The thing about Uber I don’t understand is how they are going to defend their monopoly once they acquire it. Assuming they eventually win all the legal battles and drive all other taxi and taxi-like services out of business then how are they going to stop anyone else from entering their market?
Each transport market is effectively isolated (you don’t hail a driver from SF to get around NYC). This means any new entrant can achieve critical mass in a market at a relatively low cost (especially if they start with small towns/cities). If Uber do manage to get to the point where they can start extracting monopoly profits they have no means of defending these markets other than competing on unit price. Consumers are going to win big time out of Uber, but I can’t see how their investors will (at least their long term investors). Someone far smarter than me must have answered this?
I think you're significantly downplaying the network effects inherent in Uber's model. Yes, those network effects might be localized (each city is its own network), but they're still incredibly strong. Drivers want to be where the riders are and riders want to be where the drivers and other riders are. (As a rider, I want there to be a healthy rider pool so I can do sharing.)
Additionally, Uber doesn't have to jack up prices (with "monopoly pricing") to earn a healthy profit. In its mature markets, it's already quite profitable.
Given that, where do you think there is an opening? If it's so easy to compete with Uber on a local level, why isn't Lyft beating it in any single market (despite $1b raised)?
>Given that, where do you think there is an opening? If it's so easy to compete with Uber on a micro level, why isn't Lyft beating it in any single market (despite $1b raised)?
The market is going through a lot of innovation right now and what the end result will be is not known. I just can’t see how even if Uber wins that they have a way of preventing competition eroding their margins. All the regulation in the taxi industry was driven by the players wanting to control the cut-throat competition that existed before regulation. Competition is great for consumers, but not so good for the owners of taxis.
> All the regulation in the taxi industry was driven by the players wanting to control the cut-throat competition that existed before regulation.
The difference is that traditional taxis had no monopoly power. They were (and are) undifferentiated commodities—I don't even have any idea who owns a cab I'm in.
Uber's network is a substantial moat which protects it from undifferentiated price competition.
Again, how do you propose that a competitor would build a viably competitive network in an Uber city?
>Again, how do you propose that a competitor would build a viably competitive network in an Uber city?
I would pick mid-size markets and optimise for unit costs. I would settle on a single fuel efficient car model (or two) and then work on making my capital and servicing costs as low as possible. I would use trained and experienced employees and implement tracking technology to ensure that the drivers are polite, prompt, efficiently located, and don’t drive the vehicles like taxi drivers do (helping keep wear costs down). I would then bombard the local media market to achieve name recognition and app take up and then run a price war to gain market domination. Since I had optimised for unit cost I should be able to defend this domination against new entrants as long as I kept my pricing at just above my costs. I would make little profit, but my market would be defendable. Rinse and repeat in each new markets.
I don’t think such a business is worth the effort, but all it take is one person who does.
I don't think that's a viable strategy. If it were, Lyft would be successfully deploying it.
Namely, I see 3 primary flaws:
1. A marginally lower price is not by itself enough to achieve market penetration. If it takes 5-10 minutes longer to get a ride on your platform (due to fewer drivers), I'm not going to use it—even if you are 20% cheaper (wiping out Uber's entire margin).
2. You're ignoring the pooling savings which come from being able to easily coordinate shared rides due to a huge installed rider base.
3. Uber can spend you into the ground. They have a massive war chest and continued huge revenue from their mature markets—enough to undercut you until you run out of oxygen.
The biggest flaw of these 3 is that I just don't think price alone is sufficient to overcome network effects. If it were, the $100+ vouchers which I see also-ran competitors giving out would have made a dent in Uber's market share.
Competing against Uber in even a single city would require hundreds of millions in capital to basically buy your entire network overnight, and once you succeed in that market you'll enjoy less profitability than Uber does today.
There's a reason that crappy marketplaces like Ebay and Craigslist are incredibly sticky—networks are overwhelming.
A monopolist doesn't have to make its moat unbreachable, it just needs to be insufficiently profitable to overcome.
The only possible risk I see to Uber is from corrupt politicians.
I can see a competitor using the fast food model to effectively compete with Uber.
By having a large enough number of clean, reliable and uniform cars a competitor would provide a more consistent and predictable ride than Uber, which relies on its drivers subsidizing the cost of a variety of different vehicles.
Sure, you would be getting a McTaxi instead of an a la carte experience, but at least you would know what you order is what you get.
