Sitting at a conference a few weeks ago, I heard two VC partners argue about whether Uber was a buy right now at its current valuation. One partner was aghast at Uber’s current valuation of over $40bn. As of the date that this article was written, this exceeds the market capitalization of public companies like Yahoo, LinkedIn, and Sony. Given the relatively short amount of time Uber has been around (five years) and legal hurdles with taxi and limousine regulators, investors bullish on Uber are betting on increased expansion and the company’s ability to thwart these regulatory hurdles.
The partner who argued that Uber was over-valued stated that while the user traction is impressive, the technology is so simple that it could easily be replicated. In fact, it is being replicated with competitors like Lyft, Curb, and Sidecar. But similar to Facebook, the value lies within its network effect based on a massive user-base. This points to a recent trend sometimes referred to as the shared economy, or the new infrastructure of human capital. Startups are using technology to tap into underutilized, or underdeveloped services, based on human capital. Uber is taking advantage of a lack of efficiencies within the taxi industry, but also giving drivers the ability to make extra cash without some of the administrative barriers and costs associated with becoming a licensed taxi or limousine driver. This is the disruption that startups and VCs keep talking about; as an example, the way AirBnb is disrupting the lodging industry.
Perhaps these high valuations stem from a weak overall economy. Startups like Uber and AirBNB are capitalizing on an underemployed workforce that sees an opportunity to make extra money driving an Uber cab or renting out extra bedrooms. Another theory is that technology is allowing people to capitalize on assets they already have but might be underutilized. Instead of downtime in front of the TV, why not make extra money as a contractor on oDesk? Instead of your extra bedroom collecting dust, why not make extra cash renting it out on AirBNB? Technology is forming the connective tissue that brings together buyers and sellers in a shared economy. As these services and shared economy platforms gain scale, they gain in value. However, just like what we’ve seen during the dot-com bubble of the late 90’s, not all of these services will catch on.
According to CB insights more than 50 U.S. venture-backed technology startups reached a valuation of $1 billion or more. Venture capitalists invested about $50 billion in tech startups last year, at the highest level since 2000, the peak of the dot-com bubble. Many professional investors don’t feel that the valuations are as inflated as they were in 2000, but agree that the market is certainly becoming more risky since many of these billion dollar companies will lack a potential profitable exit opportunity. Many of these billion dollar firms are pre-revenue with high-burn rates. The reality is that eventually, these businesses will have to generate real cash flows to be sustainable as investment capital cannot sustain a business forever. As traditional valuation models are ignored and investment capital pours into these risky businesses, it’s hard to imagine that a correction isn’t on the horizon.
There’s always opportunity within a frothy market. In every market environment there will always be great companies building disruptive products that smart VCs are backing. Many VCs are starting to forego chasing after unicorns to focus on building great companies with solid fundamentals and scoring multiple, smaller wins. As capital chases capital in overvalued markets, there’s significant opportunity to invest with emerging VCs that invest early and exit at favorable terms.
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