Google Tips Its Hand On Its Autonomous Vehicle Strategy, And It Will Be Big

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Waymo/Alphabet (GOOG) (NASDAQ:GOOGL) recently announced that it plans to buy 20,000 Jaguar Land Rover electric I-Pace SUVs and modify them to be a major part of its autonomous ride services fleet by 2020. With this announcement, Waymo has signaled significant elements of its autonomous vehicle strategy, providing insight into what could be an enormous opportunity.

While it is difficult to characterize major new markets before they are even created, long-term investors who can do this accurately can establish early investment positions.

Autonomous vehicles (AVs) will create some enormous investment opportunities, while also threatening some well-established companies. AVs will create two primary markets at the highest level (not including the markets for what goes into an AV): retail sales of AVs and the use of AVs in Autonomous Ride Services (ARS). Of these two, ARS will be the first and the most exciting new opportunity.

Autonomous ride services are sometimes referred to as mobility or transportation as a service, on-demand rides, or the passenger economy. Essentially it is the autonomous vehicle replacement for the ridesharing services from Uber (UBER), Lyft (LYFT) and others, but at a much lower price and increased convenience.

Autonomous Ride services

This move by Waymo clarifies that its autonomous vehicle strategy is autonomous ride services, and it’s not trying to build and sell autonomous vehicles for the retail market or license its technology. So, everyone confused about its strategy can now focus on ARS.

ARS is projected to be a very large market, and it will be the first market for autonomous vehicles. At this point, it looks like Waymo has an early lead into this market.

This move confirms that autonomous ride services will be fleet-based. Waymo is launching its first fleet in Arizona, thanks to a compatible regulatory environment and good weather. I estimate that initial fleet sizes will range from 500 to 1,000-plus vehicles per municipal area, then increasing over time as ARS is more broadly accepted. The initial commitment for 20,000 I-Pace SUVs implies that Waymo will target many more municipal areas by 2020.

This purchase also shows that the first-generation ARS vehicles will be retrofitted versions of currently mass-produced cars, probably luxury SUVs, made by traditional manufacturers. This makes sense in order to get to market fast without the risk of building entirely new cars. Waymo, which was already testing about 600 vehicles, including the Prius, and the Chrysler Pacifica, also has potential orders for several thousand more Chrysler minivans. So, the size of its pilot fleet could be even larger than 20,000 vehicles. It hasnt disclosed where it will acquire/manufacture the autonomous vehicle technology platform or where it will retrofit the vehicles.

The I-Pace, launched earlier this year by Jaguar, is a logical choice for Waymo. Its fully electric, with a range of 240 miles. I estimate that 50 trips per day will equate to approximately 350 miles, so the battery will need to be recharged. Also, complex computing and sensors will drain the battery, reducing the range even further. Jaguar advertises an 80 percent battery top-up in 40 minutes, and Waymo believes that it can get through the peak duty cycle of a rush hour, and then do a quick top-off charge to get through the rest of the day.

I expect that second-generation ARS vehicles will be custom designed for passenger convenience instead of retrofitting existing vehicles, probably starting in 2021.

Googles $50 Billion ARS Opportunity

Waymo believes that the 20,000 new I-Pace vehicles will be able to provide a million trips per day. Interestingly, this is the same estimate of 50 trips per day per vehicle that I derived independently. Let’s look at how this translates into a revenue opportunity.

20,000 vehicles may be a large pilot, but it illustrates the sheer magnitude of the opportunity. I estimate that a typical autonomous ride services vehicle making 50 trips per day will generate approximately $150,000 in revenue per year. This assumes an average trip of seven miles at a cost of $1.25 per mile and usage of 350 days per year. To put this in perspective, this is an estimate of only $8.75 per trip compared an estimated cost of $14-$15 for a comparable trip on Uber today.

With this estimate of $150,000 per ARS vehicle per year, Waymo’s initial fleet of 20,000 ARS vehicles could generate approximately $3 billion in annual revenue by 2020. Waymo currently has no revenue, just a significant investment expense.

An incremental $3 billion in revenue from this pilot by 2020 will have only a small impact on Alphabets current revenue, which was $110 billion in 2017. However, this is just an initial pilot. If this pilot turns out to be 5% of the total rollout by 2025, then incremental annual ARS revenue for Waymo alone could be $50 to $60 billion, and that is very significant.

I estimate that the total market for autonomous ride services in the United States will be approximately 1 million vehicles and $150 billion by 2025. While this is just an estimate because the adoption rate by ARS remains to be proven, it represents only 3.5% of the miles driven in the United States. Its feasible (but still to be determined) that Waymo, who now appears to have a lead, could capture a third of the ARS market and gain about $50 to $60 billion in new revenue.

By 2030, I estimate that the ARS market, in the United States alone, will deploy about 5 million ARS vehicles and generate more than $750 billion in revenue. This assumes that approximately 15% of the miles driven in the US are served by ARS. If this happens, then ARS will be one of the largest markets. A 10% share would be $75 billion in revenue, and 20% would be $150 billion. If the market emerges as I predict, and Waymo captures a significant market share, then it could add $75-$150 billion in revenue, overshadowing Alphabet’s traditional business.

