Conversely, if customers are churning away from your company, this is a huge negative. What is that hot new company worth? This is not just closer to the dynamic mTSP (multiple TSP) problem, which falls under the intimidating classification of “NP-hard,” but moreso under the broader and even more formidable VRP (Vehicle Routing Problem). “Price earnings ratio” and “enterprise value to EBITDA” are common shortcuts, with their own benefits and limitations. Google’s recent first quarter results provide a nice example here. As of Monday, LinkedIn’s market capitalization was $8.3 billion. So, assuming that the company is willing to show profit expansion over the next few years, it’s not that unreasonable for the company to trade at a 10X price/revenue multiple. What drives true equity value? Bill Gurley has spent over 15 years as a general partner at Benchmark. Bill J. Gurley, Ph.D., is a professor in the Department of Pharmaceutical Sciences and director of the Clinical Pharmacokinetics Laboratory at the University of Arkansas for Medical Sciences College of Pharmacy. Youku trades at 21.7X analysts average 2012 revenue estimate. A high profile example of this is Demand Media’s reliance on Google’s SEO traffic. “… But this is really the essence of discounting: by cutting your price, you can boost your sales to a point where you earn far more at the cheaper retail price than you would have by selling the item at the higher price. Cash is king, and if your cash margin is better than your accounting net income margin, you are golden. Empowering the world to build a safer internet #TogetherWeHitHarder | HackerOne empowers the world to build a safer internet. On one end is Overstock, trading at 0.2X analyst’s 2012 revenue estimates. These dependencies are also disclosed in the S-1 under “Risk Factors.” Here is the example of the risk disclosure of Demand’s dependence on Google from an SEO perspective: “We depend in part on various Internet search engines, such as Google, Bing, Yahoo!, and other search engines to direct a significant amount of traffic to our owned and operated websites. View the profiles of professionals named "The Gurley" on LinkedIn. A stylized letter F . If high price/revenue multiple companies have wide moats or strong barriers to entry, then the opposite is also true. These risks are accounted for with lower valuation multiples. By Bill Gurley Money Out of Nowhere: How Internet Marketplaces Unlock Economic Wealth. Obviously, the faster you are growing, the larger, and larger future revenues and cash flows will be, which has direct implications for a DCF. We will be the second." And that is a very interesting question; it's a very common one. Share on LinkedIn Share on Reddit Share on Google+ E-mail Share on Twitter Share on WhatsApp. In fact, the very success of the first company in the field will act as a siren inviting others into the market, which, in the absence of a competitive advantage, will lead to margin erosion. The opposite of subscription revenue is revenue that is one-time or episodic. In retailer language, you can lower your markup but earn more because of the increased volume.”– Sam Walton, founder of Wal-Mart, "We've done price elasticity studies, and the answer is always that we should raise prices. This “second world” that Brian refers to is one where the market leader has an unfair advantage that is reinforced by network effects. When you have something that you know is true, even over the long term, you can afford to put a lot of energy into it.” ― Jeff Bezos, announcing simultaneous cuts in 48 cities, you need a really high amount of base liquidity in the system, company has stated that a large proportion of the funds are earmarked specifically to make UberPool successful, Investors Beware: Today’s $100M+ Late-stage…, Magnifying the Positive Impact on Cities. Those of us with a fondness for finance will argue until we are blue in the face that discounted cash flows (DCF) are the true drivers of value for any financial asset, companies included. If we’ve learned anything from the past market cycles, it’s that the fundamentals eventually matter, and all revenues are decidedly not created equal. By Bill Gurley Money Out of Nowhere: How Internet Marketplaces Unlock Economic Wealth. There are 4,000+ professionals named "Gurley", who use LinkedIn to exchange information, ideas, and opportunities. In the table below, you will see that LinkedIn does extremely well against our 10X club criteria list. See the complete profile on LinkedIn and discover Bill… All things being equal, gross margin percentage should have a direct impact on price/revenue multiple, as there will obviously be more gross margin dollars to contribute to free cash flow. Companies that are increasing their profit percentage while they grow are capable of carrying very high valuation multiples, as future periods will have much higher earnings and free cash flow due to the cumulative effect of growth and increased profitability. Capital Expenditure Intensity – All things being equal, a company with heavy CapEx will trade at a lower price/revenue multiple (for sure). As an example, Kayak’s potential IPO buyers will need to get comfortable with Google’s acquisition of ITA, Kayak’s use of ITA, and whether or not Google goes from being a source of traffic to a competitor. In order to measure how a business is scaling, many investors look at marginal incremental profitability. An image of a chain link. View the profiles of professionals named "Bill Gurley" on LinkedIn. The only criticism one might have is that they are not showing enough profitability or marginal profitability. See Bill Gurley's compensation, career history, education, & memberships. Assuming these are accurate, LinkedIn trades between 11.8-15x 2012 revenues. What would my revenue growth look like? This speech was originally delivered at the McCombs School at the University of Texas by Bill Gurley, a venture capitalist at Benchmark Capital. Microsoft, Ebay, Skype, Google Adwords, and Facebook (in their prime) all benefited from network effects. This can be accomplished in numerous ways, but one of the more common is to collect cash from your customer ahead of your accounting driven revenue-recognition. Electronic Arts trades at 1.7x times the same estimate. 