Uber: A Winning Strategy

Uber effectively aligns its business model with innovative operating practices to maximize profits and optimize the experience of both the driver and the passenger.

Uber Technologies Inc.

Uber is a personal transportation network that connects available drivers with passengers in need of a ride through a lightweight user-friendly smartphone app. As of May 2015, the Uber app and ride sharing service was operational in 58 countries and 300 cities worldwide. Uber drivers use their own vehicles and are afforded high earning potential with a flexible work schedule. Its adherence to a network orchestrator model—as opposed to the more capital-intensive service provider framework to which traditional transportation companies subscribe—has provided Uber with higher profit margins, continued growth opportunities, and the agility to respond more quickly and effectively to market changes relative to its competitors.

 

Uber's growth over time by total number of drivers
Uber’s growth over time by total number of drivers

Human Capital

Uber’s dual business model delivers value to both drivers and passengers alike by catering to each group’s unique incentives in constructing a symbiosis between the two. Thinking of drivers as the “other customer” and not merely a resource deployed in providing a service to the end user has enabled Uber to cultivate a higher-quality workforce, resulting in both lower employee churn and increased customer satisfaction. Not only do Uber drivers’ hourly wages exceed those of taxi drivers, but Uber’s employees are saved the downtime and inconvenience associated with procuring a hackney carriage license and renting a vehicle from a cab company. From a fiduciary standpoint, paying drivers an 80% commission on their fares as opposed to an hourly wage more accurately ties revenues to local market share and unlocks increased analytical capability. Furthermore, having drivers use their own cars allows Uber to boost bottom line profits by saving both the capital expenditure required to invest in a fleet of company-owned vehicles as well as the operating expenses associated with insurance and repair costs. These operational decisions are directly in line with Uber’s business model aimed at converting driver satisfaction to customer satisfaction through industry-competitive employee incentives and innovative business practices.

Comparison of Uber drivers' average earnings per hour with driver earnings in comparable service industries
Comparison of Uber drivers’ average earnings per hour with driver earnings in comparable service industries

Tech Focus

Uber’s heavy investment in the development and iteration of its mobile app reflects an underlying commitment to continued growth and competitive performance. Connecting drivers with passengers via their smartphones eliminates the need for Uber to establish a brick and mortar presence in each new city to which they expand operations, making this a highly scalable strategy with limited barriers to future growth. This scalability also unlocks the potential for Uber to expand into contiguous service segments such as food delivery without material changes to the company’s operating model. Optimizing for ease of use, learnability, and efficiency in the app’s user interface design has won customer loyalty and mitigated competitive pressure as passengers are less likely to switch providers if doing so requires them to learn and adapt to a new technology.

 

Uber app screenshot
Uber app screenshot

Pricing

The Surge Pricing algorithm is a cornerstone of Uber’s business model that has provided the company with an information edge in capitalizing on the dynamic relationship between supply and demand and willingness to pay. When there are more passengers than available drivers in a given area, the algorithm increases rates in order to equilibrate this discrepancy. The first benefit of this model is that it attracts drivers to areas offering higher rates, thus increasing their numbers in regions of high demand. Second, it narrows the initial pool of potential passengers based on how much they value a ride, allowing Uber to more accurately segment their customer base and satisfy those users who need their service the most. This creates a stronger brand image because customers will associate Uber with getting where they need to go in the times when convenience and speed were most important. Thus the Surge Pricing model serves the purpose of capturing the highest possible margins for the company while establishing a targeted base of loyal users and a positive brand perception.

 

Sources

James Bacon (3 February 2012). “Innovation Uber Alles; Personal-Driver Service Can Revolutionize Transportation Services”. The Washington Times. Retrieved 7 December 2015.

Rusli, Evelyn (June 6, 2014). “Uber Dispatches trips”. Wall Street Journal. Retrieved 7 December 2015.

“First Round Uber”. First Round Capital. Retrieved 6 December 2015.

“Driving Jobs Vs. Driving with Uber”. Uber.com. Retrieved 5 December 2015

“Where Is Uber Currently Available?”. Uber.com. Retrieved 5 December 2015

 

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7 thoughts on “Uber: A Winning Strategy

  1. Thanks for sharing! It’s hard to believe Uber’s only been around for a few years – I feel like I can’t live without it now. From talking with Uber drivers during my rides, I definitely agree with your point of Uber’s dual business model of delivering value for both passengers and drivers. The drivers are all extremely loyal to Uber and speak positively of the value proposition for them.

    I have a few concerns regarding the longer-term sustainability of the business model, because as you point out, human capital is such a critical component of its success. The key concern is around legal ambiguities such as whether its drivers are independent contractors or employees. In fact, a few recent rulings have ruled that drivers are employees, and therefore have rights to unemployment benefits, health insurance and other employee benefits. Uber pulled out of Kansas after lawmakers passed legislation that would obligate the company to conduct more stringent background checks on its drivers and provide additional insurance. Uber has encountered similar issues in Nevada, San Franciso, and even more broadly worldwide.

