How is Careem worth $1.2bn?

Opinion: The Middle East-based ride-hailing service this summer closed $150m in private financing. This latest investment round values the company at more than $1.2bn. Here's how the sums add up
How is Careem worth $1.2bn?
The Middle East-based ride-hailing service this summer closed $150m in private financing. This latest investment round values the company at more than $1.2bn.
By Alex Giannikoulis
Thu 28 Sep 2017 04:49 PM

According to Crunchbase data, Careem has now received $571.7m of funding in six rounds from 19 investors.

This includes $150m led by Saudi Prince Alwaleed Bin Talal’s Kingdom Holding and an undisclosed amount from DiDi Chuxing, China’s largest ride-hailing firm, in a deal announced last month to cooperate on smart transportation technology, product development and operations.

Launched in Dubai in 2012 by Mudassir Sheikha and fellow McKinsey & Co alumni Magnus Olsson, Careem has grown its presence to more than 80 cities across 13 countries in the broader MENATP region, growing at over 30 percent month-on-month during this period. But it is yet to make a profit.

People outside of the tech and venture capital industry often ask me how young businesses with limited assets and no profits achieve these lofty valuations.

As an investor in Lyft, a US-focussed ride-hailing service, I’m familiar with the methodologies used to value these companies. In this article, I’ll give a few perspectives on how to justify Careem’s $1.2bn price tag.

Valuation of high-growth companies is a bit more art than science. The combination of exponential growth and limited trailing revenues means venture capitalists focus more on a valuation range than a specific number. Like any traditional valuation analysis, ultimately it will be based on a company’s ability to generate profits.  However, the stepping stones to reach that analysis with high-growth companies can differ.

Here are some points to consider.

Opening new markets

Ride-hailing is often compared to the taxi cab market. But with its convenience, cost, and car variety, ride-hailing is often also categorised in the rental car or chauffeur market.

With this rationale, Careem’s current Total Addressable Market (TAM) opportunity in MENA, Turkey, and Pakistan is vast. Its vision is to become the biggest mover of people in the MENATP (Middle East, North Africa, Turkey and Pakistan). According to its own statistics that includes 20 countries, 700 million people, 380 million people in cities and a current $10-12bn market just in this region’s taxi market.

By considering Careem’s current market only, its $1.2bn valuation (10 percent of the TAM) looks a bit pricey for the risks associated with a young company. But its current market only tells part of the story.

Transformative companies are especially valuable due to the markets they create. A prime example is the smartphone industry, which barely existed ten years ago but is now a $355bn industry according to research firm IHS Markit. And, the apps used on those phones have created a $74bn industry.  These are needs that simply didn’t exist before 2007.

Saudi billionaire Prince Alwaleed are major stakeholders of Careem.

In a similar way, Careem’s real value lies more in its ability to create a market. The MENA region is ready to benefit from the convenience of on-demand or scheduled ride-hailing. Car ownership in the region has been an expensive option in the past, while public transportation is underdeveloped. Careem’s service can unlock latent demand across a variety of previously unserved customer segments.

Careem’s transportation capabilities could also extend well beyond replacing traditional taxis. Co-founder Magnus Olsson has stated that its mission is to be “the biggest mover of people and things”. A hyper-connected fleet of 250,000 drivers – or Captains as Careem likes to call them – across the wider region will spawn new use cases for intelligent last mile delivery or a proper logistics network.

Once again, Careem could expand an existing market’s size into something much bigger.

Transportation as a service

Careem’s greatest and longest term potential lies with two global trends in the automotive industry: Transportation as a Service (TaaS) and Autonomous Vehicles (AV). With car ownership costs accounting for $9,000 per year in the US, second only to costs of home ownership, there is a growing trend for replacing a car with a transportation service. This was one of the main reasons I decided to invest in Lyft. Consumers can make massive cost savings by purchasing a subscription of miles per month in lieu of owning a vehicle. As this trend surfaces in the Middle East, Careem is at the fore to innovate in this arena.

Finally, the expected arrival of AV as early as 2020 bodes very well for Careem’s future. As covered in my previous article in Arabian Business, autonomous vehicles can have very positive long-term effects for the Middle East, making cities more efficient, cleaner and more enjoyable places in which to live.

