Is Lyft becoming the next Amazon? A look at its IPO

March 21, 2019 10:43 AM

Lyft, the No. 2 ride-share competitor behind Uber, recently filed its Form S-1 Registration Statement with the SEC in preparation for an IPO, and the data it revealed is eye-popping.

While most potential investors will quickly focus on the losses Lyft has incurred over the last three years, it’s important to remember: It’s a startup in a fast-growing market, whose early performance mirrors that of Amazon.

Amazon went public in May 1997 after years of losses and only reported its first profit of $5 million in the fourth quarter of 2001 according to business magazine Quartz. It was growing during a transition when retailing of books went from brick and mortar stores to online. Amazon invested heavily to beat out much larger competitors such as Borders Books, Crown Books, Waldenbooks, Book World, B.Dalton – none of which exist today. Only Barnes & Noble has survived, but it’s considering putting itself up for sale.

Much like Amazon has grown its e-commerce empire into a significant platform for payments and merchant services, gig-economy companies like Lyft, Uber and Grab have made their mark on mobile payments and other financial services. An IPO would add fuel to any of those initiatives.

Lyft’s revenues nearly tripled in 2017 over 2016, and then again doubled in 2018 over the previous year. Unfortunately, such dramatic revenue growth comes at a heavy cost, according to Lyft’s S-1 Registration. The company incurred heavy losses in its last three years of business, with 2018 being the deepest of them all.

On the positive side, the cost of revenue (which includes payment processing costs, insurance and more) has fallen from about 81 percent in 2016 to 62 percent in 2017 and roughly 58 percent in 2018.

Lyft saw its operations and support expenses grow from $97.9 million in 2016 to $338.4 million in 2018. It also saw its R&D expenses grow by almost five times between 2016 and 2018, to the tune of just over $300 million as it explores self-driving cars.

Probably the most relevant figures investors and financial partners will want to examine are the sales and marketing costs, which went from $434.3 million in 2016 to over $803 million in 2018. Essentially Lyft is using this increased sales and marketing expense to recruit drivers and incentivize riders to grow its business.

Lyft calls the ride-sharing Transportation-as-a- Service (Taas) as it predicts the world will shift away from individual car ownership to a service model that maximizes the efficiency of transportation for both drivers and riders. By examining the number of rides it provides each quarter, it’s quite possible Lyft is at the forefront of a revolution in how people use cars.

In its S-1 Registration, Lyft reports that it had a 39 percent share position of the ride-sharing market in December 2018, up from a 22 percent share position in December 2016. The data was collected by a third-party research firm, Rakuten Intelligence, and is based on the number of rides provided by Uber and Lyft. Lyft operates only in the U.S. and a few Canadian cities such as Toronto. Lyft was averaging about 1.5 million monthly rides in Canada by mid-2018. Note: Rakuten Intelligence’s parent company, Rakuten Inc., owns more than 5 percent of Lyft Class A stock, so there is some possible conflict of interest, yet it is disclosed on the same page as the market share figures.

By annualizing the fourth quarters of 2016 and 2018, an approximate annual market size of rides can be derived (assuming all quarters stay the same and Lyft had a constant market share during the quarter). The annualized totals for 2016 and 2018 were approximately 956 million and 1.83 billion rides, respectively. The 2016 figure is only the U.S. market while 2018 is mostly U.S., give or take about 20 million Canadian rides. In other words, the U.S. ride-share market has nearly doubled in size in just two years.

The true measure of a quality product that delivers value is its ability to get its customers to not only return for repeat purchases, but also to buy more each time they come back.

Lyft evaluates this phenomenon by tracking annual cohorts of riders. Lyft defines a cohort of riders as people who took their first ride on its platform through the Lyft app in a specific year.

For the cohort years 2015-2017, each subsequent year they rode Lyft, they increased the aggregate number of rides they were on the service. For example, the 2016 cohort took over 70 million in 2016 and then the riders took 116 million rides in 2017 and over 119 million in 2018.

Another interesting point in measuring cohort repeat usage is that the first year of each cohort has been larger than the preceding one. This is most likely due to a larger number of riders who use the service more frequently, whereas early adopters may have been first testing out the service or were limited by Lyft’s initial coverage.

In 2017 McKinsey conducted a study of existing users of ride-hailing services, a more inclusive term of ride-sharing services since it includes taxi-based hailing apps, to measure their expected future usage of these services. Overwhelmingly a majority (63 percent) of users expected to increase their usage over the next two years, while roughly one third (32 percent) expected their usage to remain the same. Only 5 percent expected to decrease their future usage.

While taxis have attempted to counter ride-share companies such as Uber and Lyft with their own ride-hailing apps, they have struggled because the two service platforms are different. The initial focus of apps such as Verifone’s Way2ride placed too much emphasis on making the payment and viewing media in the cab, similar to gas station tv — as opposed to the “Uber-like” user experience which pushes the payment into the background.

Obtaining a driver’s license was once considered a rite of passage for teens and young adults.

Times have changed and so has the value of a driver’s license. According to a University of Michigan Transportation Institute Study that examined Federal Highway Administration data covering the ownership of a driver’s license by various age groups, it appears that fewer younger consumers are holding one in their wallets or purses.

In 1983 over 80 percent of 18 year old adults owned a driver’s license, but fast forward to 2014 and that ownership rate has fallen to just 60 percent. Consumers in the 25-29 year old segment had an almost 96 percent level of driver’s license ownership in 1983 – practically everyone. Yet by 2014 that ownership rate has fallen to 85 percent, more than 10 percentage points lower.

While the study doesn’t provide reasons for the decline in ownership, factors may include the rise of ride-sharing services such as Lyft, the increased cost of automobile ownership, more consumers wanting to live in urban markets, and a general consumer shift toward a shared economy of expensive assets such as homes, cars, and more.

Could Lyft end its relationship with Stripe in favor of Braintree, Adyen or someone else as its primary payment processor?

The cost of processing payments at Lyft has rapidly grown in the last few years, forcing it to launch a payment processing initiative in an effort to reign in those expenses. In the S-1 Registration (pages 90-91), Lyft states it added a second payment processor for credit and debit card transactions. It also adds that it expects the fees paid to this secondary processor will be lower than its primary provider.

While Lyft does not name its processors in the S-1, it’s stated elsewhere (such as the November 2018 Addendum to the Lyft Driver agreement) that its primary processor is Stripe.

In reviewing the Canadian Lyft Driver’s agreement, it points out that payments are processed by a third party such as Stripe or Braintree (a division of PayPal) and that the processor can be changed at any time. It’s the first hint that PayPal may be courting Lyft.

Lyft drivers are clear winners in the IPO, of course along with investors such as Rakuten. It is not a given that employees or contractors (in the case of Lyft) will always benefit when a company goes public, but the fact that Lyft has taken the position to call out the program in its S-1 Registration (pages 14-15) has definitely put Uber on notice for its potential IPO later this year.

If Uber does not reward its long-term drivers when it does its IPO, it can expect a mutiny.

Lyft reports that it has 1.9 million drivers in 2018, yet it does not state how many will qualify for the bonus program. The S-1 Registration calls out that 91 percent of its drivers drive fewer than 20 hours per week, meaning it's not their full-time job.

Nine percent of the drivers are veterans and one-third (34 percent) are over the age of 45. The last statistic about age is interesting since it means that there is a high proportion of drivers who are part of the gig economy and a key driver behind the need for Lyft to enable faster payments.