Category: Featured

In-depth analysis or commentary on companies, securities, or the economy

Is Uber or Lyft stock a Buy?

Should you buy Uber or Lyft’s stock following the IPO? Both have caught a lot of attention in the wave of tech IPO’s that have hit the market this spring. Lyft already IPO’d and surged initially, but has since fallen 33%, which in turn hurt Uber’s expected valuation. Uber priced its IPO at $45 – the low end of its valuation range

I’ll try to help provide some insights into the businesses and “what you need to believe” to invest in these companies. The bull case for Uber and Lyft is that “transportation-as-a-service” or “TaaS” is a new market. While Uber and Lyft are fiercely competitive today, and unprofitable, the market is really 2 players (in the US) and that should ease over time (“think of the great duopoly’s of Visa and Mastercard” the bulls will tell you).

So let’s rehash the investment case:

  • “TaaS” is a large market and growing
  • Upside possible from the “end” of car ownership (and entry of autonomous cars)
  • These are “platform businesses” that can leverage their user base to expand into adjacent markets (UberFreight, UberEats, third-party delivery, scooters, bikes etc.)
  • Only two players today. Now that they are public, competitive behavior should cool as the CEOs will be beholden to new investors

I struggle with the last point for several reasons. Uber and Lyft are not actually the only two players – taxi’s do still exist. While you may not take one every time to the airport, they wait for you when you arrive in a new city as the marginal provider of transportation. When the Uber wait is too long or there is surge pricing, yellow cab is still there… My point is that pricing for Uber and Lyft can only go so high. And who knows if the companies that have succeeded in China and elsewhere are waiting in the wings to enter the US market (and drive down prices). 

If Uber and Lyft can’t raise the the price of your ride, maybe they take more of the driver’s fare. That’s possible, but they also have to incentize the drivers to drive and beat the hell out of their car. As I calculated in my post on what driver’s might make, it is a decent wage, but if you squeeze that too much, they just won’t drive anymore.

Do I think Uber is the Facebook of transportation? No. Facebook increased the return on investment for all advertisers and increased the total pie. Uber drove down the price of taxi medallions because it added significant supply to the market (everyone can now be a driver) and drove down prices.

The other bull case is that Uber or Lyft win the race to autonomy. The reason why this would be so important to the stocks is that autonomy is viewed as a winner-take-all business (think google maps – do you really need another provider?).

There again, I struggle. Calling the winner in autonomy is anyone’s guess. Why would I bet on Uber or Lyft winning vs. Google? I can’t, I can only speculate. And to speculate, I would have to bet that others are not pricing it into the stock. Google spends over $1bn on Waymo a year. I have no insight into this market

Next, to the notion of Uber reducing car ownership. There have been anecdotes of people forgoing car ownership, but that doesn’t seem to be impacting car purchases yet. Car sales, measured by units, are at all-time highs. It’s slowing, but its because we are selling nearly 17MM cars per year and have been for ~5 years. 

Prices too have marched up since the Great Recession. In December 2018, the average price paid for a car was $37.5k, up from $30K in 2013. If Uber and Lyft are having an impact, it is hard to decipher this from the data.

Indeed, while Uber is growing bookings significantly and reported revenue, their growth rates have slowed dramatically. As shown below, Q1’19 adj. rideshare revenue growth is only +9%.

That is materially different than the +21% for the reported bookings. This is revenue that is adjusted to reflect driver earnings as well as incentive comp. An example is provided below: 

As you can see, the driver pay and incentives matter materially here. “Excess” incentives are defined as “payments, including incentives but excluding Driver Referrals, to a Driver that exceed the cumulative revenue that we recognize from a Driver with no future guarantee of additional revenue.” 

Is this number improving for the Company? Hmmm…

Granted, this does include incentives for UberEats and Rideshare incentives are expected to improve for Q1’18 compared Q1’19, but hard to see that the conditions overall are less competitive.

As an aside, I recently had an Uber driver tell me he was going to buy the Uber IPO (he admitted he didn’t study it much, just knew they were growing). That actually could be an interesting employment hedge… if the drivers are hurting, Uber may be doing well – and vice versa!

