Last week, the stock of Uber Technologies experienced significant volatility, plummeting after the company reported earnings on Feb. 5, but bouncing back sharply toward the end of the week.

The earnings report revealed that, despite revenue and earnings per share exceeding expectations, investors reacted negatively due to a less-than-optimistic growth outlook and ongoing concerns about autonomous driving technologies.

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However, the stock rose the following day and again on Friday, largely because hedge fund manager Bill Ackman announced on X that his fund, Pershing Square Holdings (OTC: PSHZ.F), had acquired a 30.3 million-share stake in Uber, valued at $2.26 billion. In his post, he praised Uber as “one of the best managed and highest quality businesses in the world,” stating it can “still be purchased at a massive discount to its intrinsic value.”

This purchase is notable, as Ackman maintains a concentrated portfolio of only 10 to 12 stocks. Uber stands out as a market leader; however, investors should consider three points of caution before buying its stock. Collectively, these concerns have left this particular investor wary.

First Concern: Misleading Value Metrics

Investors should ensure they are accurately assessing Uber’s stock value. Ackman’s valuation approach may be unclear, but there are complexities in Uber’s financials that can mislead. In 2024, a significant discrepancy arose between the company’s actual earnings capacity and other reported figures such as net income, adjusted EBITDA, and free cash flow.

Here are some of Uber’s reported profit metrics for full-year 2024:

Data source: Q4 earnings report.

At a glance, Uber seems attractively priced, with a P/E ratio around 16, an enterprise value-to-EBITDA ratio of 21.8, and an EV-to-free cash flow ratio of 20.5.

However, these seeming bargains lose appeal when assessed through more relevant lenses. The valuation becomes inflated primarily when based on net income, which reflects a remarkable $5.8 billion tax benefit from past losses. This anomaly will not repeat in future earnings. Without this benefit, Uber’s pre-tax income for 2024 adjusts to $4.13 billion.

Furthermore, the current high-interest-rate environment allows Uber to generate significant interest income, anticipated at $1.85 billion in 2024. This additional income is noteworthy, particularly as it accounted for 45% of pre-tax revenue last year. If interest rates decline, this income could diminish, raising further concerns about valuation consistency.

Additionally, Uber’s adjusted EBITDA and free cash flow figures backtrack some legitimate expenses. The company added back $1.8 billion in stock-based compensation—an actual cost impacting shareholders’ interests—as well as $1.1 billion in insurance reserve charges, a recurring business cost discussed in their annual report. In 2024, Uber earmarked $2.82 billion for insurance reserves, affecting operating and free cash flows, but without providing returns to shareholders.

Using an EV-to-earnings approach, investors should consider Uber’s $7 billion unrestricted cash and $8.5 billion in minority investments, leading to an EV of $141.6 billion—lower than its current market cap of $157.1 billion. However, when applying $2.8 billion income from operations with a presumed 20% tax rate, Uber’s actual earnings estimate drops to about $2.24 billion.

This perspective shifts the true valuation of Uber’s operations to approximately 63 times earnings, starkly contrasting with the attractive GAAP P/E ratio of 16 or the various EV ratios.

Is Uber stock truly undervalued? Image Source: Getty Images.

Second Concern: Rising Insurance and Pricing Risks

While a 63 P/E ratio could seem reasonable for a company that has been consistently growing revenue, it’s essential to consider its underlying factors. Uber’s gross bookings increased over 20% annually from 2021 to 2023, continuing this trend with an 18% growth in 2024.

However, a significant portion of that growth, particularly before 2023, was driven by price hikes. As reported by Forbes, Uber raised prices by about 83%, or roughly 18% yearly, from 2018 to 2022—far surpassing inflation rates. These price increases aimed to transition Uber into profitability around its IPO in 2019 and address the escalating insurance costs.

More recently, however, Uber’s price hikes have slowed down, aligning better with the growth in demand for rides. While this shift indicates a healthier business model, management still anticipates insurance costs will continue to rise at a high single-digit percentage. Uber faces the predicament of managing these costs, either by absorbing them or passing them on to customers. Following several years of increases, constant price hikes might drive customers to explore alternatives.

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Understanding Uber’s Financial Landscape: Challenges and Considerations

Spotlight on Insurance Risks

Uber operates differently from many large tech firms by self-insuring to a greater extent. While the company has likely set aside enough funds for potential liabilities, unexpected insurance losses could lead to significant payouts or future increases in reserves. This presents a risk that is less prominent for other big tech companies.

Concern No. 3: The Challenge of Autonomy

The decrease in Uber’s share price last year reflected the growing competition from autonomous ride-hailing services. Alphabet’s (NASDAQ: GOOG) (NASDAQ: GOOGL) Waymo has expanded its services in San Francisco and will launch in Los Angeles in 2024, building on its existing operations in Phoenix. Additionally, Tesla plans to roll out its autonomous ride-hailing service in Austin this year.

Waymo, equipped with its dedicated app, poses a threat to Uber by potentially allowing customers to use its service without going through Uber’s platform. This could further influence Uber’s terminal value.

In 2020, Uber sold its autonomous division to Aurora but retains a minority stake. Currently, Aurora is working on partnerships with automotive manufacturers for autonomous trucking. Nevertheless, Waymo’s current market presence gives it a competitive edge. As reported by Alex Immelman of Andreessen-Horowitz, Waymo has captured a 22% market share in the San Francisco areas it serves, putting it on a level with Lyft.

Recognizing this challenge, Uber presents a few counterarguments: first, the mass adoption of autonomous robotaxis is still far off. Second, Uber believes it can incorporate autonomous rides as an option within its platform.

Moreover, Uber is already collaborating with Waymo. In Phoenix, Waymo operates alongside Uber, and their fleet is managed by Moove, where Uber holds a minority stake. For Waymo’s upcoming expansions in Atlanta and Austin in 2025, the service will exclusively be available through the Uber app, with Uber taking charge of fleet management.

Currently, Uber anticipates benefits from AVs by facilitating access for technology platforms like Waymo to its vast customer base, generating revenue through fleet management.

Nonetheless, the financial arrangement between the two companies on a per-ride basis remains unclear. Fleet management entails significant capital investment, differing from Uber’s low-capital operational model. If autonomous technology becomes the norm, Uber might endure, but the profitability and economic implications of such a shift are uncertain.

Waymo has invested substantially in its technology for over a decade, aiming to recover those costs as it moves toward profitability. Furthermore, the existence of the Waymo app in its operating cities may encourage customers to bypass Uber in the future, as they could avoid commission fees paid to Uber for rides sourced from its platform.

Thus, while Uber may adapt and succeed in an autonomous future, many financial details remain blurry, raising uncertainty about the company’s economic landscape as we approach the 2030s. Such uncertainties are likely to impact its current valuation.

Uber’s Pricing and Market Position

Given the challenges surrounding pricing power, insurance expenses, and competition from autonomous driving, Uber stands as a reasonably priced leader in the market but may not represent the bargain that some investors, like Ackman, believe it to be.

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Suzanne Frey, an executive at Alphabet, serves on The Motley Fool’s board. Billy Duberstein and/or his clients may hold positions in Alphabet. The Motley Fool has positions in and recommends Alphabet, Tesla, and Uber Technologies. The Motley Fool maintains a disclosure policy.

The views and opinions expressed herein are those of the author and do not necessarily represent those of Nasdaq, Inc.

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