Finally, after years of tease and denial, the unicorns are going public. These phenomenally valued firms, pumped up by venture capitalists (VCs), remained private for far longer than they did in previous startup manias, most notably the dot.com bubble of the late 1990s. That’s changing.
A bit of history. In August 1995, Netscape, maker of one of the first web browsers, sold stock to the public for the first time. (Until then, it had been backed and owned by a small circle of managers and VCs.) Initially priced at $14 a share, its handlers, spying fervent demand, doubled the offering price to $28, but by the end of the day, it was trading at $58. Spectators were impressed. Everyone wanted to be the next Netscape, sparking a remarkable five-year period when every lunatic scheme that techies, boosters, and financiers could dream up would sell stock to a lusting public. It was the era of Pets.com, Webvan.com, Kozmo.com—things that look crazy in retrospect but only gloomy Marxists and reactionary permabears thought to be at the time.
A few companies born during this period, like Amazon, Google, and eBay, survived, but almost all of them disappeared when the stock bubble burst in the spring of 2000. Without fresh injections of money from suckers, these structurally unprofitable firms couldn’t survive. And with that bust, the market for initial public offerings (IPOs) dried up for years—as did startups more generally.
That began changing about six years ago, when we finally emerged from the Great Recession, with the advent of the unicorn, a startup valued at $1 billion or more. The term was coined by VC Aileen Lee in a November 2013 TechCrunch blog post. Then, she counted 39 of the critters, led by “super-unicorn” Facebook, trailed by, among others, LinkedIn, Twitter, Groupon (it still exists!), Uber, and Lyft. (Their numbers have grown spectacularly since Lee coined the term. CB Insights counts 342 unicorns worldwide now.) LinkedIn was bought by Microsoft in 2016 and is doing rather well. A few of the others did IPOs. Facebook is quite a success; it’s making real money, at least for now, and its stock is up over 120% from the offering price. The others are another story. Groupon is losing money, and its stock has shed 85% of its value (over a period when the broad market, as measured by the S&P 500, is up 130%). Twitter is mildly profitable, but its stock is off 22% from its debut, a period when the S&P 500 is up 62%.
Despite that spotty record, investors have been passionately awaiting the IPOs of the other unicorns. It’s not entirely clear why it’s taken so long—memories of the dot.com bust? of the financial crisis? shyness in the face of the scrutiny going public requires?—but they’re finally happening. Lyft went public on March 29 at $72 a share. It quickly popped to just under 89, only to reverse. It’s now trading at 59, down 18% from the offering and 33% from the first-rush price. Next up: Uber, the second-biggest of the unicorns worldwide. It filed the preliminary prospectus for its IPO yesterday and it’s an entertaining read.
I love prospectuses. In a society marinating in bullshit, they’re a rare genre where authors are legally mandated to tell the darkest truths. And Uber’s is a fine example of the breed.
It’s not bullshit-free. There’s some jargon-infused cheerleading at the beginning, starting with a block of text announcing “We ignite opportunity by setting the world in motion.” And CEO Dara Khosrowshahi’s opening letter does not shy away from boosterism: “a watershed moment,” “a willingness to…reinvent—sometimes even disrupt—ourselves,” “optimize for the happiness and loyalty of our customers,” “stellar execution,” all capped by a promise of “passion, humility, and integrity.” But soon after the page numbers go from Roman to Arabic, things get real.
First, some figures. Uber loses buckets of money. It lost $3.0 billion in 2018 on $11.2 billion in revenue from its basic operations. It sold its interest in a couple of other ride-hailing firms, which enabled it to book a profit, but despite a tripling in revenue since 2016, its losses were essentially the same in both years.
Then the fun begins, the disclosure of all the troubles facing the firm. For example, you might hope that these losses are just growing pains, although the company is ten years old. But, no: “we may not be able to achieve or maintain profitability in the near term or at all.”