You raise a very good point. When it comes to a service like Uber most people just want a McTaxi experience; they want to get to where they want to go efficiently in a safe and friendly manner. They are not looking for more than this.
The reason McDonalds is successful is not because they produce great food, but because they meet a minimum standard in consistent way. The way Uber currently works make this hard to deliver.
Namely, I see 3 primary flaws:
1. A marginally lower price is not by itself enough to achieve market penetration. If it takes 5-10 minutes longer to get a ride on your platform (due to fewer drivers), I'm not going to use it—even if you are 20% cheaper (wiping out Uber's entire margin).
I think you have assumed that I would not have as many drivers on the road as Uber. I would have as many or more - hence the need to go after mid-size markets to begin with. The time for the driver to turn up with my service would be the same or better than Uber.
2. You're ignoring the pooling savings which come from being able to easily coordinate shared rides due to a huge installed rider base.
I am not ignoring it. If there is demand for this service and I have as many cars on the road as Uber then I can offer the same pool service. I will still have the same unit cost advantage.
3. Uber can spend you into the ground. They have a massive war chest and continued huge revenue from their mature markets—enough to undercut you until you run out of oxygen.
The biggest flaw of these 3 is that I just don't think price alone is sufficient to overcome network effects. If it were, the $100+ vouchers which I see also-ran competitors giving out would have made a dent in Uber's market share.
If you limit the size of the markets you go after then there is a limit to what even Uber can spend trying to kill you. You just need to be able sustain any loss over the length of time that you think Uber can fight you for. The key to success here is have enough resources to survive the level of damage anyone can throw at you. Personally I would hold off until Uber just goes public when they can’t afford to waste as much money anymore.
More fundamentally the reason none of Uber’s competitors like Lyft (or even Uber itself) has pursued this model is that you can’t sustain it at the capital cost that VCs demand. It is a model which will only be pursued by businesses with a low cost of capital in much the same way the container shipping industry is run. The problem for Uber long term is once a business enters with this model they will be hard to fight.
I have to say these discussions are lots of fun :)
I think (not an economist) but this is what happens when a market is disrupted, new players enter with a lower cost than incumbents, clean up, this encourages other new players to enter at slightly below, first player then drops to match and eventually you reach a new stable equilibrium, in lots of markets that is by one company winning and buying out the others (commodities like Sugar and Salt seem to go this way, it's hard to differentiate on Salt) while others divide up amongst big players (laptop market).
Uber will be interesting since the initial capital costs aren't that high (compared to a multibillion dollar fab plant or hundreds of 40,000sqft shops) so it could be a blood bath, alternatively one way of differentiating is on brand and Uber has (despite some negative press) got brand recognition.
There maybe a first mover advantage in play here as well, lots of sites clone successful sites (for example) but rarely make a tiny fraction of what the original one did.
Something else occurs, Uber took a lot of VC funding, new players entering the market who didn't do that could offer a better deal on both sides of the market and not have the millstone around their necks either, it would be amusing if a smaller nimbler non-VC company ate their lunch.
Industries like sugar and salt are commodity industries where prices are driven by costs. There are economies of scale that allow one player to dominate a market and prevent new entrants. Uber does not have this advantage since each market is effectively small and isolated (there are thousands of taxi markets in the USA alone) and most of the costs are unit costs, not fixed costs over which they can scale.
Any competitor with lower costs - say a business that used only one fuel-efficient car type that offered lower unit costs should be able to outcompete Uber. The contractor model where each contractor purchases and services the needed physical equipment (i.e. cars) is far from the most efficient way to run a capital intensive business.
A complete sidebar discussion, but although there are many, many laptop manufacturers, one company is estimated to make only 10% of the revenues but more than 35% of the profits, leaving the manufacturers of the other 90% of the laptops to divide 65% of the profits.
So... It is possible that in some markets, a company can drive operational efficiencies to be grossly profitable even if it ends up with a minority market share.
Assuming they eventually win all the legal battles and drive all other taxi and taxi-like services out of business
That's very unlikely to happen and I don't think anyone here at Uber sees the world as a zero-sum game as you portray it. Even in SF, the most mature Uber market, there are still plenty of cabs operating. Cabs offer a different service (street hails, fixed pricing etc) - which is why you can even hail a cab from the Uber app if you want.
Differentiation is key, and that's how Uber does and will compete with both taxis and direct TNC competitors.
I also don’t think it is very likely either, I was just assuming the best case scenario for Uber and I can’t see how they can make money in the long term even if they achieve this. Competition is great for consumers, but not so good for investors.