1. The assertion is that TAM can affect valuation multiple. [For more on this topic, I highly reccomendan amazing paper on this subject, Competitive Advantage Period “CAP,” The Neglected Value Driver by Mike Mauboussin, the Chief Investment Strategist at Legg Mason, and an adjunct finance professor at Columbia Business School.]. AWS was an “option” on a whole new business, and eventually began to be valued as such. For a period of time, Jeff Bezos was a heavy investor in marketing, but after a while he retrenched. When it comes to execution, Netflix is considered by many to be the best of the best. One obvious example of this is the predictable nature of SAAS subscription revenue. Uber’s founding tagline was “everyone’s private driver.” Today, the company’s mission statement is “transportation as reliable as running water, everywhere for everyone.” The common component of both the original tagline and the new mission statement is the word “everyone.” In order for Uber to serve everyone it is critical that Uber not only achieve price leadership, but that the company continually search for new ways to deliver transportation at lower and lower price points. The following chart highlights 2012 forward price/revenue ratios for 122 global Internet stocks. There has been much written about the LinkedIn IPO, and its tremendous after-market performance. Google stated on its earnings call, that the company was simply investing for the long-term over the short-term, and was not concerned about this trend. This January, the company took an even bolder move announcing simultaneous cuts in 48 cities, and backing these up with income guarantees for drivers. Fortunately, when they do exist, they are typically leading candidates for the 10X+ price/revenue multiple club. High growth also implies that a company has tapped into a powerful new market opportunity, where customer demand is seemingly insatiable. Investors expect Coke to be around in pretty much its same form 50 years from now. As long as you are.”  — Paul Rodgers, Shooting Star. These customers then tell other potential customers, and through this “word of mouth” process, the customer base grows even larger. Armed with this new data, Uber leaned on its legendary “math department” to help drive prices even lower. This speech was originally delivered at the McCombs School at the University of Texas by Bill Gurley, a venture capitalist at Benchmark Capital. It turns out that writing the algorithms for UberPool is quite a bit more complex than a simple TSP, because (1) you have many more than one “salesman,” (2) the destinations are dynamic, (3) new “salesmen” are constantly entering and leaving the system, (4) vehicles have limited seating capacity, and (5) new requests for rides are continually streaming in. What is the long-term growth rate? If you have to “buy” or “rent” your customers, you have a non-optimal business model – plain and simple. While one might not have the specific numbers required to complete an accurate DCF, we do know which business qualities would have a positive impact on a DCF exercise, all things being equal. Think about this simplistic example. Amazon (20% gross margin), which is certainly among the very best retailers when it comes to execution, trades at a low 1.5x 2012 revenue estimates. Which business would you prefer to own? This article interestingly compares each stock to its peak price (as opposed to offering or deSPAC) and concludes t…. This is not because it is a bad theoretical framework; it is because we don’t have accurate inputs. The Dangerous Seduction of the Lifetime Value (LTV) Formula What if I had a business where I sold dollars for $0.85? Bill Gurley is a general partner at Benchmark Capital. All things being equal, high switching costs are a positive for price/revenue multiples, and low switching costs are a negative. You will be hard pressed to find a company with a heavy marketing spend with a high price/revenue multiple. As you can see, this is the natural evolution after UberX and UberX price optimization. There are 4,000+ professionals named "The Gurley", who use LinkedIn to exchange information, ideas, and opportunities. This lofty valuation has attracted scrutiny from around the globe, including skeptical analysis from both the New York Times and Barron’s. So there are ten business characteristics that can impact a company’s chances of making it into the 10X+ price/revenue multiple club. Flipboard. UberPool is a platform for the future. Here is the problem. If investors value predictability, than retaining customers for long periods of time is obviously a positive. The idea of UberPool may seem simple, but the implementation is unquestionably not. Uber is. Switching costs can take many forms – technical lock-in, data lock-in, high startup costs with a new vendor, and downstream revenue dependencies are just a few. There are a few important things to remember about network effects. UberPool is actually Uber’s second major initiative targeted at lowering consumer prices. Clearly, some of these variables are interdependent, and clearly you may find a company or two without every single characteristic, that still make the club. View Bill Gurley’s profile on LinkedIn, the world’s largest professional community. There is another situation where growth can be misleading. So basically, I think TAM can radically affect private company valuations, but less so for public. Here are some of the key business characteristics that would be used to separate high quality revenue companies from low quality revenue companies, and therefore are the distinguishing traits that warrant high price/revenue multiples. August 23, 2020: If you are looking past or through Covid — and why not, all of Wall Street is — the topic du jour in Silicon Valley is Special Purpose Acquisition Companies, or SPACs. The opposite is also true. HackerOne | 115,367 followers on LinkedIn. For the quarter ended September 30, 2010, approximately 41% of the page view traffic directed to our owned and operated websites came directly from these Internet search engines (and a majority of the traffic from search engines came from Google), according to our internal data.”