12 Jul The “Sharing Economy”: Positive for Consumers, Negative for Investors
Thinking Man Series #32
Over the past few years, we have seen the launch and rise of several new companies like Uber, Groupon, and AirBnB. These companies may have started in local markets with a mostly Millennial customer base, but they have now evolved into global enterprises used across generations, creating a viable alternative to traditional methods of transportation, lodging, computing, food delivery and even legal services. These companies are all part of a group known as the “Sharing Economy.”
There has been quite a bit of buzz in the investment world about these companies, which often boast sky-high valuations. Many of these companies have the backing of important venture capital firms or titans of Silicon Valley. Clients have been asking us whether it makes sense to consider some of these companies as potential investments. It is our belief that while companies in the Sharing Economy have made things much more efficient by using technology, it remains uncertain that they will build a business of lasting value, or have a clear path to shareholder value creation. There are just not enough profits to share in the “Sharing Economy”. Most of the benefits are for consumers – which is why we believe clients should be consumers and not investors in these companies.
What is the Sharing Economy?
The Sharing Economy encompasses a new wave of companies that use the Internet to attack inefficiencies in the supply of goods and services. These companies create attractive offerings for customers by making them highly convenient and cost efficient. Perhaps the most well- known is Uber, the on-demand personal car service that is typically cheaper than a taxi. Uber users request the service from an App on their smartphone, which instantly locates and summons the closest Uber driver in the area. Users are notified of their wait time and details on who their driver is – what type of car they drive, their name, and rating. The driver picks up the user from the user’s current location, and is obligated to take the user to any location of their choice. Uber is now available in 58 countries, 300 cities worldwide and services more than 8 million users.
The Sharing Economy has taken off in the last few years, thanks to the use of mobile technology and popularity of smartphones (85% of 18-29 year olds and 79% of 30-49 year olds in America own smart phones). Mobile technology allows consumers and producers to be instantly connected at any time and any place, removing barriers to supply and demand and creating more efficient markets.
Take TaskRabbit, a Sharing Economy company, as an example. TaskRabbit’s mobile marketplace allows users to outsource small jobs and tasks – from assembling furniture, organizing closets, to doing yard work or waiting in line for concert tickets. TaskRabbit users describe what they would like done, and the price they are willing to pay for it. A network of pre-approved local contractors bid to complete the task at hand. This is a prime example of what many of these Sharing Economy companies do – make the local business marketplace more efficient, providing both customers and providers access to each other.
Over the last few years, there has been a boom of Sharing Economy companies in all types of different markets, as demonstrated by the above graphic, which highlights some key players across the space. You can see that these companies are not limited to providing personal goods and services – Amazon’s Web Service, for example, allows corporate clients to obtain computer service infrastructure through its cloud computing services. Their customers do not have to own any servers or other large and expensive equipment that was required a few years ago.
Who does the Sharing Economy benefit?
The Sharing Economy has opened up the marketplace for providers of goods and services, allowing many local businesses or individuals – who did not have the correct infrastructure – to compete. Now consumers have more to choose from – and these providers must differentiate themselves by offering more competitive pricing and more added value. When Uber first started in San Francisco in 2011, the minimum ride fee was $15, and prices were slightly higher than local taxis. They quickly noticed that consumers were not willing to pay more and changed the pricing model to be lower than taxis, and also reduced the minimum to $5 – a model they have stuck with. A recent study by Harvard Business School found that he Sharing Economy companies which offer more access and convenience to consumers with lower prices have proved to be the most competitive and made the most gains in terms of market share. The study points out that customers are using these companies not for any community building or social network effect (as some of these companies promote) but for the reason any capitalist consumer purchases a good or a service: because it gives them the most for the price.
What are the Implications for Investors?
Over twenty years ago, there was a company called Webvan, one of the first Sharing Economy companies, whose mission was to deliver fresh produce and high quality fish, meat and other groceries to user’s homes. The company raised $800 million through venture capital firms, and in 1999 went public with a strong IPO. In 2001, after their service proved to be too costly, Webvan went bankrupt. This may serve as a cautionary tale for the current wave of Sharing Economy companies. Will we see a similar trend with companies offering services that may be too costly in the long run?
Are these valuations justified? Revenues and other key financial data of these companies are kept under close wraps as they are private companies, so it is hard for outsiders to understand exactly the base of these valuations. However, we encourage our investors to look at these companies with caution.
Very few people will argue that Sharing Economy companies have done wonders for consumers- making goods and services more convenience and cost effective. Their technology has make the old “brick and mortar” economy much more efficient. However, it is still unclear whether these companies are going to build lasting value for shareholders. Creating markets that are more efficient does not necessarily translate into creating output – or value.
Some analysts fear that companies will make profits in the short term – picking the “low hanging” fruit or profits that initially result from the market reaching a more natural equilibrium. Companies may use these profits as a base of unrealistic projections of future earning and valuations, which could be unsound as they may be based upon unsustainable initial success which may be difficult to replicate in the longer term.
The ease of setting up Sharing Economy businesses has also meant that there can be more than one Sharing Economy company competing in the same space. Take Lyft, for example, a similar personalized car service to Uber. Lyft is trying to carve out their own market share – and one way is through offering customers lower prices than Uber. In fact, this past week, Lyft has been offering all Miami users a 50% discount for all rides in the Miami area. GrubHub and Seamless Web both compete for local food delivery business and offer competitive weekly promotions to their customers – 10% off certain restaurants if you use one provider, or a free appetizer if you use another. Tiernan Ray, a Tech Analyst at Barron’s points out that “there may end up being a lot of companies with their fingers in the same pie of local business.”
In conclusion, the Sharing Economy will likely continue to use technology in fascinating ways to make markets more efficient and bring more interesting options to consumers. We think it is much better for clients to thus use these companies as a customer, rather than an investor.
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