Lawsuits Could End Uber In The U.S. And Boost Hertz And Avis

Jul.17.14 | About: Avis Budget (CAR)

Summary

Hertz, Avis and Uber are competitors in the car or ride sharing business.

Avis-Budget and Hertz have experienced significant revenue growth in recent years.

Hertz and Avis-Budget's business model is superior to Uber's because it eliminates the need for professional drivers.

Uber's ability to keep costs low by treating drivers as independent contractors is threatened by two class action lawsuits.

Two class action lawsuits could make Uber Technologies Inc.'s business model untenable in the United States, a situation that could be a boon for rental car companies Hertz Global Holdings (NYSE:HTZ) and Avis Budget Group (NASDAQ:CAR).

Even though it might be hard to grasp, Hertz and Avis Budget are Uber's biggest competitors in the ride-sharing business on two levels:

First, they offer traditional car rentals, which are actually a form of car or ride sharing, in which a customer pays a company for use of a vehicle for a period of time. The customer shares the car with the rental company, not other riders. The drawback to this business model is that the customer has to go to the car rental agency or have the car delivered to her home to take advantage of it.

Second, both Hertz and Avis offer short-term car rentals through the car-sharing model. The difference to this business model is that customers can directly access the cars through a key card or similar device after booking them online. Instead of being stored at company facilities the cars are left in places where the public can easily access them, such as parking lots or streets.

Avis owns the largest and most experienced car sharing service, Zipcar, which offers vehicles in around 34 American cities. Hertz offers a similar service called Hertz 24/7, which is now available in 30 U.S. states. Hertz 24/7 also rents vans through Lowe's (NYSE:LOW) stores in around 19 states.

The Zipcar business model allows Hertz and Avis Budget to offer car sharing without the driver or the potential costs related to the driver. It isn't as convenient as Uber, but it is potentially more viable because of lower labor costs. One Hertz or Avis Budget employee could conceivably service dozens of car-sharing vehicles. Hertz and Avis Budget will have the added cost of providing and maintaining the vehicles, but not the expense of paying all the drivers.

The Car Rental Business is Already Growing in Spite of Uber

TTM revenue figures indicate that business at both companies has been growing substantially in recent years despite the popularity of Uber. Hertz's TTM revenue rose from $9.025 to $10.75 billion in 2013, an increase of $1.745 billion. Avis's TTM revenues rose from $7.42 billion in March 2013 to $8.109 billion in March 2014, an increase of $.689 billion.

Some other financials indicate that both companies are holding up well in the face of the Uber onslaught. Hertz reported a return on equity ratio of 14.10% on December 31, 2013, and Avis reported a return on equity ratio of 9.12% on March 31, 2014. The disappearance of Uber and its imitators could boost Hertz and Avis Budget's traditional car-rental business and the car sharing operations. Much of car-rental companies' success in the U.S. has been created by the lousy cab service in most American cities. A state of affairs that has also been driving Uber's growth

The Lawsuits that could Drive Uber off the Road

A Boston labor lawyer has filed two lawsuits that could effectively shut Uber's operations down in the U.S. if they succeed. The biggest beneficiaries from that development would be Hertz and Avis, America's two largest car sharing companies.

Attorney Shannon Liss-Riordan is alleging that Uber violated labor laws by classifying its drivers as independent contractors rather than employees in separate class action suits in California and Massachusetts, The Boston Globe reported. Uber currently treats its drivers as "independent contractors," which means that it doesn't have to pay them benefits, a salary, or overtime if they work more than eight hours a day.

"If their drivers are classified as employees then that suddenly makes their business model untenable," MIT researcher Denise Chang said of Uber in a conversation with the Globe.

Treating drivers as independent contractors allows Uber to put far more drivers on the street and offer a much higher level of service than traditional cab companies. Among other things, Uber doesn't have to pay its drivers when they are not hauling a passenger.

Were courts to rule in favor of Liss-Riordan's clients, Uber would have to start paying drivers a salary, obeying state laws with respect to overtime, and offering benefits, such as worker's compensation. Uber drivers could be able to unionize in states without right to work laws under the ruling as well. The ride sharing company would also have to provide health insurance for drivers under the Affordable Care Act (Obamacare) if they became employees.

Drivers are Uber's Weak Point

There's no way Uber could make money while providing all that. Leaked documents indicate that the privately held app company had a gross monthly revenue of $213 million from its worldwide operations in 2013. We don't know how many drivers Uber employs, but the number has to run into the thousands; paying salaries and benefits to all those drivers would probably quickly eat up all of Uber's revenues.

A federal judge in California has already upheld part of Liss-Riordan's lawsuit by throwing out an arbitration clause in the Uber driver's contract, The Boston Globe reported. That means Uber drivers have the right to sue Uber, opening the door to more lawsuits.

Even a partial victory for Liss-Riordan could halt or reverse Uber's expansion in the U.S., forcing the company to move overseas. It would also shut down other car-sharing schemes, such as Lyft and Sidecar. Such a victory would definitely benefit two of Uber's main competitors in the car-sharing business: Hertz and Avis Budget.

The drivers are the weak point in Uber's business model, Hertz and Avis get around that expense by only providing the car. Uber tries to profit by providing the driver but not the car. Hertz and Avis have a moat to protect them from lawsuits like Liss-Riordan's and labor law, Uber does not.

That makes Hertz and Avis Budget a great contrarian play. They're already doing very well in the car-sharing sector, and their biggest competitor, Uber, and its imitators are on very shaky legal ground as Liss-Riordan has demonstrated.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.