Is There a Direct Correlation Relation Between Greed and Valuation? Since valuation is part science part art, it is easy to fall into misconceptions related to the valuation received and the valuation process
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"Greed is good, so make sure it is on your side" - Gordon Geeko
A company is never so good or in a situation that it can be overpriced. But, that is the situation today, the pricing of many markets and companies are such that valuation is running higher and greed that is coming along with it is going unattended. An example for the same is the Theranos Case; although Silicon Valley is trying its best now to run away as far away as possible from it, but the fiasco will not be easily brush aside.
The Illusion of Valuation
The typical way of doing business meant working while sitting inside a pressure cooker placed in an oven; such practices are steadily reaching a tipping point. Since tech companies are bringing quantum evolution leaps and changing the face of valuation and fundraising. They're making investors yield and valuation hungry and turning idiots into entrepreneurs with the knowledge of drawing most of the capital as their salaries. I am not saying all start-ups do that, but after a point of time, the illusion of valuation overpowers the inclination towards fulfilling the very customer need that started their journey. There is just too much money chasing too many bad ideas, the result wild valuation.
A decade after the crisis, there is money flowing into various sectors, which is leading to overly confident bets being placed on not too many good firms. It is quite amazing that there is no collective memory beyond 5-7 years, and the world is organized in a way that history keeps repeating itself over and over again.
Fund Raising – The Elephant in the Room
Fund raising is strong and not just strong, it is super strong and this influx of cash is leading to record high multiples on deals. Investors are paying more for assets than during the boom years a decade ago. And all this is possible because of readily available debt to fund transactions.
Since valuation is part science part art, it is easy to fall into misconceptions related to the valuation received and the valuation process, especially since everyone runs their own valuation models. In reality, the market sets the price for the asset, but our unattended obsession with valuation has caused us to change the perception and start believing that the valuers are setting the price. But, the market is no place for such misconceptions and the price always corrects. The markets are ruthless as in the series House of Cards, Kevin Spacey quotes - "Proximity to power deluded some into thinking that they wield it", but these startups forget that only market has the power and they're merely accessing the platform and any form of abuse will result in a flood of naked truth and annihilation of the trickle of doubt which everyone had from day one but failed to address it because of the influx of fund into such lucrative venture.
Certain Valuation mistakes as derived from my father continuously teaching me his more than 27 years of experience and doing extensive reading -
- Value is a well-defined and well understood term.
- The value of an intangible asset is the price someone is willing to pay.
- The minimum value of anything is equal to the cost of creation.
- Each intangible should have only one official vale.
- The balance sheet provides a good source of information for the value of intangibles.
- Fair market value is a good construct for valuation of intangibles.
- There should only be one way of valuing intangibles.
- The value of a company's intangibles is the difference between its market value and the value of the company's tangibles.
- A valuation is an objective search for true value - Prof. Ashwath Damodaran
- A good valuation provides a precise value - Prof. Ashwath Damodaran
- The more quantitative the model, the better he valuation - Prof. Ashwath Damodaran
To summarize - in the book House of Morgan's, it says - It is a necessary part of the business of a banker to profess a conventional respectability which is more than human. Lifelong practices like these make them the most romantic and least realistic. I guess that life-long practice is going to continue for some more life terms.