
For 100 years, the taxi industry was highly fragmented and competitive. There had never been any strong tendency towards concentration in individual markets, and no evidence of synergies between markets. But Uber was always pursuing quasi-monopoly industry dominance, claiming its entry had magically converted the industry into a global “winner-take-all” game.
The only way Uber’s investors could achieve outsized investment returns was to achieve industry dominance powerful enough to allow them to sustainably exploit the anticompetitive market power that companies like Amazon, Google, and Facebook have recently achieved. Uber’s global dominance ambitions were widely understood across Silicon Valley. It was “in the empire-building phase” with a “massive burn in a play to conquer the world.” Once dominant, every potential passenger and cab driver in every major city across the world would need to have Uber’s app on their phone. That dominance and app ubiquity would eliminate the possibility of any serious competitive threat, create huge pricing power, and create opportunities to extract rents from other companies wanting to reach Uber’s users. The investors’ original expectation was they could reap billions in returns from an IPO before Uber’s terrible economics became widely recognized.
Uber’s investors also understood that maximizing future anticompetitive market power and rent-extraction potential required absolute laissez-faire. Uber was not pursuing more liberal entry and pricing rules but working to effectively nullify any form of governmental oversight. This meant eliminating the public’s right to establish standards for market competition, safety, insurance, driver licensing, vehicle maintenance, or obligations to provide services to all people and neighborhoods in a city.
Uber’s investors were attempting to seize effective control of the taxi industry from local citizens and their democratically elected governments. The “economic freedom” Uber was pursuing was the unfettered freedom to accumulate capital and the elimination of any conflicting laws intended to protect anyone else’s welfare.
Uber’s Growth Was Driven by Three Strategic Innovations
Amazon, Google, and Facebook established a two-part template for how a “tech startup” could achieve a 9-digit valuation. These companies first established a foundation based on legitimate product and efficiency breakthroughs (major e-commerce and distribution efficiencies, highly-valued new search, and social networking services) and demonstrated that their core business could earn sustainable, growing profits in competitive markets. Those efficient foundations supported further growth, industry dominance, and immunity from new competition. That allowed them to pursue more stratospheric valuations by exploiting anticompetitive market power and rent-extraction and buying out any potential competitive threats.
Uber is not just another “tech bubble” company that benefitted from extremely cheap capital and popular perceptions that “disruptive technology” could solve all the world’s problems. Its strategy was based on three innovative components no other large startup had ever attempted.
Uber’s first major strategic breakthrough was to completely skip the difficult “find legitimate product/efficiency breakthroughs” part and the even harder “achieve sustainable profits in competitive markets” part of the previous unicorn model. Uber’s investors were the first to provide initially $13 billion (now over $20 billion) in funding in order to bulldoze incumbents who had lower costs but could not withstand years of predatory subsidies from Silicon Valley billionaires. This was 2300 times more pre-IPO funding than Amazon required, because Amazon could generate strong positive cash flow.
Uber’s second major strategic breakthrough was the monomaniacal “growth at all costs” culture that original Uber CEO Travis Kalanick established during the earliest days of Uber’s operation. This culture successfully intimidated most of Uber’s early legal, journalistic, and political critics and helped create the widespread impression that Uber was an unstoppable power. This culture also directly produced the open lawbreaking, journalist harassment, obstruction of local law enforcement, competitor sabotage attacks on rape victims and other individuals who had sued Uber, and systemic sexual harassment within management. Companies that can generate positive cash flow do not have to tolerate this kind of behavior, but it was celebrated at Uber.
Uber’s investors fully supported this “growth at all costs culture” (and the huge losses incurred to support Uber’s predatory behavior) and never uttered a word of complaint until 2017, when they realized that negative publicity about this behavior could threaten the IPO they were pursuing.
Uber’s third major strategic breakthrough was to treat business development as an entirely political process, using techniques that had proven successful in partisan political settings. Uber’s investors knew that it needed raw political power to accelerate growth, and to maintain its hoped-for dominance.
Amazon, Google, and Facebook didn’t invest in major PR/lobbying efforts until after their core businesses had become securely profitable. Uber was the first startup where PR and lobbying had been a top priority from day 1. No other young startup had seen the need to hire a former Senior Advisor to a US president (David Plouffe) or the close confidant of a British Prime Minister (Rachel Whetstone) as senior PR executives.
This three-part strategy sustained Uber through ten years of massive losses that would have quickly destroyed any startup with a less sophisticated strategy. The fatal flaw was that Uber never achieved the dominance needed to exploit anti-competitive market power because the taxi industry never had the powerful scale/network economies needed to drive winner-take-all dominance.
Part two of this series will focus on how Uber used those political techniques to establish the image that it was highly innovative, powerfully competitive and had created huge public benefits while blocking economic evidence contradicting those claims. Part three will examine the “academic” component of Uber’s PR narrative promulgation efforts, which was designed to create the false impression that major narrative claims were backed by rigorous, independent research that met traditional academic standards.