What Does the Surprise Selection of Expedia’s Dara Khosrowshahi as CEO Mean for Uber?

You could have gotten whiplash from watching Uber’s CEO selection ping pong today. First former supposed lead horse, ex GE CEO Jeff Immelt, withdrew, apparently because he’d gotten wind he wasn’t going to get the nod. Then the press briefly reported that HP’s Meg Whitman was who the board wanted….despite her having said firmly she didn’t want the job, twice. It turns out she’d come on Saturday, apparently at Benchmark’s behest, and given the board a little speech on what she thought Uber ought to do.

Not long after that, the press started reporting that the board had settled on a name that had been kept under wraps, that of Dara Khosrowshahi, currently the CEO of Expedia, who was also the highest paid CEO in 2015, pulling down a cool $94.5 million in 2015. While there has been some grumbling about Khosrowshahi’s rich compensation, he’s never made any of the “overpaid CEO” lists. That’s because his spectacular 2015 payday was almost entirely the result of a grant of $90.8 million in stock options…for signing a long term employment agreement stipulating that he remain at the helm until September 2020. In 2016, his pay was a more staid $2.45 million.

But Khosrowshahi is going to be Uber’s $100+ million man, since that’s going to be the order of magnitude cost of buying him out from his Expedia agreement plus whatever special inducements needed for him to join Uber (almost certainly vastly richer in expected comp if you believe that Uber will be able to do an IPO at a suitably lofty valuation, an idea we regard with considerable skepticism).

The press has been positive about the choice, if nothing else because Expedia has been a drama-free tech company and the financial media likes the idea of a tech CEO for Uber (arguably a necessity to keep up the fantasy that a local transportation company deserves a unicorn premium). Expedia managed to be one of two winners in what was originally a four-company fight for dominance in the travel booking business. And it also represents at least a momentary cessation of hostilities at the Uber board, since the vote on Khosrowshahi was unanimous. Recode gives some detail about his background, focusing on factors that may help him succeed, without acknowledging the magnitude of the task.

The Wall Street Journal was a tad more cautious:

If he accepts the job, Mr. Khosrowshahi, 48 years old, will have the task of repairing Uber’s image after months of scandal at the ride-hailing firm. The company is grappling with the fallout from allegations of sexism and sexual harassment, depleted executive ranks and a lawsuit by Google parent Alphabet Inc. alleging that Uber used design secrets for its self-driving program.

He will also have to contend with a deeply divided board and shareholder base over the future of the company, as well as his predecessor, Mr. Kalanick, who sits on Uber’s board and wishes to have strong input into the company’s direction….

Mr. Khosrowshahi would inherit a 15,000-employee global concern that is still deeply unprofitable. It had losses of more than $3 billion last year and nearly $1.4 billion in this year’s first half. It is still increasing sales, including reporting last week $1.75 billion in revenue for the second quarter, up 17% from the first quarter. Full-year sales last year were $6.5 billion.

And Hubert Horan knows quite a bit about Khosrowshahi’s history at Expedia. While he describes his take below as “initial speculation,” he watched the growth of the on-line travel business and knows many of the industry principals first hand (but Khosrowshahi is not one of them). The bottom line is that while Khosrowshashi is a generally able executive, and by his background appears to be very skilled at deal-making and consolidating businesses, his experience does not appear to be terribly relevant to Uber.

One of his big attractions short-term is likely to be able to keep the badly divided board from tearing itself apart. But that is only one component of the enormous challenges he faces.

From Hubert via e-mail:

Khosrowshahi’s family emigrated from Tehran after the revolution. He graduated from Brown in ’91 and spent a bunch of years at Allen & Co. In the late 90s, Barry Diller hired him to be a “deal guy” at IAC, which at that point was the Home Shopping Network and USA Network but Diller understood the potential of buying things on the internet. Since airline/travel sites were the innovators here, that’s where he focused.

Remember that airline distribution innovation goes back to the 1960s and the computer reservation systems that automated travel agencies, led by American (Sabre) United (Apollo) and TWA (PARS). In the late 70s American Airlines was the world’s largest employer of IT/Operations Research talent anywhere outside the military-industrial complex. These systems were spun off in the early 80s, only for the airlines to discover that they had given independent companies a chokehold on their product distribution. They captured much of the gains from airline industry growth post-deregulation, and even though they weren’t introducing any new services or technical innovations, had become far more profitable and valuable than the airlines themselves.