Edit. Thanks for the updates to your post Ben. Given Uber’s cost of capital and current valuation how do you see Uber earning enough of a return with a differentiation business model? Or is the current business model irrelevant to Uber’s future and you foresee a massive pivot?
I think you under-estimate the power of network effects and also the cost of entry to set up an on-demand transportation company. If it really was as easy and low cost as you assert I would suggest you would have seen many other players enter the market already by now.
Maybe, but if each market is isolated then the network effect is small. To dominate a market you just need enough drivers available to meet the market expectations. If you have two businesses in a market supplying an equal quality service, but where one is 20% cheaper, then the cheaper service will capture the majority of the market.
An alternative hypothesis might be that nobody can think of a way to make money by investing in such a market and so they don’t.
My god I hope this is not Uber’s plan. While this would actually work it is very, very illegal [1]. I can’t see the USA government turning a blind eye to such blatant antitrust activities, but after what they have let the banks get away with maybe it would work.
I think we are talking past each other here. Any competitor with an equal number of drivers can offer the equivalent to Uber pool in a market.
I was referring to a business model where Uber cut prices in a small market when a new competitor enters to kill them before they can get going. This model works really well once you are an established business (the Standard Oil model) hence why it is illegal.
Yes, we probably are. Not much of what you write makes any sense. Cutting prices is obviously not illegal. In extremely rare circumstances if the pricing is clearly below cost, you might have something. But that's even more unlikely in the software or service industries.
Yes I agree. I view the taxi industry as being made up of many separate markets where dominating one geographical market gives a company little competitive advantage in other geographical markets and hence why the taxi industry stayed fragmented when other areas of the transport industry consolidated. If this is wrong then the first business to win the consolidation race will dominate the market long term.
I don’t think Uber is in a commodity market right now (there is far too much innovation going on), I just don’t know how you prevent it becoming one in the future. Your current valuation suggests that a lot of smart money disagrees with me :)
Winning all the legal battles might not be their best case. They are getting good at fighting legal battles, and a permanent state of lawfare might be to their advantage (because they are better at fighting it than competitors).
If this is their business model it is a very interesting one. Create continual legal battles with the local authorities to scare off new entrants to the market.
I wonder if any business has ever used this model successfully before?
In a more general sense, quite a few businesses rely heavily on complicated regulatory environments that virtually ensure than only people who can afford lawyers can compete.
Of course, there's a difference between continual legal battles and just needing a lawyer.
Sure, but their investors are going to want them to start extracting profits at some point in the future. You can’t run an business indefinitely selling below your costs. The question I have is how are they going to be able to start doing this without opening themselves up to competition?
It is rare to see, of not impossible, a real monopoly in a free market.
Uber has to compete to win customers, if they artificially raise their prices to where people will not pay, people will choose a different form of transportation.
The common definition of 'monopoly' is the sole provider of a good or service. I doubt very much that Uber can ever achieve that.
I much prefer 'market share', I think it's the most accurate term.
Aside from that, I do see some parallels with eBay.
Firstly, I have no inside knowledge of their complete model, just assuming.
Travis has said that the early markets are 'profitable', the early markets are also their most competitive. So the 20-30% model they have now should allow profitability in all the 300+ cities they're in. I'm assuming the margins are very tight, and that they have to do a lot of volume to be hugely profitable, which they're fast approaching.
Any new business can establish an equivalent to uberpool once they have critical mass. Since many markets are small the relatively cost of establishing this mass is not excessive.
Yes network effects are real - the question is there much of a network effect with the taxi industry. History suggests there isn’t, but the current valuation of Uber suggests that a lot of smart money thinks there is such an effect.
Actually there is a lot of history for this - go to any third world country and this is how most of the taxis for locals run. It is actually one of the outcomes of a lack of enforced regulation since competition drives unregulated drivers down this path.
How is it a natural monopoly? A natural monopoly is something like the electrical poles and wires. I can't see how Uber could even become a normal monopoly even if everything went their way.
Both buyers and sellers of second-hand goods can use multiple auction websites without much hassle, yet eBay still has a natural monopoly due to network effects. I doubt the network effect for uber is as strong as ebay, but I wouldnt completely dismiss it either.
Exactly. If you know a competitor can provide the equivalent service quality, but at significantly lower price, then users will switch. In a small market it is not too hard to let potential users know you exist and install your app.
