Uber (UBER +4.26%) and Lyft (LYFT +3.62%) are two ride-share giants whose stocks have seen a spectacular performance, up 50% and 96% year over year. But don't be fooled by the rally -- the golden age of investing in their stocks is quickly coming to an end.
The onset of the pandemic brought attention to fundamental problems as to how Uber and Lyft make money -- and the details aren't very encouraging. Let's look at why investors should steer clear of their paths at all costs.
Image source: Getty Images.
The questionable economics
The tech behind Uber and Lyft is great, but their business models have severe viability issues. Uber and Lyft are currently not profitable -- they lost about $1.52 billion and $416 million off $2.90 billion and $609 million in revenue, respectively, in the first quarter. Their situations are not going to improve during the pandemic. First of all, due to a global semiconductor shortage (that's admittedly easing slowly), there aren't enough cars available for purchase to convert into ride-sharing vehicles. Secondly, Uber and Lyft drivers make about $22 an hour. Keep in mind that's not accounting for expenses like gas, so it's really difficult to compete with state unemployment payments at that level. There is very little incentive for most drivers to go back to work.
Lastly, and ironically, Uber and Lyft lost a bit of their competitive appeal after becoming public companies. Unlike start-up co-founders, public investors are usually not concerned with their altruistic goals of creating pleasant, affordable ride-share services. Instead, investors are looking for profits. So, in the face of a driver shortage and lack of vehicles, Uber and Lyft jacked up prices for their rides.
Before becoming public, the companies could price their fares at a loss for the sake of growing their member counts. That's no longer the case, and prices are rallying toward each ride's true unit economic cost. For example, a ride back home from the airport via Uber or Lyft (less than one hour) could cost as much as $100 to $150. That's much more expensive than a taxi or renting a car for the day to get home.
The plight of the ride-share drivers
Despite being essential to Uber and Lyft's function (transporting passengers from A to B), their drivers are not classified as employees, but independent contractors. On the one hand, drivers get the freedom to work whenever they want -- which is always a good thing. On the other hand, however, that legal classification means drivers receive no compensation for work-related expenses such as fuel costs. They are not eligible for health insurance coverage or 401(k)s, and receive no severance in the event of termination. They don't get maternity leave, overtime pay, vacation pay, or sick leave, and worst of all, drivers are not guaranteed a minimum wage.
Not having to pay out any benefits saves Uber and Lyft a lot of money -- but it's not sustainable, as it constantly puts the two in a negative spotlight. For example, an uncovered accident in an Uber vehicle can cost drivers thousands of dollars, wiping out months of income made via the ride-sharing app. Even though it's a work-related vehicle, drivers don't get reimbursements from Uber.
Luckily, government bodies are starting to hone in on this issue. On July 1, Seattle Uber and Lyft drivers became the first gig workers in the country to receive labor protection at the municipal levels. Under the legislation, drivers will receive consultation and support services regarding termination; they will also receive legal representation in the event of disputes with the parent companies. It's a small step, but the nation isn't far behind either. Both the U.S. Secretary of Labor and G20 labor ministers support tougher rules to protect gig workers' rights. On top of that, on March 9, the House of Representatives passed the Pro Act, which would grant gig workers the right to unionize. Although the legislation still needs to pass the Senate and be signed by Joe Biden to become law.
Classifying drivers as employees would cause Uber and Lyft's operations and support expenses to skyrocket, which already amounted to about 14% of revenue in Q1 for both companies. Over 4.5 million drivers currently work for Uber and Lyft.
Bad time to invest
Uber and Lyft stocks are both trading around 5.6 times revenue -- indicating that investors still expect them to grow their sales as part of a post-pandemic rebound. However, I think the two companies will have significant problems staying afloat now that COVID-19 is dissipating. To keep fare costs down to attract more riders, Uber and Lyft need to pay their drivers a lot more, so they return to work, but that would inflate their operating expenses and steer the two companies further away from profitability. In addition, looming labor laws could further add weight to this seesaw that's already difficult to balance. Overall, now is just not the time to invest in Uber or Lyft.
