Revenue and Cost Analysis in Ride-Sharing: Why Lyft and Uber Struggle to Generate Profit

The ride-sharing industry, encompassing companies such as Lyft, Uber, Didi Chuxing, and Grab, operates with significant costs that have hindered profitability. While these firms may appear to have a larger user base and fewer costs related to goods, their expenses (as detailed in their S-1 IPO filing for Lyft) reveal why they struggle to make a profit.

Major Costs and Their Impact

The primary costs for ride-sharing companies include:

Driver Incentives: These are crucial to maintain a pool of available drivers, which is essential for continued business operations. Transitioning to self-driving vehicles, which can eliminate these costs, is not a short-term solution, estimated to take at least 10 years. Customer Specials and Incentives: These are necessary to win market share from competitors, but they significantly impact the bottom line. Insurance Costs: A necessary expense that must be covered for legal operating capacity. Infrastructure Costs: The cost of maintaining the necessary systems to manage the business.

While the first three costs scale with the size of the business, infrastructure costs are less dependent on business size.

Understanding Cost of Revenue and Its Implications

In the S-1 IPO filing of Lyft, the cost of revenue is highlighted as a significant factor in their financial reports. At nearly $1.2 billion out of $2.1 billion in revenue, the cost of revenue stands at 57%. This cost includes various expenses such as:

Cloud Hosting Fees Insurance Fees Payment Processing Driver and Consumer Incentives

Marketing expenses also account for about 38% of revenue. This high percentage reflects the cost of maintaining a balance between supply and demand, including payments for drivers to operate during adverse conditions such as rain and snow, and compensation for riders to utilize dormant driver inventory.

As a result, Lyft and other ride-sharing companies are often under significant pressure to balance expenses with revenue growth, leading to large losses.

Growth and Market Share Priority

Lyft prioritizes revenue growth and market share, which is reflected in their 100% revenue growth from 2017 to 2018. Revenue per user has more than doubled from $16 in 2016 to $36 in 2018. Their market share is around 39% by volume of rides and 30% by actual revenue share.

However, this growth strategy does not translate to profitability in the short term. Lyft is unlikely to reduce their marketing expenses in the near future, as sustaining market share is critical.

Comparing to Traditional Taxi Companies

Taxi companies operate differently, generating revenue relative to their assets (cars) and typically serving an entirely different customer base. They do not provide incentives to drivers or riders, which can significantly reduce expenses. Furthermore, they can grow organically by using revenue to build and replace assets, as they have shorter investment horizons and typically aim for single-digit revenue growth.

For ride-sharing companies like Lyft to operate more like taxi companies, they would need to make large capital expenditures (Capex) in acquiring and maintaining their own vehicles, potentially outweighing the benefits of owning assets. Considering that Lyft had approximately 1.9 million drivers, doubling the number of cars would require an investment of $47.5 billion, not to mention additional driver expenses if they were to hire drivers on payroll, a significant liability.

In contrast, a traditional company like McDonald's, with 2 million employees, can manage such scale more efficiently. This highlights why ride-sharing companies prefer asset-light operations to ensure sustainable growth and profitability.

Conclusion

The challenges faced by ride-sharing companies like Lyft and Uber in achieving profitability are complex and multifaceted. While they may enjoy a larger user base and fewer costs related to goods, their significant operational costs make it exceedingly difficult to achieve profitability in the short term. Understanding these factors and their strategies is crucial for investors and stakeholders in the industry.