What do you consider "monopoly profits?" As of the 2013 leak, Uber was grossing $1bn in revenue [1]. Uber takes a 20% cut from each transaction, and has an extremely lean cost structure - drivers pay for gas, insurance, amortize vehicles, don't get any benefits, etc. Even if we assume costs to be 10% of revenue (which they aren't), Uber still would have earned a gross profit of $100m in 2013. Judging by Uber's current $50bn valuation, their revenues have grown anywhere from 3x-5x over the past 2 years. [2]
So by my rough estimations they're making $300-$500m in yearly profit (hardly loss-leadership), and they still haven't driven Lyft or conventional cabs out of service. This is also without taking geographical expansion into consideration. Uber is sitting on a goldmine of a market that it has barely begun to tap.
So what if Uber does manage to establish itself as a monopoly? Then we look to the price elasticity of demand for Uber's service, which measures change in demand over change in price, aka how bad people actually need the service. Cabs are essential to a large group of people (businessmen, tourists, blind, etc.) and in high demand for almost anyone else that lives in a large city such as NY or SF, where it is uncommon to own a car and often inconvenient to take the metro. Therefore they will have a large bandwidth in which to raise their prices in large cities before users start to disengage with the service, opting instead to walk or take the metro. Smaller towns, where people don't use cabs as much, do not present a large market for Uber, but it costs them next to nothing to get users and drivers to download the app, therefore there are no prohibitive costs of investment stopping them from expanding operations other than a natural lack of demand.
If they jack prices up too high for an extended period of time in the cities, another company will enter the market and pick up the churned customers, much as Uber did in the broken, monopolistic taxi market.
So ultimately they will be able to make a very healthy profit, and will not need to worry too much - unless the government decides to intervene with some serious anti-trust legislation, but it probably won't as long as Uber is paying a cut to the cities that it operates out of.
You are right that there are low barriers to entry in this market - it's why most drivers do both Uber and Lyft. The underlying technology is the same, and the capital (drivers) is not proprietary and can be shared between different companies. However, if Uber were to stipulate that drivers sign an employment contract, and then enforce that they were not working for the competition, this would raise the barriers to entry for competitors. Likewise, there isn't much differentiation in the taxi market. It's nice if a driver comes with water and a nice-smelling car, but ultimately it's not a deal breaker.
Ultimately, the network effect is key. Get the most users on your service, get the most drivers driving for you, beat the competition, then erect barriers to entry around your castle. Just don't piss the peasants off too much, or they might try and revolt :)
>What do you consider "monopoly profits?" As of the 2013 leak, Uber was grossing $1bn in revenue [1]. Uber takes a 20% cut from each transaction, and has an extremely lean cost structure - drivers pay for gas, insurance, amortize vehicles, don't get any benefits, etc. Even if we assume costs to be 10% of revenue (which they aren't), Uber still would have earned a gross profit of $100m in 2013. Judging by Uber's current $50bn valuation, their revenues have grown anywhere from 3x-5x over the past 2 years
Assuming all this is correct (leaks sometimes are not) this does not solve the competition problem. The more money they make in a market the more attractive it comes for someone else to enter that market.
>You are right that there are low barriers to entry in this market - it's why most drivers do both Uber and Lyft. The underlying technology is the same, and the capital (drivers) is not proprietary and can be shared between different companies. However, if Uber were to stipulate that drivers sign an employment contract, and then enforce that they were not working for the competition, this would raise the barriers to entry for competitors. Likewise, there isn't much differentiation in the taxi market. It's nice if a driver comes with water and a nice-smelling car, but ultimately it's not a deal breaker.
The problem is the parts of their business that are unique have low barriers to entry, while the other parts are inherently inefficient (having each driver pay all the capital and running costs is more expensive than centralising). Sure the current taxi industry was ripe for innovation, but once that genie is out of the bottle there is nothing stopping someone else out ubering Uber. How does Uber stop this happening?
I don't think you realize how Uber moves into new territory: tons of free ride codes (maybe 40% of my rides have been unsubsidized); special event codes; subsidised events (free transportation to voting places last election here); cash payouts and bonuses for drivers. It's by no means lean.
Each transport market is effectively isolated (you don’t hail a driver from SF to get around NYC). This means any new entrant can achieve critical mass in a market at a relatively low cost (especially if they start with small towns/cities). If Uber do manage to get to the point where they can start extracting monopoly profits they have no means of defending these markets other than competing on unit price. Consumers are going to win big time out of Uber, but I can’t see how their investors will (at least their long term investors). Someone far smarter than me must have answered this?