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Only a few years ago, Uber was losing a couple of billion dollars each year, had billions of dollars in debt, and needed an actual path to profitability. I thought Uber was going bankrupt.
But things have changed! DRASTICALLY!
Uber is profitable and generated almost one billion dollars in free cash flow in a quarter. The company is also expected to join the S&P 500 index on December 18th, 2023, and things are looking GOOD on the financial statements.
What changed? Is Uber a buy now?
Let's talk about that!
A YouTube video and podcast audio version of this post is available on Saturday 12/16/2023.
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I'm Hoda Mehr, founder, and CEO of Stock Card, and on this blog and its accompanying YouTube channel and Podcast show, I share detailed fundamental analyses and interesting investment stories.
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Uber is now a much different company than just a ride-sharing business. It offers a variety of rides, ranging from riding with your pet to riding on a 2-wheeler and tricycles in certain markets. It delivers food to your door and works with businesses for their travel needs. It has entered the advertising market and divested from unprofitable technology development units. It has a rational and steady CEO, while its CFO is leaving, and it is expected to join the S&P 500 index thanks to becoming a GAAP profitable and free cash flow generating enterprise.
Uber's Fundamental Strengths
Let's break down Uber's fundamental strengths:
Uber has transitioned from losing almost $5B in negative free cash flow in 2019 to generating nearly $1B in free cash flow in the latest quarter. Free Cash Flow is calculated by taking net income, adding non-cash expenses such as stock-based compensation and interest expenses, and removing capital expenditure. It's important because it indicates whether the company's business model is profitable regardless of its interest costs and long-term investment. With that financial metric, Uber is now a nicely profitable company.
Why? What has changed?
Tracing back free cash flow to its components and comparing it with last year's same period reveals a big jump in cash from operating activities, and if you trace that back through its elements, you see a jump in net income and accrued insurance reserves. Putting cash in reserve for possible future claims against your operations is likely a one-time activity; you add it back in free cash flow calculations. If we put that aside, most of the free cash flow change is from net income. Let's trace that back to its component, too. Two factors impact positive net income: higher revenue and lower sales, marketing, and general and administration expenses. Those are good signs!
The cost-cutting makes sense and is easy to understand. The company eliminated unnecessary operations, cut back its headcount, and reduced its marketing and advertising expenses.
Why is revenue up by almost $1B in Q3 2024?
Understanding that should give us a good sense of where the company is headed. The company has had a few quarters of steady double-digit gross booking growth. Although the growth rate has slowed down, it is still double digits. Can Uber maintain its topline growth?
According to the company's CEO, the growth is thanks to a strong travel season because travelers are among the most steady segment of Uber's customers, and the strength of the travel segment has even surprised Uber.
CEO Dara Khosroshahi talks about how future growth comes from international expansion, subscription to the Uber One program with 15 million members who use multiple Uber products more often than others, and the introduction of new products such as Uber for teenagers.
Like most other tech companies with direct access to customers, Uber has also entered the advertising market and is now generating revenue from ads, aiming to reach $1B+ in ad revenue.
On the profitability side, Uber is relatively cost-effective at its core because it doesn't own its taxi fleet, making it easier to scale and grow efficiently into new markets. The company should be able to maintain its lean operations as it grows its business. The latest earnings report talks about leveraging machine learning to price its trips better, onboard drivers faster, and grow profitably.
Moreover, the company has been cutting down on the monetary incentives it has historically paid customers to use the platform. It now plans to transition to nonmonetary incentives, such as upgrades, instead of giving deep discounts. Uber's CEO correctly explains that the company has to learn to operate lean and grow to keep its profitability when the demand curve goes through a downturn.
To better understand if the company's growth and profitability are sustainable, I went back to a few quarterly earnings reports in 2021, when the company hit a new high, and then in August 2022, when the company hit a new low stock price. I'm impressed with the leadership's steady focus on their plan and quarter-after-quarter execution of what they explained they plan to do. They divested out of the cash-burning autonomous driving and drone delivery business. They sold their less profitable businesses in Asia in exchange for equity ownership in the acquirer company, as good examples.
It has more than $8 Billion in cash and cash equivalent, vs. $10+ Billion in total debt. However, the company has taken steps to reduce its high-interest debt, such as a 7.5% $1B convertible senior note due in 2025 by raising $1.5B in low-cost convertible notes in November 2023, effectively strengthening its balance sheet.
Uber's Fundamental Risks
On the risk side, Uber is still a highly indebted company with almost $10B in debt, as we just talked about. Even though it is profitable, its debt affordability factor is above five times. It means the debt is more than five times the company's EBITDA at this point.
Additionally, the company has always been fighting regulatory backlashes in several markets. For example, this year, Uber and its competitor Lyft were forced to pay drivers $328 M in a wage disagreement settlement. You also see the impact of such regulatory backlashes on the company's financial statement in the form of one-time payments and reserve allocation for future lawsuits and settlements. However, you can see the company has broadly been able to grow and overcome its regulator challenges through lobbying and settlements. The world workforce likes the flexibility and ease of being independent drivers for taxis and delivery services. When customers, in this case, drivers, push for it, there is growth even if regulators push back.
Assuming driverless taxis and drone deliveries are the future, by divesting from that business, Uber may soon get disrupted by new competitors such as Tesla. In a way, the company is sacrificing future market leadership over today's profitability. But at the same time, with today's profitability, there is a company that can lead the market in the future. While technological competitive advantage is a concern, Uber seems on the right track.
We are down to valuation assessment.
Since Uber has recently become profitable, its PE ratio is extremely high, above 100 times. Its forward PE, which takes future earnings to calculate the ratio, is still high at above 50 times. The price-to-sales ratio is hovering near four times, indicating investors believe Uber will be much more profitable and a bigger company than it is right now. The primary ride-sharing market is expected to grow by 7% and food delivery by 22%. Combining the two, Uber operates in a market with an average rate of 15% annually. With that growth rate, Uber would take ten years to grow its revenue by four times. So, for the valuation to make sense, Ube needs to keep growing topline and profit simultaneously. This is an over-optimistic valuation.
What's Verdict? Is Uber A Buy Now?
Honestly, I'm very impressed by Uber, mostly because I had no idea this company was on such a nice fundamentally strengthening track. I'm worried about its debt and valuation, but I appreciate its ability to keep growing, and the CEO has proven himself to be a reliable leader.
Would I buy it now?
I don't think so. There is too much good news compiled about Uber now: the recent profitability, the news of joining S & P, and revenue growth that has even surprised the CEO and his team per their confession during the latest earnings.
I want to buy Uber when no one is talking about it. For that reason, it goes to my watchlist.
Last week, when I broke down the fundamental reason behind Affirm's 100% stock price jump, I told you that in 2024, I plan to revamp my portfolio and only hold a maximum of 20 stocks. That makes some very conservative in saying yes to stocks with lots of debt or high valuation. If Affirm made it to my 20-slot portfolio, last week's episode is a good next post.
I'll see you next time,