After the financial crisis in 2008, the money printers have been running 24x7 to secure a finance galore at affordable prices. While the economies are floating in cash, there are few attractive places to invest except the stock market. As a result, the share indexes are now generally higher than in the former “crazy days”. All shares are essentially on vitamins, but some shares are on steroids, and that’s the internet shares. Many people expects a market correction.
The digital industry is generally an attractive place to invest. It is illustrated by the following ballpark chart comparing the NASDAQ (Computing Companies) Index performance against the SP500 Index:
This is a 20 year story of stellar investment performance of the computing industry against industry average. It’s almost always better, sometimes with a factor of 2-4.
The introduction of web-commerce in the late 1990’ties led to a giant bubble of inflated expectations, with the NASDAQ (Comp) rising from 360 in 1995 to 2700 just 5 years later. It encouraged professional investors to pour thick streams of venture capital into web business ventures. In this feeding frenzy, everybody talked about burn rates as a way of illustrating how much money was dumped in the internet startups. The bubble burst in July 2000 and started a land-slide, leaving the majority of professional investors in the “trough” with a “once-burned, twice-shy” attitude to digital business.
But viable businesses soon climbed out of the trough and onto the slope of productivity. Social media became interesting with connections counting in the millions. Crowds of consumers became valuable intangible assets which were highly priced by web business investors. With the introduction of smart, mobile devices, the cloud based digital businesses surged upwards again. The apps business emerged and rapidly became significant. Accessed through highly convenient devices, the connectivity and frequency of interaction proliferated.
Investments in digital business are generally high-performing, but also more risky - that is well known to many people. But what we all want to know is this: Which ventures are the next ones to sky-rocket share prices from a few cents into the hundreds of dollars per share? Let us look at some of the signs of a share on steroids.
First we look at the so-called darling shares, i.e. the ones that everybody wants to buy for keeps. Their looks are the following:
- Consistent rise in share value beyond alternatives.
- Consistent payout of dividends beyond alternatives.
- Consistent execution by management – do what you tell and don’t create any bad surprises.
The first keyword is consistency.
But internet shares often grow much faster than market, almost as if there are more vitamins in their juice. Shares on steroids are often connected with:
- Huge future expectations to growth and profit.
- Great ideas for future business expansion.
- Popular brand with the masses.
The second keyword is future greatness.
The stock market investors are very sensitive to expectations and feed on any type of information. If there is too little information for data driven decisions, hope or despair might substitute. Future expectations are feeding investors more than anything else. Generally, share pricing is a question of supply and demand, less a question of underlying profitability and capital efficiency. As shares are currently in high demand due to the finance galore, prices have hiked into the skies.
Then there is the question of digital disruption. Some companies figure out how consumers can be served faster, smarter, cheaper, more convenient, cooler – or plainly with another product or service the consumers want more – based on the internet. It's called disruptive because the rest of the sector can't handle it.
But shares on steroids are not easy to find because of two factors: First, the challenge is that there are already millions of internet startups and it will be extremely time-consuming to find even a few interesting investment targets. The other challenge is that seed, venture and private equity in general are better at spotting these. It's their day-time job, so no big surprise. One way is to focus on the accessible investors that specialize in seed, venture and private equity. See if they are focusing on the technologies which are believed to gain momentum. See if they are able to muster eyeballs in the millions.
The chart below shows a few well-known public internet companies and a few which are not public (yet). All the shown companies claim access to millions of consumer relationships. Because of their momentum, they are in a better position to scale their consumer reach even further and in a better position to develop a profitable business around their consumer base.
Capital funds have the resources to specialize and to track many more companies than most people. And they have the resources to own and keep the good ones for as long as they like, maximizing value for a late IPO. Teaming up with these folks might be the only way to access rapid pre-IPO value creation.
The quest will continue, and search for the core disciplines that stellar digital leadership feeds upon. Read on to the next post, where you will find my view on what digital disruption is really about.