The so-called new economy and the disintermediation of the rent seekers

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The so-called new economy is about disintermediation. That’s what it has always been touted as. And I think there’s validity to this. It’s interesting to see how incumbents deal with this disintermediation, especially when they have government-regulated markets.

A perfect example is Airbnb. The company just closed a $500 million round of funding that values the enterprise at $10 billion. The company is basically a peer-to-peer hotel/bed & breakfast rental site. It allows normal people to rent out their homes and get paid for doing so. Now, we could look at the valuation as bubble economics because the numbers are too large. I certainly do. For example, the company is worth more than Intercontinental Hotels – a company that owns property, not just a platform.

Or we could also see the valuation as a proxy for the potential of disintermediation. Think of it this way, any of the hotel chains could augment their existing platform with an Airbnb kind of offering since people already use their sites to find accommodation away from home. But they don’t want to do so, ostensibly because it cannibalizes their existing business model. All of the revenue accrues to the peers in the p2p network and they are left with just commissions. Airbnb takes a 3% commission. So this opens them up to disintermediation by a competitor without an existing revenue stream.

We have seen this happen time and again with the internet. It happened to booksellers, music stores, travel agents, newspaper classifieds, newspaper job classifieds, news, etc. The question is whether the incumbent recognizes the challenge and moves to disintermediate itself or whether the incumbent sees its whole revenue stream fall away. You can think of all the bankruptcies and mergers that have resulted from this kind of disintermediation: Borders, Tower Records, Virgin Megastores, Newsweek, etc. More of this is coming.

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Now the right thing to do when you get disintermediated is to find a way to own the disintermediation space yourself. This is what newspapers have tried to do with the jobs classified space in the US and CareerBuilder. This is what Amazon, a prime disintermediator, has done by selling products from other vendors on its site, making itself a retailer and retail aggregator that competes with internet price matching sites. But most companies don’t want to do this. And that makes them vulnerable to disintermediation.

Take the hotel industry for example. Airbnb is now a leviathon that arranges 11 million stays in 35,000 different cities in up to 192 countries. That’s big. You could say that this has augmented the travel and tourism market, made it bigger by adding rooms that would not otherwise exist. In fact, Airbnb started because of overflow from a design conference when hotel rooms were fully booked. But clearly, much of the new inventory cannibalizes existing hotel inventory. And brings down prices as a result, so that RevPAR revenue per available room, a key metric in this space, goes down.

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So what have the hotels done. They have sought out regulatory protection.

Hotel trade organisations around the world have campaigned to have the service shut down, or tried to force hosts to comply with onerous red tape, originally designed for big businesses.

They have had varying degrees of success. In Britain, local councils are broadly happy to ignore old-fashioned legislation and are in discussions to scrap some laws which no longer make sense. But across the Atlantic, in New York, it is a very different picture.

Nowhere is the battle more intense than in Manhattan, where cramped hotel rooms cost an average of $267 a night.

Owners of these establishments object to the fact that Airbnb hosts are not held to the same safety standards as they are, and that many users will dodge hotel taxes, levied at around 15pc of the cost of a stay.

The city’s powerful Hotel Association also claims that people are breaking state laws whenever they let their homes out for fewer than 30 days at a time, unless they are there themselves.

Many hosts also find themselves in breach of their tenancy agreements, leading to evictions.

“Airbnb and a few other companies are changing the universe of what people assume are their rights as residents in neighborhoods,” Liz Kreuger, the New York State Senator who drew up some of these laws, told Time magazine. “It’s challenging the model of business regulation and frankly it’s wreaking havoc in certain communities.”

The hoteliers’ campaign has gained considerable traction. In 2013, New York attorney general Eric Schneiderman subpoenaed information on 15,000 New York-area hosts to determine if they were paying any hotel taxes. Airbnb has objected to the subpoena as too broad, and the two parties are currently in discussion to reach an out-of-court agreement.

The company has taken the point on taxes, however. Last month, the business wrote to Bill de Blasio, New York’s new mayor, asking permission to be able collect hotel taxes from Airbnb hosts, and hand it to the government itself, relieving individuals of the red tape, and ensuring the state received an extra $21m a year.

“New Yorkers [have] told us time and time again that paying their fair share was their top priority. We heard them loud and clear,” Chesky wrote later in the Huffington Post. “But today, officials tell us that current tax laws prevent us from collecting those taxes, and even if we did, the government couldn’t take the cheque.”

This is only going to work for so long. Eventually, the hotels are going to have to come up with a long-term strategy because the peer-to-peer genie is out of the box. And eventually peer-to-peer networks are going to find a way around the regulatory hurdles. And then the hotels are really going to fall on hard times.

We see the same thing with Uber. Belgium has banned Uber and threatened 10,000 euro fines for each attempted pickup. That hasn’t stopped Uber from continuing to work. The Uber taxi service has also suffered a setback in Berlin, again on regulatory protection concerns. And then you get people claiming that taxi-hailing apps like Uber competitor Hailo make our streets more unsafe. Of course, it’s a taxi driver making the claim. The concern for safety is legitimate but that can be tweaked over time. I think there are other concerns at work here.

We see exactly the same thing yet again with the Brouhaha over Tesla doing direct sales in New Jersey. Anthony Weiner came out in support of the auto dealers. I see his arguments as entirely bogus and corporatist. It is supporting incumbent distribution channels because that’s where political patronage is. It is politics at its worst. Libertarian economics professor Alex Taborrok calls it a case of Tesla versus the Rent Seekers. I agree with that depiction.

Where is this headed?

Well if the Internet’s first wave is any indication, there will be a shakeout. Forget about today’s valuations. Some of these apps and companies will flame out and go to zero. Others will thrive and live on. What is clear though is that the incumbent industries will resist change and get run over. Their existing business models are under threat and I believe they will never recover, regulatory hurdles or not. Hotels are particularly vulnerable here, especially down market chains. Expect to see serious problems down the line, especially where capital structures show high degrees of leverage that make companies susceptible to an economic downturn.

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