A few more highlights (with direct quotes in italics and my comments in roman type):
The assumed initial public offering price of $_ per share is substantially higher than the net tangible book value per share of our outstanding common stock immediately after this offering. If you purchase shares of our common stock in this offering, you will experience substantial and immediate dilution. In other words, by creating this stock and selling it to the public, we’re slicing the ownership into millions of parts, meaning the new owners will collectively have a far smaller claim on the company than its previous owners. While this is true of all IPOs, it’s one of several reasons to wonder why anyone buys into them. (By the way, the dollar amount is blank because this is a preliminary document and the final numbers haven’t been set. The presumed price is around $100 a share, but Lyft’s stumbling performance may knock a few bucks off the offering price.)
And how much is the company actually worth? They’ve got an answer for that and it’s not an inspiring one: Our historical net tangible book value as of December 31, 2018 was $(7,620) million or $(0.02) per share. Net tangible book value consists of the real assets of a company—its physical properties, like buildings and equipment—less its debts. By this valuation, Uber is $7.6 billion in the red. (Parentheses are how you do negative numbers in financial statements.) Traditional investors looked for stocks with a low ratio of market price to book value; the legendary Benjamin Graham thought you should never buy a stock with a price to book ratio of over 1.5. Uber’s is essentially infinite. But that’s old stick-in-the-mud thinking. According to the new thinking, which went out of fashion after the dot.com bubble burst but has since returned, a firm like Uber’s value comes from intangibles, like its intellectual property, its app, its relationships, its reputation.
Uber has had some serious issues with its reputation (a word that appears 60 times in the prospectus). As they say:
Maintaining and enhancing our brand and reputation is critical to our business prospects. We have previously received significant media coverage and negative publicity, particularly in 2017, regarding our brand and reputation, and failure to rehabilitate our brand and reputation will cause our business to suffer…. We have previously received a high degree of negative media coverage around the world, which has adversely affected our brand and reputation and fueled distrust of our company. In 2017, the #DeleteUber campaign prompted hundreds of thousands of consumers to stop using our platform within days. Subsequently, our reputation was further harmed when an employee published a blog post alleging, among other things, that we had a toxic culture and that certain sexual harassment and discriminatory practices occurred in our workplace. Shortly thereafter, we had a number of highly publicized events and allegations, including investigations related to a software tool allegedly designed to evade and deceive authorities, a high-profile lawsuit filed against us by Waymo, and our disclosure of a data security breach. These events and the public response to such events, as well as other negative publicity we have faced in recent years, have adversely affected our brand and reputation, which makes it difficult for us to attract and retain platform users, reduces confidence in and use of our products and offerings, invites legislative and regulatory scrutiny, and results in litigation and governmental investigations. Concurrently with and after these events, our competitors raised additional capital, increased their investments in certain markets, and improved their category positions and market shares, and may continue to do so.
That ex-employee is Susan Fowler, and her blog post is quite a document. Within a couple of weeks of taking the job, she was propositioned by her manager. She complained to HR, which told her to take another job elsewhere in the firm (though what she was doing was exactly in line with her expertise), or face what would almost certainly be a poor performance review. Her boss wasn’t disciplined. She soon heard of many similar experiences from other women at Uber.
And not just that: “In the background, there was a game-of-thrones political war raging within the ranks of upper management….” No one knew what was going on or how to work. Or, as the prospectus puts it, Our workplace culture also created a lack of transparency internally, which has resulted in siloed teams that lack coordination and knowledge sharing, causing misalignment and inefficiencies in operational and strategic objectives.
But the history of scandal went back further than 2017, most notoriously to 2014, when an Uber exec, Emil Michael, disclosed to a BuzzFeed reporter in a conversation he thought was off the record that he was thinking of spending a million dollars to do opposition research on critical journalists and spread dirt on their personal lives. He singled out Sarah Lacy, who’d been writing critically about the firm on her website, PandoDaily.