There are two players so we should compare what they look like. For starters, Uber is much bigger than Lyft and is global. How has that scale played out on the financials? Still a bit too early to see benefits. It’s clear you can see Uber expanding into other markets, while Lyft is focused on the core. 

Clearly, they both burn cash. This actually surprised me a bit. Before the financials were released, I would have viewed the companies as platforms and apps, or asset-light businesses, whereas all the asset-heavy stuff is left to the drivers. Similar to AirBNB, where the homeowner faces the cost of serving the guest and the platform just takes a fee. 

Clearly, that is not the case. They spend a lot on data centers and other infrastructure (more on cash flow at the bottom of this post

We should compare and contrast the two players as well (feel free to add anything in the comments):

Pros of Uber:

  • Larger scale – ride sharing is 5x the size of Lyft.
  • More diverse business with options – UberEats, UberFreight, autonomous… with the added scale. You could argue Lyft is also entering these, but Uber appears to have the lead
  • Valuation seems less demanding – basing that only on Lyft’s valuation and other travel comps

Cons of Uber:

  • Clearly losing share to Lyft
  • Operates in highly competitive markets – as if ride sharing wasn’t competitive enough, Uber got into UberEats (a zero barrier to entry business, but I get why they did it), and freight brokerage

Pros of Lyft:

  • Singular Focus – nothing other than “transportation-as-a-service”. There is some support of companies that focus on one goal tend to execute on that rather than be stretched in all directions
  • Increasing Share – overthe past 2 years, Lyft’s share has grown from 22% to 39%, taking advantage of Uber’s PR mishaps while also being competitive
  • More Upside in Core Market – Similar to the bullet above, if Lyft continues to take share, it seems clear that it will be at the expense of Uber. Given Lyft is 1/5 the size of Uber, there is plenty of share to give

Cons of Lyft:

  • Smaller company / less scale
  • No “other bets” – Similar to google’s “other bets” segment, Uber benefits from its core delivery business, cross-synergies with UberEats, and other bets.  Lyft has autonomous capability, but its anyone’s guess on who wins the war here.
  • Entering more capital intensive businesses – with the entry into scooters and bikes in scale, it appears Lyft is going to now be reinvesting in that business.  (Funny enough, I saw a piece that said Bird Scooters last less than a month)

Perhaps Uber should trade at a significant premium to Lyft due to scale, global presence, and “Amazon” view of transportation. Jeff Bezos wanted the everything store, Uber will be the transportation store. Conquer all, forget profits in the near term, it is all about the next 10+ years…

At $45/share, that means Uber is valued at $82.4BN while Lyft is valued at $15.7BN at $55/share. That places them both at exactly 7.3x 2018 sales…

Perhaps investors are saying Lyft will grow core earnings faster. Perhaps they like the market share gains. Perhaps they view Uber’s other ventures as dilutive. Maybe there is negative view on autonomous given Otto was caught stealing trade secrets and that put them behind. Either way, I am a bit surprised to see Uber trading for the same price (long UBER / short LYFT anyone?).

I will be passing on both. I just don’t see this as a great market and I think it will be forever competitive. It seems like a race to the bottom for both attempts to gain and retain riders and drivers. Yet, there is nothing binding one to either. Therefore, I don’t see much pricing power here, as noted above.

Interesting Insurance Dynamic Not Discussed Often

One last thing — as I was building the cash flow statement for these companies, I noticed working capital changes were an inflow of cash, largely due to changes in an insurance reserve.

At first, it seems that Uber and Lyft are negative working capital businesses (i.e. the more sales grow, they actually get cash in the door like an insurance company that they can reinvest). That could possibly be a great thing. Lo and behold, I learned Lyft and Uber actually have self-insurance.

In other words, when a driver accepts a rider on Lyft, up until the ride is finished, Lyft is responsible for insuring the trip. This is a huge cost.

In fact, cost of revenue is really made up of two main items: Insurance costs and payment processing charges. Payment processing is the merchant fees that credit cards charge. Insurance costs include estimated losses and allocated lost adjustment expense on claims that occurred in the quarter. It also includes changes to the insurance reserves. These latter two items make up the bulk of COGS.

Lyft says in its S-1 that, “By leveraging our data and technology, we are seeking to reduce cycle times, improve settlement results, provide a better user experience, drive down our cost of claims and have fewer accidents by drivers on our platform.”

