BY RICHARD BEALES

Lyft is making an optimistic tweak to the accounting lexicon. The ride-hailing firm has inserted the concept of “contribution” into its initial public offering prospectus. It’s a metric that’s supposed to represent a steady-state level of profitability, excluding the costs associated with growth. Lyft’s take on it, though, is for a world that doesn’t exist.

The problem for Lyft, its larger rival Uber Technologies and the likes of trendy office-space provider WeWork is that profit by any standard measure is absent. That makes valuation a crapshoot and deters some investors. Even adjusted EBITDA, which involves usually flattering tweaks, is deep in the red, to the tune of $944 million for Lyft last year on revenue of $2.2 billion.

All these companies spend heavily to increase market share and enter new areas. Investors know growth costs money. Yet it makes sense to try to understand what the mature economics of a business might be. That’s what Lyft’s contribution is trying to get at. WeWork came up with what it called community-adjusted EBITDA to express something similar: This is how profitable we would be if we stopped trying to grow and let our business cruise.

Lyft’s contribution has some problems, though. First, the usual definition is revenue less all variable costs – it’s a measure of marginal operating profitability. The Lyft version starts with ride revenue – which already removes the drivers’ take – and backs out insurance, payment-processing fees, other direct costs of rides, but essentially nothing more.

It excludes sales and marketing expenses, for instance, the company’s second-largest cost line and surely necessary in competitive markets where customer churn is inevitable. Little wonder the company pegged its 2018 contribution margin at a healthy 43 percent.

Second, there’s a philosophical problem when it comes to valuation. Lyft may target a public market capitalization of perhaps $25 billion, according to Reuters sources. That’s the kind of eye-watering multiple of sales that only rapidly expanding companies attract. Switching off growth in the foreseeable future, even in return for profit, would knock that down sharply.

Monitoring contribution may help Lyft’s bosses maintain cost discipline, up to a point. They should, however, recognize that the metric is overly generous, even compared to WeWork’s community-adjusted EBITDA. IPO investors should probably ignore both of these numbers altogether.

First published March 14, 2019

BY RICHARD BEALES

Snagging even 1% of a multi-trillion-dollar market is an alluring goal for a startup. It’s also the sort of ambition that makes an attractive case for all kinds of fast-growing but loss-making companies, including those going public, like Uber Technologies, Lyft and WeWork. But investors faced with inflated estimates for just how much custom these newbies can rustle up should don their skeptical hats.

Uber, which fell nearly 9% in early trading on Monday after making a weak New York Stock Exchange trading debut on Friday, says its ride-hailing “total addressable market” is $5.7 trillion. That’s essentially the value of all journeys taken by everyone in 175 countries, whether by private or public transport. Add TAM estimates for food delivery and Uber’s unit that connects freight customers and shippers, and the company’s overall estimate of business it can target rises to $12.3 trillion.

That’s laudable enthusiasm from Chief Executive Dara Khosrowshahi and his crew. But it’s ludicrous if it’s understood as annual revenue that’s up for grabs. It’s the equivalent of roughly 50 times Apple’s annual sales. The silliness becomes clear looking at the Uber Eats food-delivery unit. The company’s proposed TAM, at $2.8 trillion a year, is mostly made up of estimated spending by customers in eat-in restaurants, involving no delivery whatsoever.

Lyft is somewhat less exuberant, claiming only that it addresses “a substantial majority” of a $1.2 trillion consumer transportation market in the United States, its main focus along with Canada.

Shared-office provider WeWork, meanwhile, has been associated with a far larger target on the distant horizon: a worldwide stock of real estate worth over $200 trillion, according to a Wired article citing a Savills study. That’s an asset valuation, not even a far-fetched revenue figure. Yet it clearly underlines the tendency towards hype when it comes to quantifying the outer reaches of a startup’s potential.

It’s serviceable…

Analysts at Morningstar point out Uber can’t actually address most of its TAM. In a positive report on the company’s stock published just before the initial public offering last week, they put a more realistic addressable market at $740 billion by 2023 for the company as a whole. That’s because not everyone will give up all public transport or private cars, for example.

To be fair, Uber also calculates what it calls a “serviceable addressable market” or SAM, a measure of the market it currently operates in, rather than its aspirational universe. For ride-hailing, that excludes journeys of more than 30 miles and trips on public transport. It limits the countries counted to 57, and totals a mere $2.5 trillion.

Uber’s growth in this line of business is slowing, despite snagging only around 2% of that amount in gross bookings last year. Total revenue and ride-sharing bookings both increased around 20% in the first quarter from a year earlier, according to the company’s estimates. By contrast, both surged more than 40% in 2018 from 2017.

One interpretation is that in real life there’s far less headroom for Uber to grow than even the SAM would suggest. Moreover, Uber’s actual revenue is only a portion of its total bookings, because drivers take a hefty slice.

…But is it obtainable?

As well as TAM and SAM, there’s a third set of initials available. “Serviceable obtainable market,” or SOM, also considers real-life annoyances like the presence of alternative options for consumers and direct competitors.

Analyst Alex Graham, writing on the Toptal website, lays out his version of the TAM, SAM and SOM for WeWork. For TAM, he counted office workers in Organisation for Economic Co-operation and Development countries who could conceivably share space and attached an assumed seat cost to each. In his 2017 analysis, that produced $1.4 trillion as a theoretical annual revenue opportunity.

That’s huge as a potential market goes. But the contrast with $200 trillion of real-estate asset value – or even the $10 trillion or so of annual rents that might represent, assuming a 5% global yield, or cap rate as it’s known – is stark.

Knocking out types of customers WeWork doesn’t target in any way, Graham’s SAM comes to around $170 billion – a little over a tenth of the TAM figure. That’s supposed to be the market if everyone who realistically could use WeWork’s services did so. The company did a similar analysis itself in an investor presentation published by BuzzFeed in 2015, coming up with what amounts to a U.S.-only SAM of some $93 billion.

Then Graham makes assumptions about workers actually available to WeWork, bearing in mind there are big companies who will always run their own offices, people who will always work in local coffee shops, and direct office-sharing competitors. His figure for WeWork’s obtainable market, the SOM, is $35 billion.

WeWork’s revenue last year more than doubled to $1.8 billion. Somewhat like Uber and Lyft, though, the growth comes at a huge cost: the company lost $1.9 billion in the same period.

The company led by Adam Neumann is growing fast and providing a service people want, and it boasts a $47 billion private-market valuation. Graham’s analysis, even the SOM, suggests there’s lots of room to grow, but only to a fraction of the biggest numbers on its slide deck. As IPO investors consider what WeWork is worth to them, they should make sure they don’t exhibit total addressable credulity.

First published May 13, 2019