The economics of ARS are very attractive, even at a cost to riders of a dollar per mile, which is less than half the cost of typical Uber rides today. At this rate per mile, gross profit margins, after the cost of maintaining the vehicles and fleet operations centers, could be as high as 50%. With the creation of such an enormous new and exceptionally profitable market, Waymo will have a lot of competition.

Competition

I expect that other competitors, such as Uber, Lyft, GM (GM), Ford (F), Mercedes (OTCPK:DDAIF), and Apple (NASDAQ:AAPL) (so far undeclared) will also go aggressively after the ARS market. Some traditional car manufactures, like Jaguar and Chrysler, may provide “dumb cars” to technology companies that will retrofit them into autonomous vehicles. This may not be the case for all, however. Ford, GM, and Mercedes have stated their strategies to develop a complete autonomous ride service platform using their own autonomous capabilities.

Uber and Lyft have the advantage of existing market penetration with their ridesharing apps, so their users can continue to request a ride from them, but it will be autonomous. Waymo doesn’t have a popular ridesharing app, so it will need to introduce and promote one very soon for its pilot markets. It can leverage the uniqueness of its first-to-market ARS service and perhaps its Android operating system.

Uber has declared that it will provide ARS very soon but has recently run into difficulties with its early tests. While it has a leadership advantage in ridesharing, it appears to be behind Waymo in technology. Nevertheless, it should be an early and strong competitor in ARS. Lyft can also leverage its strong presence in ridesharing to compete in the ARS market. Lyft’s strategy is different than Uber’s because it hasn’t made significant investments in autonomous technologies. So far, it appears to be relying on partnerships with traditional auto manufacturers.

Several of the traditional auto manufacturers, notably Ford, GM, and Mercedes have declared intentions to enter the ARS market, most likely before making autonomous vehicles available at retail. They have made significant investments in autonomous driving technology, and a couple could prove to be strong competitors in the ARS market. Unlike Uber or Lyft, they would use their own autonomous vehicles, most likely in their own fleets. Where they are challenged is in creating a popular ridesharing app for ARS.

Apple is the wildcard in this market. There have been pervasive signs that it is investing substantially in autonomous vehicle technology, although it has not disclosed any intentions. ARS is the most likely use of Apple’s autonomous vehicle technology. Licensing its technology is not a significant source of revenue and building and selling AVs at retail is way too risky. It is also an enormous market that Apple most likely cannot ignore. If it does enter this market, it could have significant advantages because it could include its ridesharing app for everyone on an upcoming IOS release, link payments to iTunes accounts, integrate its entertainment capabilities into the vehicles, and leverage its reputation for great user experiences.

Tesla (TSLA) has stated its intention of competing in the ARS market with the Tesla Network, which is a network for Tesla car owners to make their vehicles available for others to use for a ride. Essentially if owners aren’t using their cars, the vehicles can start up, back out of the garage, and go pick up a paying passenger. I believe that reasons for ARS to be fleet-based are so compelling that this type of service won’t be very competitive. Tesla will primarily compete in the retail market for AVs.

Capital Investment Requirements

The capital requirements to compete in the ARS market are significant. It is basically a technology and capital-intensive market replacing a labor-intensive market (ridesharing). (Note: This will probably be the most significant transition of this type in history.) The 20,000 I-Pace SUVs converted to be autonomous will cost Waymo about $2 billion. This assumes approximately $70,000 to $80,000 for the basic I-Pace SUV and approximately $20,000+ for the retrofit to autonomous driving capabilities. Waymo can easily afford this investment by 2020. By 2025 however, if it wants to have a significant share of the ARS market, another investment of $80-$200 billion may be necessary, assuming the cost of an ARS vehicle is reduced to approximately $80,000, and it wants to capture 10%-25% of the estimated 5 million vehicle market by 2030. This capital investment could strain even the financial resources of Alphabet.

The capital investment required to compete in the ARS market will be a challenge for some competitors. Uber and Lyft don’t have these financial resources, and will probably need to go public, form partnerships, or be acquired to have access to sufficient capital. The traditional car companies may be able to provide sufficient capital but it will be a stretch, and Apple, of course, has plenty of cash to invest in this market if it chooses. This could be one reason why it is holding onto so much cash.

Overall Conclusion

Waymo has tipped its hand on its autonomous vehicle strategy and its strategy is autonomous ride services. I project this to be a very large new market, which is why the expected competitors in this market are investing so much in it. The autonomous ride services market could be a $150 billion market by 2025, and if Waymo can capture any significant share, it could dramatically increase its revenue, as could other major competitors in this new market.

Disclosure: I am/we are long GOOG, AAPL, GM, F.

Additional disclosure: I am long in most of the public companies mentioned.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

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