Bringing this technology to market requires government support and a large user base willing to pay for the technology. The government of Dubai has been very progressive in supporting AV, with a strategy announced last year to have 25 percent of all transportation trips in Dubai to be smart and driverless by 2030.

Leading Chinese ride-hailing firm DiDi Chuxing.

Thus, the remaining piece to make autonomous vehicles a success in the Middle East would be a sizable user base. Enter Careem. A large user base has an outsized advantage in rolling out autonomous driving. From testing routes for safety to paying for this new technology, it will all begin on a ride-hailing network.

Back-of-the-envelope calculations

These future projections and TAM estimates alone are never enough for the investment managers I meet with. Translating these data points into revenues and future cash profits, along with comparables, are all that matter to them. Here again, Careem’s $1.2bn valuation is comfortably in the right range.

Our firm, Graphene Ventures, has a focus on US-based investments so I have not seen Careem’s investment materials or performance metrics. But, using public US ride-hailing benchmarks and adjusting for the Middle East’s market size and spending, we could estimate Careem’s valuation range based on revenues.

First, there is Careem’s network size. In Q1 of 2017, Careem claimed it had 150,000 drivers. In Q1 of 2015, Lyft’s CEO claimed it had 100,000 drivers.  That year, Lyft completed 53m rides. Let’s assume that Careem could at least complete 53m rides this year with its driver pool.

Then, there are earnings. According to SherpaShare data, in early 2015, Lyft drivers collected an average of $12.53 per ride. Because drivers keep 80 percent of the fare, the total ride would have been worth $15.56 ($12.53 divided by 0.8).

With Lyft earning 20 percent per ride, that means Lyft’s take rate would be $3.11. If we assume Careem also earns 20 percent and we assume Careem collects at least 50 percent of what a US ride-hailing company collects, at a minimum Careem’s take-rate could be $1.56 per ride. (Note: to be conservative and for simplicity, I’m assuming Careem’s take rate is 50 percent less than Lyft’s because the US taxi market is estimated at $19 billion per year versus Careem’s aforementioned estimate of a regional taxi market size of $10 billion per year.)

With these assumptions, Careem’s net revenues would be $83m (53m rides per year multiplied by a $1.56 take rate per ride). High-growth companies are valued on their revenue multiples (price to sales) because they reinvest earnings to gain market share quickly. As a rule of thumb in venture capital, companies that grow in the region of 50- to 100 percent year on year (YoY) earn a multiple of 8x-10x revenue. Companies with growth at 100 percent or more YoY earn a multiple of 10x-12x revenue, if not more.

Just based on the conservative revenue estimates above, Careem’s valuation range would be $830m to $1.1bn ($83m of net revenues multiplied by the 10 or 12 valuation multiple). So even with my conservative estimates, we are approaching the range of that $1.2bn valuation.

Thus, to justify its $1.2bn valuation beyond just the price-to-sales estimates above, Careem must be on the cusp of a very large and fast growing market. And its CEO has reinforced that point. Sheikha stated that in the MENA region, ride-hailing across all players (Uber & Careem) only account for one percent of the rides completed in the market today. There is value to be had as it shifts to a TaaS model.

Careem’s Magnus Olsson and Mudassir Sheikha.

Careem’s summer backers will have done similar sums. The list of companies includes several notable Lyft investors, including Rakuten, Coatue Management, and DCM Ventures.  To me, this indicates that Careem’s current and expected performance are far better than the conservative estimates I’ve given above.

As for profitability, ride-hailing can be a very lucrative business when it reaches scale. Costs for running the network are fairly fixed and most of the variable costs are paid for by the rider. Plus, Careem’s co-founders have stated their intention to reach profitability in 2018.

Caveats

All great venture capital investments are risky. Careem’s future success has challenges like favourable local regulations, a reasonable amount of competition, adequate driver compensation, and reaching scale.

However, its reward premium is high for a reason. Imagine the potential if car ownership dwindles and the transportation as a services model grows. Or if autonomous driving – just in Dubai – hits the 25 percent threshold in a decade. The operator of such a network has an outsized advantage. This is the type of opportunity ahead for Careem: having a dominant position in a massive industry that’s transforming. With proper execution, Careem can be a very large business that could last for decades.

Alex Giannikoulis is a general partner at venture capital firm Graphene Ventures, whose investments include Snapchat and Lyft. Giannikoulis writes about tech trends and the venture capital industry on his blog: the-inflection.com

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