Clearly, this would be great. But insurance is also one of the items that can be gamed in the future. By reserving less, Lyft and Uber and report higher earnings. This often happens in good times for banks, where they reserve less for bad loans to boots EPS until a recession hits and they realize they didn’t reserve enough.

Analysts typically are wrong in their expectations, but this could be something where they are especially wrong. If analysts think they can leverage COGS more than reality, the forward estimates people are baking in could be too high.

Is Beyond Meat’s Stock a Buy? $BYND

Beyond Meat’s stock surged on its first day as a public company. You could say it was BEYOND expectations. The stock surged 163% in the first day of trading. This was one of the strongest one day performances since the 2000 dot com bubble.

Is Beyond Meat’s Stock… Beyond Sensical?

Beyond Meat’s Valuation is currently is $4 billion based on market cap. Based on my calculation, the company is currently trading at 36.5x 2018 sales. For context, Google trades at 5.0x sales. Tesla is 2.4x sales. I would actually be interested to hear any stocks with higher price / sales multiples that are non-pharma related. Clearly, this is a high multiple.

As an aside, this is actually a poor outcome for the company, all things considered. They could have raised the same amount of money by issuing much less shares if the underwriters had priced it correctly at a higher price. That said, hindsight is 20/20.

But the company IS growing quickly and has noted that it has been capacity constrained. Sales were up 170% in 2018 from 2017 (albeit, only $88MM in sales in 2018 so coming off of a low base). Based on the company’s disclosure, they estimate the total meat market to be $1.4 trillion in size. Clearly, they will not be able to capture the total market here or even come close. What they want investors to say is, “well, if they just get 5% of the market, thats $70BN!”

I don’t think that is going to happen. The product is good, but its not that good. There are also competitors (I’ve personally tried the Impossible Burger and I really like what they’ve done).

When assessing this company’s moat, and taking the ingredient list into consideration, it is hard for me to say over a long period of time no competitor can break in. The ingredient list looks pretty simple to me, so it really comes down to texture. Obviously not an easy task since veggies burgers have been around for at least 30 years, but players are emerging. Again, I’m not being paid by Impossible Burger but it is good stuff!

So is Beyond Meat Stock a Buy?

It seems almost impossible to justify a price to sales multiple like what BYND trades at. That is likely why the underwriters had so much trouble pricing it. But if you take a longer term view, it is actually interesting.

Lets walk through some assumptions:

I am going to assume the company grows 175% in 2019. This is decent deceleration from their Q1’19 pace. The company was able to triple its monthly capacity and its corresponding sales are expected to be up ~290%. Gross margins are also set to improve to ~25-26% of sales, from the 20% area during 2018.

Following 2019, I expect the company to double in 2020, 75% in 2021 (stark deceleration) and 45% in 2022. Once the company has capacity online, its relatively easy to ramp if demand is there and the incremental margins already appear quite strong. I am going to assume they have a 38% incremental gross margins in 2019, stepping up to 40% as they hit the high notes of 2021 and beyond. Long story short, as my snapshot below shows, I have the company reachin 12-13% EBITDA margins by 2022-2023.

The interesting thing is that the business, like most food companies, does not require much capital to grow. Therefore, I have the company FCF positive by 2023. That may not seem that great, but considering the growth, it isn’t too bad.

Why do I think it can even reach $1.5BN in sales? It is a lofty goal, but for one, they really are attacking a huge market. McDonald’s apparently sells 75 hamburgers a second and had franchise wide sales of $86BN in 2018. That’s just McDonalds.

Bottom Line: 

Unfortunately, as shown at the bottom of this snapshot, Beyond Meat’s stock valuation just is not there. It is just way too high. These are optimistic assumptions and by 2023 we’d still be sitting at 20x EBITDA. That seems too rich for my diet.

Sell in May and go away? A look at the risk / reward for 2019 $SPY $IVV

The total return for the S&P500 year-to-date in mid-April is 16.6%. Truly fantastic performance for any year. Clearly, its hard to see whether the gains will continue. The long-term rate of return for the S&P (including dividends) is 9.4% (based on data sourced from NYU). That means this year is clearly above average. Then again, in the past 91 years, how many years have had a higher return than 16.6%??

