There is a popular notion hot fast-growing software companies that are losing money are doing so because they are "investing through the income statement", spending $ to acquire customers, & R&D on new product features. Investors believe losses reflect investment not competition.
In some cases, that's genuinely the case, but in many others it is not. The impact of competition on margins/returns can manifest in multiple ways. It doesn't just have to be price competition. It can be competition for features, or S&M competition to acquire and keep customers.
In the online space, anyone can acquire more users by being willing to spend more money on performance marketing (paying for clicks, installs, etc). The fastest growing companies will therefore be those willing to spend the most money w FB, GOOGL etc, paying to acquire users.
Consequently, the corrosive impact of competition on margins tends to manifest less via direct prices, like it does in the "old economy", and more in the form of CAC competition/cost inflation that results in value capture by those that control traffic like GOOG/FB.
This isn't really "investing through the income statement". It's a fundamental cost of doing business in the online world. You have to pay to acquire users, and you have to pay to keep those customers by keeping your products competitive by constantly levelling-up features.
The economics of online businesses are therefore the monetizable value of users relative to the cost of acquiring users and constantly developing features to keep them. Spend on CAC and product development therefore is not capex/investment - it's opex/CODB.
Because the space is so competitive (so much capital chasing the growth opportunity), like any hyper competitive industry, few players succeed in keeping revenues above costs and earning a sustainable spread. Barriers to entry are low, economics weak & thus profitability is poor.
Investors haven't yet figured this out, because they are so focused on rapid top line growth. What's going to happen eventually is revenue growth will slow as the software industry/mobile internet matures, and profits won't arrive. When this happens the stocks will fall >90%.
LTV/CAC metrics are also mostly bullshit, because the LTV is based on gross profit & anticipated churn, which excludes the cost of ongoing product development which is necessary to avoid competitors overtaking your product & your users churning off en mass.
All you have to do is look at markets where there is limited competition in ecom/software/online services, like CIS for eg. Tech coys there are highly profitable from early stage, despite "investing through income statement". It's competition not investment driving losses.
Growing a business is easy. Anyone can do that. You just throw more money at it. What's hard in business is finding a way to sustainably see revenue > costs, which requires creating value others can't easily mimic & hence arbitrage the difference between revenues and costs away.
We see lots of growth in the online/software space. But we also see the difference between revenues & costs frequently arbitraged down to/below zero because software is easy to write; barriers to entry are low; and industry is flooded with capital. New economy is same as the old.
Uber for eg. tried to arb difference between cost of private drivers & what people would pay for a ride. It was a wide spread. Problem is that exploiting the arb with software was too easy for others to replicate so the arb got competed down to sub zero. Same w food delivery.
The market might consolidate in the future and the ability to capture this arb might improve. That's the bull cash for UBER et al. But as it stands today, the losses are real. They are not an investment. They are a reflection of competition so fierce the rev cost arb is sub zero.
• • •
Missing some Tweet in this thread? You can try to
force a refresh