There were 4 players in the industry in the early internet days. It started with Travelocity, which American/Sabre started as online consumer product, and Expedia which Microsoft (Ballmer) had started as a way to dabble in consumer services via computer modems. This was followed by Priceline, which aside from reviving William Shatner’s career, developed the idea of trading equity in return for access to airline seat inventory. When Priceline went public in the heart of the dot-com boom, Delta made over $700 million on its seemingly worthless Priceline stock, money that singlehandedly kept Delta from collapsing into bankruptcy.

The airlines – who had been working for years on how to recapture the value they’d foolishly spun off into the CRS companies — banded together and started Orbitz. The airlines hoped the threat of Orbitz would get Travelocity and Expedia to give equity deals to the airlines, but in the late 90s everyone had figured out this “equity” thing and no one would budge.

Orbitz was led by Jeff Katz who had been the CEO of Swissair, who aside from yours truly the only other US citizen in Swissair management. Lots of antitrust issues here; I recall an interesting chat early one morning after Jeff arrived back in Zurich after being grilled in Washington by Senator John McCain, who lived just down the street from my house in Phoenix.

But the IAC/Diller/Khosrowshahi strategy from the millennium onward was simply deals and consolidation. They bought up other online travel services such as hotels.com, Hotwire and Trip Advisor. The travel group was spun off from IAC and the television properties in 2005 (under the Expedia brand) in 2005. Since then the online travel industry has been merged into two players (controlled by Expedia and Priceline) who own all the many brands you actually see on line, just as most car rental companies are under common ownership, and the dozens of international airlines are controlled by three collusive alliances.

Khosrowshahi earned $9.4 million in 2014, which according to Fortune was 4756 times the salary of other Expedia employees. These online travel services are commodity products at this point. While industry cartelization obviously helps I’m not sure why anyone could justify this kind of pay going forward, unless it is entirely explained by the elimination of competition.

I’ve never seen anything to suggest that he isn’t a very smart, capable person, but I’ve never seen anything suggesting he personally introduced major industry breakthroughs, much less created 4756 times more value than other Expedia staff. He apparently had a (very generous) employment contract at Expedia based on his commitment to remain there until 2020. This explains why his identity as a CEO candidate had not been leaked. Not sure how this problem got fixed, but hiring Jeff Immelt or Meg Whitman would have also required vast amounts of cash.

The short term questions at Uber are how he can resolve the civil war between the Kalanick and Benchmark factions, how he can rapidly reestablish a semi-functional senior management team, and how he can manage the external/PR perceptions of Uber.

All evidence suggests that — no matter how smart Khosrowshahi might be — he has no particular understanding of the economics urban car service industry. The very first internet article of mine on Uber was over two years ago. Mark Ames had posted a piece at Pando about an Uber imitator called Convoy that wanted to be the “Uber of trucking”. I sent Ames an email arguing that while he clearly understood that Uber (and Convoy) were highly dubious, he hadn’t quite grasped that the economics of these businesses were far worse than he’d imagined, and grossly violated all known precepts of transport economics. Mark graciously published my email as a full Pando article. Neither Convoy nor Uber Freight has gone anywhere, demonstrating the fundamental flaws in their business models.

But one of the investors in that business model as it turns out was Dara Khosrowshahi. It will be interesting to see whether he still has the same naïve faith in things sold on the internet he had in 2007, or whether he has figured out that the world of 2017 works a bit differently.

The appointment of anyone credible as CEO was bound to give Uber another round of optimistic press coverage. Interestingly, the Wall Street Journal highlighted the fundamental weakness: the ongoing big losses, and by implication, the lack of any credible path to profit. And while loss-making companies that have admitted they had no idea how they’d ever make a dime like Blue Apron have gone public, Uber’s story has alway been that it would somehow become dominant and that would translate into outsized profits. It does not seem likely that investors will celebrate a supersized IPO if the S-1 reveals that Uber’s long-standing positioning was one big fairy tale.

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