All that happened under the reign of Uber’s co-founder, Travis Kalanick, an Ayn Rand-admiring man described by colleagues as a “douche” and an “asshole.” Kalanick was finally ousted by the board after it came to light that the firm had, quite outrageously, obtained medical records of a woman who’d said she was raped by an Uber driver in India in hopes of proving that she’d invented the story. According to Lacy, this was not a new strategy; the firm had been bad-mouthing other women who’d been reporting having been raped by Uber drivers. In June 2017, Kalanick was replaced by Dara Khosrowshahi, the CEO who promised integrity and humility.
But Uber’s troubles have persisted even in the post-Travis era. As the prospectus discloses, we faced negative press related to suicides of taxi drivers in New York City reportedly related to the impact of ridesharing on the taxi cab industry. As of December 2018, eight drivers in the city had committed suicide. One, who shot himself on the steps of City Hall, had said he’d been working 100 hours a week and was still broke because Uber had flooded the streets with competing cars.
Hits to the company’s reputation can do some serious damage, as the #deleteUber campaign revealed. And the firm operates in a reputational minefield: If platform users engage in, or are subject to, criminal, violent, inappropriate, or dangerous activity that results in major safety incidents, our ability to attract and retain Drivers, consumers, restaurants, shippers, and carriers may be harmed, which could have an adverse impact on our reputation, business, financial condition, and operating results.
So, the company is losing billions, has essentially no underlying value, and its business could be hammered overnight. But it’s not just that. As Lacy put it in an interview soon after Kalanick’s ouster, “The thing that’s gonna kill Uber has nothing to do with who’s at the company, has nothing to do with scandals, has nothing to do with any of this. The thing that’s gonna kill Uber is when Uber finally has to charge what it costs to get a car to you.” It’s been underpricing to lure customers, and it’s been paying bonuses to retain drivers—all the while it’s been expanding into new cities. If it ever had to recognize that its drivers are employees and not independent contractors, its costs would rise dramatically. Short of that, it’s facing rude legislation in some jurisdictions: in December 2018, New York City approved per-mile and per-minute rates for drivers, designed to target minimum hourly earnings for drivers providing for-hire services in New York City and surrounding areas. (That minimum wage is $17.22 an hour after expenses, more than $5 below the city’s median wage, though it’s $3 above the existing median for cab drivers.) It’s one thing to pay your drivers pennies and burn your investors’ cash to price below cost; it’s another thing entirely to run a self-sustaining business.
Oh, but driverless vehicles will reconcile all contradictions! Maybe, but: Autonomous vehicle technologies involve significant risks and liabilities. We have conducted real-world testing of our autonomous vehicles, involving a trained driver in the driver’s seat monitoring operations while the vehicle is in autonomous mode. In March 2018, one of these test vehicles struck and killed a pedestrian in Tempe, Arizona. Following that incident, we voluntarily suspended real-world testing of our autonomous vehicles for several months in all markets where we were conducting real-world testing, which was a setback for our autonomous vehicle technology efforts. Failures of our autonomous vehicle technologies or additional crashes involving autonomous vehicles using our technology would generate substantial liability for us, create additional negative publicity about us, or result in regulatory scrutiny, all of which would have an adverse effect on our reputation, brand, business, prospects, and operating results. So salvation from eliminating the human element could take years, with a high risk of intervening unpleasantness.
After reading this, who would buy Uber stock? (Actually, it’s likely that very few people other than professional sceptics read prospectuses, so that’s a rhetorical question.) More broadly, why does anyone buy an IPO? (Somewhat less rhetorical.) After all, they’re always about insiders selling to outsiders, people who know more selling to those who know less. If the newborn stock is such a great buy, why are they unloading it instead of holding onto it themselves? The point is confirmed by the work of Jay Ritter, the leading academic expert on IPOs. He finds that since 1980, IPOs have underperformed the overall market by 18 percentage points. If you want to play the stock market, you’d do far better with a Vanguard index fund, though a moment when the stock market is very richly valued and dodgy IPOs are getting fired off might not be the best time to start.
But rationality be damned! The dream of finding the next Amazon or Google or Facebook keeps the racket going. It may be Uber, but odds are it isn’t.