    From a consumer standpoint, I hope Uber is able to resolve all these ambiguities and continue to disrupt the market and provide such a great value proposition for passengers and drivers.

  2. Nice touch on the key features of Uber’s operating strategy which has closely tied with its business strategies. To build on your point on Tech focus, I believe Uber is a clear winner in technology innovation that distinguish them from other followers – it has a more sophisticated algorithm that provides better driver/customer matching system and mileage/fare calculation that yields consistently positive user experiences. Uber keeps launching new features, including uber pool, enabling booking or large cars etc, which has been blindly followed by many of its competitors. Uber’s marketing strategy has always been innovative and closely related to pop culture, which help attract its target customers effectively.

    With that said, I do have concerns on how Uber could sustain its competitive edge and continuously outperform its competitors. Given how price sensitive and promotion-focused consumers are, many of such transportation apps are simply burning investors’ money to complete on low price and large promotions (first 5 rides for free for Lyft etc). Hence it would take extra effort from Uber to remain competitive on pricing but in the mean time seek alternative monetisation ways of the huge traffic it has gained.

    1. Hi Amy,

      Thank you for your post. I definitely agree with your point about the human capital issue. That said, several legislators are currently on the brink of rethinking their framework to actually “fit” the wider “uberization” wave we’re seeing (deliveries, private hires,…). For example, in France, Uber gained back the right to operate, on the ground that a specific labor regime “micro entrepreneurship” allows individuals to launch their own independent activity on a craftsmanship-like status. The same alternatives occurred in most of the very protective Western Europe, while Uber keeps expanding worldwide. My guess is Uber may have to adapt its model, but I don’t think it will have to drastically change it. Eventually, Uber is only a “matchmaker” between informed and willing parties ( a car owner and a passenger).

      Curious to see how things will go!

  3. I think we can all agree that Uber has done an incredible job in disrupting a previously stagnant industry that had been riding the coat tails of protectionist regulation in taxi services for too long! How they gained funding, launched and scaled an inherently illegal business model across the world is quite incredible.

    Building on Amy’s comment around human capital I too have some concerns around how sustainable the current price cutting strategy is. Over the last few months Uber has engaged in a price war with emerging competitor, Lyft. In order to compete they have been scaling up the earnings drivers must pay to Uber, in some instances going from 5% to 25% per ride (San Francisco). To quell drivers outrage they offered a small additional wage per ride, however this is far short of the lost earnings. This is a concern for two main reasons:

    1) In many cities Uber is already using its mass of VC funding to subsidise rides to build user-ship and therefore penetration. Once it ceases to do this, and reaches the cap on how much of drivers earning it can yield it will need to raise prices. Will this drive down the benefits of Uber and return many to the more traditional industry model?

    2) How much is too much when it comes to what drivers will accept from Uber? A material reduction in compensation for driving with Uber, in addition to the current insurance and legal issues facing Uber and its drivers, has the potential to drive down driver numbers, a big issue for a business built on strong geographical penetration.

    Source: http://www.forbes.com/sites/ellenhuet/2014/09/22/uber-now-taking-its-biggest-uberx-commission-ever-25-percent/

  4. As a regular customer of Uber, I agree that Uber has effectively capitalized on service gap that affected a large number of people. However, I disagree that Uber drivers are as better off as advertised. For example, if you look at the black car service, the driver bare all the cost upfront cost of purchasing expensive cars, servicing fees, insurance charges and all licensing fees. Yes, indeed Uber provides the platform to get customers but it shifted all the risk of actually operating the business to drivers without having to provide them safety nets.

    My second point is around surge pricing. The surge is a good way to optimize supply and demand but at what point doest it become excessive? For example, during a snow storm a couple of years ago in NYC, the surge was more than 10x. I wonder if Uber is now limiting how high the surge pricing goes after getting a lot of bad press during that time.

  5. Ruby – thanks for this post. Insightful…one question I have: how do the major industry disruptors of the world such as Uber lead the way with regulatory changes? I’ve read a lot of back and forth issues Uber has faced in places like Paris. What does it take to convince a marketplace (and its regulatory mechanisms) that the old way of doing business is outdated? Has Uber engaged in any innovative regulatory negotiation that might be useful to other future marketplace disruptors?

  6. Awesome read. I’d even go a bit further and describe Uber as a “logistics platform”. I wonder how much the operating model is impacted by the “City Manager” approach, whereby young, enterprising leaders are hired to effectively manage an entire City on behalf of Uber (across service lines, including, UberEats, UberEvents and Uber For Business). This decentralized organizational model seemingly provides for a high level of localization, product-market fit and growth anchored by local needs. I’d also venture to argue that Uber’s focus on iterating around its interaction with drivers is another important part of its operating model. It went from issuing whole smartphones dedicated to the Uber app, to now running the driver-side uber app on a smartphone fielded by the driver himself, which lowered the barriers to entry for new drivers, reduced the capital expenditures borne by Uber and creates for even more lightweight, high-touch interaction with the driver fleet.

    On the business model side, it’s interesting to imagine how UberEats, UberEvents and Uber For Business will impact the opportunity set moving forward.

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