Opinions expressed whether in general or in both on the performance of individual investments and in a wider economic context represent the views of the contributor at the time of preparation.

Executive summary: At $5.4trillion, the global transportation market is more than twice the size of the comparable car market. This is the real prize for which operators and manufacturers are going to be fighting as the fully autonomous car becomes an increasing reality. A combination of improving technologies, falling costs and new business/ payment models mean that we may be closer to this vision than many investors currently believe. The implications are multiple, yet the winners few. Scale service providers that control customer relationships look best-placed, conventional auto manufacturers the worst. Google, Uber, Tencent and Baidu are leading the way.

The car of the future will be self-driven and electric. In this world, the driver becomes the passenger and the algorithm the driver. Since we first wrote on this topic in April 2015 we have seen increasing evidence to support this contention. However, we now seek to go a step further in our argument: if you don’t need to drive a car, then why do you need to own a car? In the future, we believe that road transport will become a utility, something that can be bought by volume, like gas, electricity or water. Against this background, transport-as-a-service (or TAAS; some also use the definition MAAS, mobility-as-a-service) can be thought of simply as a pay-as-you-go-service. Transportation will be enabled by companies who own fleets of self-driving vehicles; cars will be utilities to call upon rather than assets to own. This will necessitate a comprehensive reassessment of global transportation and logistics networks, changing daily life as profoundly as did cars at the start of the 20th Century, reinventing transport and reshaping cities. In this note, we seek to answer five simple questions –

1: What is wrong with the current system?
Put simply, cars are an incredible waste of money. The average vehicle is driven just 4% of the time, yet the cost of ownership is around $10,000 annually, equivalent to around 15% of disposable income, according to UBS. Meanwhile, the typical US household owns 2.2 cars, and 20% have at least three. They also are very dangerous. Globally, cars are the 8th largest cause of death, equivalent to 1.3m fatalities (based on data from the World Health Organisation). Furthermore, it is estimated that around 92% of these accidents involve human error. To add to the litany of charges against the car, they produce large amounts of greenhouse gas and don’t always get people where they need to be at the right time. A study from consultants EY calculates that around 13% of the average working week is spent stuck in traffic…

The good news, however, is that at least things are changing. The main drivers (no pun intended) for this are twofold: the growth in the mobile internet and, the development of the sharing economy. Mobile apps are making automotive transport more seamless and convenient. At present, there are almost 4 times more ride-on-demand app downloads made than new cars sold globally (380m vs. 100m), reports UBS. Meanwhile, there is a clear correlation emerging between declining driving licences and a growing willingness to use car sharing as an alternative form of transportation. Just 77% of Americans under the age of 44 today have a licence to drive, compared to 92% a generation ago (in 1982, based on data collected by KPCB research). Meanwhile, according to a comprehensive study conducted by Capgemini, 50% of Millennials (18-34 year olds) said they view car sharing as an alternative to car ownership, double that of an over 50-year old cohort.

2: How close are we to the autonomous car?
Self-driving vehicles are capitalising on a convergence of multiple rapidly advancing technologies. Just as the PC, the mobile phone and the Internet emerged as different products, their symbiosis complemented and accelerated each other’s adoption. Given the combination of advanced materials, artificial intelligence, broadband wireless, robotics and 3D-visualisation, the future (autonomous) car is becoming an increasing reality. At least five crucial elements are required to make the autonomous car work: safety systems, connectivity, positioning software, infotainment and electrification. The cost of all of these should necessarily fall with scale. The lithium-ion batteries used to power electric vehicles have, for example, fallen in price by 60% over the last five years (according to Goldman Sachs) and should fall another 70% through to the end of the decade.

Numerous examples abound of progress already being made. NuTonomy (an MIT spin-out) launched the world’s self-driving taxi in Singapore in October 2016. Meanwhile, Uber has begun self-driving pilots in Pittsburgh and Arizona. Elsewhere, Tesla has said that every new car produced since November is equipped with the hardware necessary for autonomous driving; when the software is fully ready, it will activate the hardware, most likely in 2018. Both Tesla and Google have already collected millions of miles’ worth of data on autonomous driving, a clear differentiator relative to the conventional car manufacturers, who typically are still at the research stage.