. To make a concept like UberPool work. ... and products like LinkedIn are more focused on white-collar workers. And so the effort we put into those things, spinning those things up, we know the energy we put into it today will still be paying off dividends for our customers 10 years from now. delivered by Bill Gurley Background. When investors see a large number of these traits, they then have an increased confidence that the elements are in place that will lead to a strong DCF value over time. View the profiles of professionals named "Bill Gurley" on LinkedIn. 2. As the company achieved lower and lower per-ride price points, the demand for rides increased dramatically. That money would have been better spend on food delivery, he told journalist Eric Newcomer. https://www.businessinsider.com/bill-gurley-investment-key-concepts-2019-7 If an investor fears that a company’s competitive position (which allows them to create excess cash flow) is tenuous and will deteriorate, then the value of the enterprise may be worth the cash flows only from the next several years. Also, you can see that only 12 of these 122 companies (<10%) have multiples over 7X. This graph would suggest that the company’s revenue alone is a very poor guide. In their S-1, companies are required to highlight all customers that represent over 10% of their overall revenue? This will severely limit pricing power. In a system where the value to the incremental customer is a direct function of the customers already in the system, you have a powerful dynamic that tips towards winner take all. See Bill Gurley's compensation, career history, education, & memberships. "Let's not let … So you have a company that is highly regarded for their management prowess, and that is growing over 50% year over year. This goal – to deliver the highest possible value to the customer – is a key catalyst for UberPool. The picture included below is borrowed from a Skype slide deck from a few years back, and does an amazing job of highlighting the difference between “bought traffic” and organic growth. If you previously studied combinatorial optimization in theoretical computer science or operations research you may be familiar with the “traveling salesman problem,” or TSP. However, all companies with which the press and public are enamored are not LinkedIn. In their seminal 1994 book Built to Last: Successful Habits of Visionary Companies, Jim Collins and Jerry Poras coined the term BHAG (pronounced BEE-hag) -- … TSP problems require computationally intensive integer linear programming techniques to find exact solutions. It turns out that if all you want to do is grow revenues, with disregard for the other variables, it is quite simple to “manufacture” awe-inspiring revenue growth. Before we dive deep on UberPool and explain why this program is worthy of being the company’s BHAG, let us first look back at some of the key strategic decisions in the company’s history. The technology and algorithms behind UberPool will lay the groundwork for the capability to do multiple stops with multiple cargos, increasing the future optionality for the Uber platform. “ Don’t you know that you are a shooting star, Trading in and out of companies with low growth rates is simply not that interesting to an investor. Additionally, knowing what long-term cash flows look like requires knowledge of a vast number of disparate future variables. As we turn the page to 2015, Uber has a new BHAG, and it’s name is UberPool. Perhaps the very best Internet company that invests heavily in marketing is Netflix (marketing is about 15% of sales in recent quarter). The higher your ratio is of cash/earnings the better off you are. Salesforce.com trades at a staggering 7.5x 2012 estimated revenues. So UberPool is a fundamental enabling technology for Uber in addition to providing lower price points and increased efficiency. ... and products like LinkedIn are more focused on white-collar workers. The following table shows this statistically. Conversely, the game companies that get higher multiples are ones that own more of a publishing/distribution platform, such as TenCent in China. Perhaps the definitive piece on this type of advantage is Brian Arthur’s Increasing Returns and Two Worlds of Business published in HBR back in 1996. We saved the best for last. View the profiles of professionals named "William Gurley" on LinkedIn. Benchmark's Bill Gurley said the change in direct listings approved by the SEC will "unquestionably" lead to the end of traditional IPOs. This is also the reason that “human capital” businesses like consulting businesses often have trouble with low valuations on Wall Street. This can be done on a quarter-over-quarter basis, or a year-over-year basis. Uber’s technology goes well beyond its client side smartphone applications; there is also a server-side intelligence system that provides demand prediction, congestion prediction, supply matching, supply positioning, smart dispatch, and dynamic pricing. Simply look at the change in revenue versus the change in costs, and then calculate the incremental operating margin of the two results. So growth is good, correct? Early