Contention’s market dead pool 2023, Part 1
Tesla, rideshare, delivery platforms are all going nowhere
Welcome to Contention! This one will take about seven minutes to read. It’s also our LAST edition before we switch to a paid subscription model. We’ll still have some free pieces (so keep reading), but the only way to get all of our analysis will be to subscribe -- details with Part 2 on Wednesday.
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The new year could not come soon enough for Wall Street. Stocks lost more in 2022 than in any year since 2008, and bonds had their worst year on record -- at least 250 years. Put together, it was an historically bad year for asset prices.
Now 2023 threatens to spread the pain deep into the “real” economy. Which bubble-era power players are most likely to go belly up first?
We usually try to avoid predictions here at Contention, but a few sectors and firms look especially ripe for culling. Each is a jumping off point for understanding some of the forces at play in what might be a long year not just for investors, but more importantly working people and their families. One of the only ways to maybe get some good returns: betting in a market dead pool.
Let’s take a look at the contestants.
The poster child of the” everything bubble,” electric vehicle company Tesla, has already fallen an incredible 72% from its November 2021 high water mark. The slide has accelerated, with a 12.2% drop on the first trading day of the year.
What sparked the bust? The same element that’s behind all market malaise right now -- interest rate hikes by the Federal Reserve and other key central banks. The idea is to force an economic slowdown to “cool off” an “overheated” economy, code words for pushing down wages by weakening labor bargaining power.
Billionaire investor Warren Buffet once said that it’s only when the tide goes out that you can see who’s been swimming naked: economic downturns expose bad businesses that have stayed afloat with easy money. For years there have been questions about Tesla’s balance sheet pointing to potential fraud. We summarized some of these in two articles in 2021, but by way of summary:
Tesla has a suspiciously high level of accounts receivable for a car company -- i.e. IOUs from customers. Cars are bought with cash, but Tesla reported $2.3 billion in AR in Q3, $1 billion more than its historic average.
Tesla grossly under accounts for warranty costs -- the money it sets aside for warranty repairs when it sells a new car.
The company’s expenses are completely out of whack with revenue growth -- overhead only went up 8.2% in two years despite more than doubling deliveries over a period with annual inflation of 8%+. They may be using accounting tricks to hide expenses from cars they can’t sell.
If Tesla really is lying about its balance sheet and cash flows, then the bigger the hole they have to fill with funny numbers, and the harder it is to keep the fraud going. Rising interest rates make cars harder to finance, with auto sales already plummeting 8% in 2022. And Tesla’s surging deliveries over the last few years mean that there is now a large and growing used stock that can undermine their new sales. Only large discounts in its China market helped it meet a delivery rate well below target at the end of last year.
More and more leaks are popping up in Tesla’s dam -- can it hold all the way through 2023?
Rideshare and Delivery Platforms
Debt is time travel for money, bringing the future’s income into the present, and most people would rather have money today than tomorrow. If you want them to wait for it, you have to pay them a premium -- interest, the price of time. The higher the rate, the more valuable time becomes, or to put it another way, the sooner investors or lenders expect their returns.
Decades of low interest rates -- and 14 years of zero or even negative rates -- have essentially told businesses “just pay us whenever.” But now that time has become much more expensive and promises to stay that way at least through 2023, the deadline for profitability has moved up quickly. This is bad news for a sector where companies have rarely turned any profits -- rideshares and food delivery.
Both Uber and Lyft report “adjusted” profits, but this works by “adjusting” away expenses until they are less than revenues. Delivery is even worse, with none of the major players ever claiming even a funny money profit. It may be impossible for these companies to ever turn a profit unless most of them go out of business
The business model is simple: customers pay an average amount for rides or deliveries over time, the platforms pay a portion of that to the drivers, and in the case of the delivery apps, some portion of that is paid back to the kitchen. The more often the customer uses the app, the more money the platform makes, but customer acquisition costs and marketing -- especially discount incentives or bonuses for drivers -- have to be subtracted out too.
None of these businesses are profitable now, so to get there they need to either increase revenue or decrease costs:
They could increase average order/ride costs -- they already are -- but this drives away customers, especially as a recession sets in.
They could increase their take rate from restaurants or cut their payments to drivers, but this throttles supply and makes the platform worse for customers. At least 30% of drivers already lose money working for rideshare apps, and 74% make less than minimum wage.
They could cut customer acquisition or marketing costs, but this likely means fewer customers or drivers, again wiping out any savings.
They could increase customer frequency, but with near zero switching costs between competitors this takes new investment in customer acquisition, adding new costs.
Peter Thiel is a fascist comic book villain, but he makes an important observation that businesses that aren’t monopolies compete away all of their profits. The only hope for any of these platforms is for the others to go under so they can trap dependent drivers, restaurants, and riders and seize monopoly rents. One of them may get their wishes in 2023.
Wednesday we’ll look at two more contestants for the market dead pool: commercial real estate and crypto giant Binance. But the bottom line today is clear: as long as money is free, markets reward bad accounting -- 2023 might see the delusion come to an end.
Our only investment advice: Read The Price of Time.
Contact us with any questions, feedback, or stories we might have missed.