Well, that may piece of information actually be surprising to hear. There have been 39 other years when the total return on the S&P was higher than 16.6%. That’s about ~40% of the years from the available data!

Clearly, part of the reason for this recent surge was the sell-off in December, where stocks declined nearly 20% from peak-to-trough in just one quarter. The decline was quick and steep and the snap back has been quick and steep as well. We still haven’t recovered to those peaks yet, so a bullish investor could also say we could at least see a couple more points of total return this year from that.

All that said, I have to ask what the risk/reward is at these levels? Is there valuation support?

The consensus earnings estimate for the S&P in 2019 is $164/share. Let’s break that down compared to current trading levels and what that implies (i.e. is the market cheap on its face).

The long-term average P/E multiple is around 15.0x , so this would imply… no the market is not that cheap.

That said, Peter Lynch’s old rule of thumb for if the market was cheap was 20x minus the 10-yr treasury rate (a proxy for inflation). That would put us around 17x-18x. Therefore…the market still doesn’t look that cheap now.

But what if we look to 2020? The market is forward looking after all.

What is interesting to me is that EPS estimate is $184 vs. $163 for 2019. That means Wall Street is expecting a pretty strong rebound in earnings growth, roughly 12.9%. That seems pretty lofty, but if they’re correct, that helps explain why the multiple for 2019 is so high.

But even if it is right, the upside for the next 2 years seems pretty capped. Wall Street also has a tendency to reduce estimates, right up until the quarter, which allows for more “beats”.

I could of course be wrong though. And I probably am. There are more than a couple ways I could be wrong, but for me it means pulling back a bit on my risk.

To be clear and candid though, I would never recommend selling on this. There is a great blog post by Wealth of Common Sense blogger, Ben Carlson, that helps reinforce that point. In that, he highlights the story of Bob, the markets worst timer (essentially he only invests at the peaks). I won’t spoil it for you, but everyone should go read it here. The story has had a long-term impact on me.

JP Morgan also publishes a slide on missing the market’s best days and the cost of being out of the market vs. sitting idle. Look at the difference of just missing he best 20 days of the market out of 20 years! That is missing 0.27% of the total days (20 / 7,301). And note how close together the best and worst returns were (in the box callout).

My takeaway from that is: even if you can call the top, being able to call the exact bottom would be even harder.

CorePoint reports Q4’18 beat, but inflation pressures dampen 2019 outlook. Stock is taken to the woodshed, but ignores upside from divesting non-core assets $CPLG

CorePoint had a nice run from my recent write-up in January, up 12.5%. Q4’18 earnings beat expectations too, reporting comparable RevPAR growth of 9.9% and adj. EBITDA was $30MM, 13% higher than street expectations.

However, the stock was taken to the woodshed on Friday (March 22) when the company’s outlook disappointed.

The company’s outlook called for $173MM to $184MM of EBITDA compared to $199MM by consensus (though only one analyst covers the stock, so hard to say there is much of a consensus). Like many others have announced, CPLG is cost inflation in its operating costs (e.g. payroll).

In addition, the company’s hurricane-impacted hotels would not be adding as much EBITDA as originally expected. The company previously said it lost $20MM of EBITDA from the hurricanes on these assets. Instead of getting the full EBITDA back, mgmt expects just $10MM of EBITDA. It also expects $7MM from re-positioned hotel portfolio, but expects pressure in its oil-related market (company’s largest state exposure is Texas).

This is clearly disappointing, but not sure its worth the 26% drop on Friday. Like anything, it is likely a mix of factors. Part of this could be spin dynamics. In other words, people decided to blow out of CPLG now because they didn’t want to hold the stub piece long-term anyway. Another piece is likely due to the recession fears that were re-ignited on Friday that led to the S&P being down 1.9% in one day (the worst day so far for 2019). Hotels do not do particularly well in downturns.

Silver Lining -> Strategic Opportunities

There were several silver linings that management highlighted on the call, overshadowed by the market’s focus on the 2019 EBITDA outlook.

