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Buying Lyft Stock at These Levels Makes Perfect Sense

Lyft stock is headed for $45, so buy dips near $40

Shares of Lyft (NASDAQ:LYFT) rose slightly in late October after the North American ride-sharing company reported strong third-quarter numbers that sailed past both revenue and profit estimates. But, as of this writing, shares are up less than a percent on the day, and LYFT stock is still about 40% below its IPO price.

Buying Lyft Stock at These Levels Makes Perfect Sense
Source: Jonathan Weiss / Shutterstock.com

In other words, LYFT stock had an unimpressive post-earnings bounce after an impressive quarter. Within the context that this is a stock that is in the midst of a huge, multi-month decline, the implication is pretty clear: investors hate LYFT stock.

There are many reasons for this hate. Slowing revenue growth is one of them. Big competition is another one. But, above all else, investors hate LYFT stock because the company continues to report huge and widening losses, and investors aren’t sure when those losses will turn into profits, if ever.

News flash: they will. Lyft’s strong third-quarter earnings report confirmed that all of this company’s growth drivers are working and that if these drivers keep working, then profitability will come within the next few years. Big profits will show up by the end of the next decade.

Because of this, I think the contrarian bull thesis on LYFT makes a lot of sense here. You have a hyper-growth company getting beaten up because of profitability concerns. But, recent numbers indicate that those profitability concerns are overstated. Eventually, they will pass, and when they do, LYFT stock will shoot higher.

My takeaway? Buy LYFT stock on dips to $40. Here’s a deeper look.

Lyft’s Profitability Concerns Are Overstated

Lyft’s strong third-quarter earnings report confirms that profitability concerns surrounding this company are unnecessarily short-sighted.

Here are the numbers. Active riders rose 28%. The average revenue per each one of those riders rose 27%. Total revenues rose 63%. Next quarter, revenues are projected to rise by 46%. Gross margins expanded more than 500 basis points year-over-year to above 50% for the first time ever.

Operating expenses rose less than 20% year-over-year, against the backdrop of a 60%-plus revenue growth quarter, so the opex rate shrank about 25 points year-over-year to 66%, an all-time low. As a result of big gross margin expansion and significant opex leverage, Lyft’s operating margin rose nearly 30 points year-over-year.

In plain English, Lyft is still growing its rider base rapidly, and getting all of those riders to ride more frequently and contribute more money into the ecosystem. This is powering robust revenue growth, without an equally robust rise in expenses, so profit margins are improving dramatically.

All of this should continue for the foreseeable future. The ride-sharing market is a secular growth one that will continue to add millions of new riders every year. Lyft is the share-gainer in the North America region of that market.

Thus, Lyft should keep adding riders at a great pace. Usage frequency will also continue to rise, as consumers get more and more used to how ride-sharing works.

Revenues will consequently stay on a big growth path. Operating expense growth won’t be able to keep. The opex rate will drop. Profit margins will rise.

Eventually, as all these dynamics persist, Lyft will turn today’s huge losses, into tomorrow’s huge profits.

Lyft Is Worth About $45 Today

Given its most realistic long term profit growth prospects, I think LYFT stock is worth about $45 today, meaning that dips towards $40 look like good buying opportunities.

Market research — see here and here — indicates that about 20% of North Americans were ride-sharing riders in 2018, up from 8% in 2015, 14% in 2016, and 15% in 2017. In 2018, Lyft claimed about 27% of those riders, up from a market share of 12% in 2015, 13% in 2016, and 23% in 2017.

Ride-sharing penetration rates in North America will continue to rise as consumers increasingly pivot to ride-sharing apps for various financial and/or convenience reasons.

Lyft will continue to grow share in that market because its only rival, Uber (NYSE:UBER), continues to struggle with a negative public spotlight. By 2030, I think that North America’s ride-sharing penetration will hover close to 50%, while Lyft’s market share will rise to 35%. That combination makes 70 million riders for Lyft seem achievable within the next decade.

The average revenue per user should continue to rise with frequency and inflation. Assuming healthy growth there, then quarterly ARPU could hit about $70 by 2030, up from $42 today. That means that by 2030, Lyft could be a ~$20 billion revenue company.

Gross margins have a realistic opportunity to scale towards 55-60% with improving ARPU rates. At the same time, assuming opex rises at a 15% compounded annual growth rate into 2030, then the opex rate could realistically fall towards 40-45%.

At the midpoint, that implies a 15% operating margin. Making normal assumptions with respect to tax rates and share dilution, I think that 15% operating margins on $6 billion in revenue could produce about $6 in earnings per share.

Based on a 20-times forward price-to-earnings exit multiple, that implies a 2029 price target for LYFT stock of $120. Discounted back by 10% per year, that equates to a 2019 price target of over $45.

Bottom Line on LYFT Stock

Lyft reported blowout third-quarter numbers. LYFT stock failed to rally in a big way. This is a clear sign that investors don’t like this stock, and they don’t like it because they don’t believe that today’s huge losses, will ever turn into profits.

But, the trends and numbers here indicate that they will. And, in the event that they do, LYFT is fairly valued in 2019 just above $45. Thus, if shares drop towards $40 in 2019 on overstated profitability concerns, that dip should be viewed as a buying opportunity.

As of this writing, Luke Lango did not hold a position in any of the aforementioned securities.

Article printed from InvestorPlace Media, https://investorplace.com/2019/11/buying-lyft-stock-perfect-sense/.

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