3: What happens to transport when cars are fully autonomous?
The same reasons people own cars today – namely convenience and price – are the factors which explain why they probably won’t in the future. Thought of another way, the holy grail for transport is a safer, more convenient and cheaper alternative to that with which we are familiar. Imagine a world with minimal waiting, a pleasant ride, no hassle in finding a parking space and never having to fill up a vehicle or complete an insurance form. Cost will ultimately win out as the key; as the price per mile comes down, so the number of rides should increase.

At present, a ride in a taxi typically costs around $6/mile. The reason Uber and similar services have succeeded in eroding the popularity of taxis is that their costs are substantially lower, at approximately $2.50/mile. However, owning a private car is still notably cheaper (at $1.50-1.70), even if not always so convenient. Ford estimates that autonomous vehicles will radically change the economics of transportation, with their cost coming in at just $1.00/mile. This estimate is perhaps conservative (as much as anything since Ford clearly wishes to preserve its own business). In a recent study produced by Columbia University, the authors for example contended that a fleet of just 9,000 autonomous vehicles could replace every taxi in New York. Passengers would wait an average of just 36 seconds for a ride that would cost only $0.50/mile.

The reality is that a range of different payment models for the autonomous vehicle are likely to evolve (perhaps similar to how mobile operators have developed their pricing). These could include charging on a per mile basis, having unlimited usage, open-to-sharing or not; discounted, or even free, if adverts are present. Mass transit typically costs only $0.30/mile, a level which could be reached (or breached) by the owners of autonomous vehicles should they approach users’ available time inside the car as a source for potential monetisation (by advertisements or similar).

4: What are the implications?
The size of the opportunity is significant. While the global car market is worth $2.3trillion, the worldwide market for transportation is more than 2 times this size, worth up to $5.4trillion, according to Ford. In the new world of transport, there will likely be a massive transfer of wealth to a very small number of businesses, particularly those who own the software (and hence the customer relationship), as well as those involved in the battery and power manufacturing and related maintenance infrastructure.

For sure, the rise of the autonomous car could bring about widespread job losses and the wholesale destruction of some industries (car rental firms, taxi companies, insurance departments), but the elimination of car ownership could see a marked increase in disposable income. As well as commuters’ lives, cities will be transformed too. With fewer cars and parking spaces needed, they can be redesigned to be more pedestrian-friendly and to have more green spaces. Parking spaces in Los Angeles County, for example, account for c14% of all available land (data courtesy of Morgan Stanley). There will be other practical benefits too. Sensors of all kinds will also be embedded in vehicles that will have secondary uses, such as improving crime detection, infrastructure conditions and weather forecasting to name but a few examples. This data will be monetised, most likely by the companies who own the transportation services. In other words, car operators could become important data providers for municipalities and help reshape and improve the overall urban environment.

5: Who benefits?
There is no listed player (or pure-play) in the TAAS field today. Furthermore, it is hard to know how much the concept of TAAS is reflected in the share prices of businesses currently somewhat exposed to the theme. Indeed, the main focus of investors in this field at present seems to be on autonomous cars and electric vehicles. However, our experience of other industries which have ‘become’ services is simply that the service providers with scale will likely emerge victorious. Much will likely depend on how much money these businesses are willing to lose and also – crucially – how their relationships with regulators develop. It is worth noting though that the market capitalisation of the world’s top-five largest tech firms (Apple, Google, Facebook, Tencent and Baidu) is more than double that of the whole of the listed global auto industry aggregated. Meanwhile, combined, these five businesses have over $200bn of cash on their balance sheets. Against this background, it will be hard to see how the conventional auto manufacturers will be able to compete.

At this stage, Google, Uber, Baidu and Tencent look particularly well-placed. Beyond its own experiments with autonomous driving, for Google, the opportunity lies in the incremental advertising / You Tube-viewing hours, which it can potentially monetise from customers sat in cars. Around 120bn hours were spent in cars in the US alone in 2016, according to Morgan Stanley. Unlike Google (or any of the other large technology players), Uber is focused singularly on transport. Within its 6 years’ since launch, Uber has already established a presence in over 450 cities across 73 different counties. It has also raised more money from private investors than any other technology firm in history before going public. Finally, don’t forget about China. There are lots of reasons to believe that TAAS may develop here more quickly than elsewhere. There is less emotional attachment to the car in this country than elsewhere, pollution is a major problem and the authorities have the potential ability to implement change at scale. Some 55% of all time spent on mobile phones in China is on Tencent services. Meanwhile, Baidu says it will have autonomous vehicles on the road next year.

Alexander Gunz, Fund Manager, Heptagon Capital


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