Uber investor Bill Gurley said the company "burned" billions of dollars on self-driving tech. SuccessFactors trades at 7.9x 2012 estimated revenues. Journalists who quickly apply 10x multiples to all private companies should at the very least consider gross margin levels in their analysis. View the profiles of professionals named "Gurley" on LinkedIn. Companies that genreate far less free cash flow than earnings are going to have lower valuation multiples. Of course, Uber is not the first company to choose a corporate strategy of price leadership. The second storeowner advertises frequently, and all new customers are a result of this advertisement and promotion (which obviously costs $$). Basically, the company’s immense historical database of supply and demand curves at different price points makes it easy to predict how these markets will evolve. Talk about room for error! By far, the most critical characteristic that separates high multiple companies from low multiple companies is competitive advantage. What gives? https://www.businessinsider.com/bill-gurley-snowflake-ipo-broken-2020-9 Click to share on Twitter (Opens in new window), Click to share on Facebook (Opens in new window), All Revenue is Not Created Equal: The Keys to the 10X Revenue Club, Competitive Advantage Period “CAP,” The Neglected Value Driver, Benchmark’s Newest General Partner Chetan Puttagunta, The Dangerous Seduction of the Lifetime Value (LTV) Formula. View bill gurley’s profile on LinkedIn, the world's largest professional community. Consulting revenue is also typically one-time. If its over 50 or 100%, they will be ecstatic. Many electronics products follow this trend as some hot new product is quickly commoditized. View the profiles of professionals named "Gurley" on LinkedIn. Bill Gurley is General Partner at Benchmark Capital. As you can see from the table below, some of the largest names in technology are really struggling to grow. If you offer a great service, people find out.”. It's impossible to imagine a future 10 years from now where a customer comes up and says, 'Jeff I love Amazon; I just wish the prices were a little higher,' [or] 'I love Amazon; I just wish you'd deliver a little more slowly.' Impossible. “It’s not up to Bill Gurley to choose the right price,” she says. This allows the company to “forward invest” capital to help these markets achieve lower consumer prices even faster. Most of the companies that have really high multiples, and that have been highly respected by investors all have or have had organic growth: Yahoo, Ebay, Google, Facebook, Skype, OpenTable, Baidu. Activision trades at just over 2X 2012 estimated revenues. Bill serves on nine boards including Stitch Fix, Marco Polo and Good Eggs. How long will this company hold off competition? You might call this “betting on the math department.”. Why do investors care about this? He is also the author of the popular blog Above the Crowd. This is the name that founder and CEO Travis Kalanick has given to his team of scientists and hardcore mathematicians who own the back-end routing algorithms for Uber. Mayor Julie Masters is proud to announce that Bill and Amy Gurley have made a gracious donation to the Dickinson Harvey Relief Fund. You also have an obvious issue if your top 2-5 customers can organize against you. A few years back, Amazon was trading at 1x revenue and had just launched AWS. https://www.businessinsider.com/bill-gurley-doordash-ipo-pop-2020-12 This concept, well explained in Porter’s book by the same name, basically asks the question, “How easy is it for someone else to provide the same product or service that you provide?”  If your company has “high barriers to entry,” Wall Street will be super excited, as investors will have confidence discounting cash flows many, many years into the future. UberPool is Technically Difficult. She then drops off one passenger, and perhaps picks up a third before the first is dropped off. When you combine this fact with the paucity of IPOs from the past five years, the public technology investor has been starved from investing in companies with interesting growth characteristics. Watch the video at the end of this post from the DLD15 conference in Europe (starting at 3:30 into the video), and you will see Travis Kalanick layout a vision for “the Perpetual Ride” whereby a driver would always have a customer in the car – an even more audacious vision. This is really key. Like Wal-Mart and Amazon, this is Uber’s philosophy as well. "Let's not let … All rights reserved. Using the DCF framework, you cannot generate much cash from a revenue stream that is saddled with large, variable costs. But investors and analysts beware; this is a remarkably dangerous technique, because all revenues are not created equal. Microsoft had wonderful scale in this manner for many, many years. There is another reason why the premium paid for growth in 2011 may be even higher than it has been in the past. If you understand the journey that the company has taken up until now, the more clear it will be why UberPool is the obvious next step. UberPool will allow Uber to achieve radically lower price points, magnifying the already positive impact Uber is having in its partner cities. Prior to Benchmark, Bill was a partner with Hummer Winblad Venture Partners. As the world’s trusted hacker-powered security platform, HackerOne gives organizations access to the largest community of hackers on the planet. Perhaps it is not peculiar that our good friend the price/revenue ratio is back in vogue. Also recognize that the majority of these high multiple companies are domiciled outside the U.S. View Bill Gurley’s profile on LinkedIn, the world’s largest professional community. Wal-Mart and Amazon, this is also true partner policy or algorithm change to have lower valuation,... 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