First, there are several strategic priorities for 2019:

  1. Improve Operating Performance
    • Clearly, the company is facing cost headwinds. Therefore, its strategic priority is to identify underperforming hotels that have revenue and cost synergies available
  2. Benefit from Wyndham Relationship
    • CPLG transfers onto Wyndham’s platform in April 2019 and full integration will be complete in 1H’19.
    • There are clearly cross-selling opportunities and increased distribution for their hotels.
    • I continue to think it is underappreciated that La Quinta had 15MM loyalty members, but Wyndham had 55MM in 2017. Those Wyndham loyalty members will now be able to book La Quinta’s in 2019.
  3. Divest Non-core Hotels
    • CPLG sold 2 hotels in Q4 for $4MM. Mgmt noted these hotels were operating at significantly depressed margins.
    • More importantly, the company has identified 76 other non-core hotels that are operating at a hotel adj. EBITDA margin of 8%, well-below the 26% average of the core portfolio. In addition, RevPAR is 40% below the core average.

I have written about the first two points in my previous post, but I want to focus on the last point because divesting these hotels could be extremely accretive to the equity. Recall, the SEC document here cites $2.4BN of hotel value compared to $1.6BN of EV. To me, if the company can sell these hotels at higher prices than what the market has ascribed to them (currently a 33% discount to the 2018 appraisal), that will be a solid catalyst for the equity.

When reviewing the portfolio as a whole, and what constitutes “non-core” it becomes more clear why it makes sense to divest these assets. The company will lose $138MM of sales, but very little EBITDA in the grand scheme.

What I think is the most compelling case for upside on the equity is what the 2 under-performing hotels were sold for. Very low EBITDA margin, these hotels were sold for $4.5MM. As Sam Zell has said, investing in real estate many times comes down to replacement value. Perhaps what this sale represented.

Anyway, I don’t think it would be appropriate to think that these 2 sales are data points we can anchor on, but let’s run through some scenarios. First, let’s sale they get the same price/sales multiple.

Translating that into what happens to the valuation of the company:

This math roughly lines up with what is presented in the chart above provided by the company. And what this means is that if you think the company can get $230MM for these assets, the core portfolio is trading for ~8.0x and a 12% cap rate!

Indeed, no matter how you cut it, the PF valuation is very attractive.

So let’s say you think the portfolio should be 8.0% cap rate (a discount to the valuation given in the CMBS report). This points to a $21.6 price target. And this doesn’t bake in any growth for the next 2 years, it simply excludes the non-core portfolio.

Diversification: What worked in 2018 and comparing that to what worked in 2008

No surprises here, when volatility reared its head throughout 2018, the “safety” classes outperformed risk. That should make intuitive sense, especially when considering the S&P500s 18.7% return in 2017 (and 21.4% when including dividends).

But as we all should know, it pays in the longer term to have some diversification. If anything, I prefer to have some asset classes that zig while everything else zaggs. For example, in 2018 the S&P was down ~5% for 2018 when including dividends.

But looked at what happened right when volatility hit (as a reminder, 2018 was not a good year for bonds up until that point… the 10 year treasury yield had moved up to 3.25% in October). Long-term treasury bonds nearly erased their losses and the aggregate bond index eked out a small gain. Purchasing power maintained.

asset class returns

As I shared in my post on Ray Dalio’s All Weather portfolio, I like to see what worked in the last recession as it may provide an indication of what worked then and what will work in the next recession. Obviously, history does not repeat itself, but there is a pattern here: good times – risk stocks outperform. Bad times: people fly to quality. The important thing is being the right sport before everyone else does.

So lets look at what would have preserved purchasing power the best in the last cycle. I want to see what did well in 2008.

  • The blue line is a 60/40 portfolio of stocks and the Barclay’s Agg index (bonds)
  • The red is a selection of assets that performed the best with minimum volatility (more on this below)
  • The yellow line is simply the S&P500

2008 comparison

Surprisingly, this is the breakdown of what constitutes the red line may not be intuitive. It is made up of:

  • 40% S&P500
  • 26% long term treasuries
  • 14% gold
  • 12% MLPs
  • 8% high-yield bonds

The treasuries clearly helped perform then, both from a flight to quality in the Great Recession as well a compression in interest rates. As you can imagine, this would have allowed you to sell some outperforming asset classes (i.e. treasuries) and buy underperforming assets (stocks).

The same is true for 2018. Having some exposure to bonds would have given you the privilege and opportunity to buy stocks!