• On the 3rd of July, the S&P500 index closed at an all-time high 2,996 points. But are equities that expensive? read here

Does Uber Benefit from Network Effects?

16052019_Uber network effects

Does Uber Benefit from Network Effects?

Much has been written about Uber recently, with the company having recently made its stock market debut. The business is polarising, with bulls and bears both making interesting arguments for and against the company as an investment.

One aspect of the bull case for Uber involves the presence of network effects that suggest a level of defensibility for the business, as well as optionality around new revenue opportunities in the future. But do these network effects exist, and if so, how strong are they?

If we start with the definition of network effects, it refers to a situation where as a network gains users, that network becomes more valuable to all users. A well-referenced example of a network is that of the telephone. The very first telephone had basically no utility until a second telephone came into existence –that way a call could be made. As telephones proliferated, all users had more options of people they were able to contact, and the value of the network increased.

One theory is that network effects follow Metcalfe’s law, whereby the network effects are proportional to the square of the number of users in that network, n2. The below chart shows that as users are added to the platform, the value of the platform grows.

Screen Shot 2019-05-15 at 2.58.23 pm

Source: Medium

In the case of Uber, the network is comprised of riders (demand) and drivers (supply). The question I would pose to readers is the following: Does Uber benefit from network effects and follow Metcalfes law?

A follow up post will provide further thoughts around this topic.

INVEST WITH MONTGOMERY

George joined MGIM in September 2015 as a Research Analyst. Prior to joining MGIM, George was an investment analyst at Private Portfolio Managers where he covered global equities across various industries, using a value investing framework. George’s prior experiences include equities research and investment banking roles at both Citi and Greenhill & Co.

This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.

Why every investor should read Roger’s book VALUE.ABLE

NOW FOR JUST $49.95

find out more

SUBSCRIBERS RECEIVE 20% OFF WHEN THEY SIGN UP


Comments

  1. In my opinion the network effects are very weak and indefensible, given the ability of other networks, i.e. Lyft, to operate with no barriers to entry. I view ridesharing as a commodity business.

Post your comments