The emerging Internet economy is fundamentally changing the way consumers and businesses interact with each other. It is disrupting traditional businesses and a new crop of digital-native, mobile-first companies is emerging and growing at warp speed, enabled by favorable demographics, increasing Internet penetration and a world-class, frictionless payments ecosystem. . Recently, Licensee became the first D2C unicorn to bypass the traditional distribution model. We are seeing similar disruptions in healthtech, disrupting pharmacy stores/companies while fintech is disrupting traditional banks.
India has a population of 1.4 billion people with around 750 million 4G connections. However, the online buyers/transactors are only in the range of 120-150 million. This is expected to increase to 300-500 million buyers over the next 3-5 years as the penetration of digital payments increases. This growth will have many implications not only for new age tech companies but also for disrupted (traditional) companies. It is possible that new age technology may enter India faster.
Most of these companies have had high-decibel talks about major losses and whether investors should participate in their equity issuances. The benchmarking framework of a ‘great business’ – that is, improved return on incremental capital (ROIC), scalability and strong performance and corporate governance – remains the same. Only tools and techniques change. Near-term loss in the initial stage does not necessarily mean that there will be losses in the future as well. Conversely, not all businesses that make a profit today will remain profitable forever as some may be disrupted by new-age tech firms. For example, today everyone agrees that investing in FAANG stocks (Facebook, Amazon, Apple, Netflix, Google) is a no brainer. But most of these shares were running in loss when they were listed.
There is an element of devaluation of the economic model of new-age tech firms. In India, consumer tech firms are in the early habit-forming phase, requiring extensive investment in developing great technology, building a brand, delivering a great experience to acquire customers and establish long-lasting customer stickiness. it occurs. Even though such investments are likely to pay off for many years to come, unlike traditional companies these investments by consumer tech firms are considered expenses from an accounting perspective, not assets; That’s why they report ‘accounting losses’.
When evaluating a new-age tech company, unit economics is an important consideration. Thus tracking the ecosystem is very important to assess the potential for monetization and recurring use. An important question to ask here is whether high engagement leads to habit forming and repeated use. The output of this framework is the LTV/CAC (Expected Lifetime Value of the Customer/Cost of Customer Acquisition) ratio which provides insight into the potential margin trajectory. Along with estimating TAM (total addressable market size), it provides a good indication of structural profitability and cash flow generation efficiencies and into the eventual RoIC trajectory.
The challenge for an analyst using traditional methods of valuing businesses is its inability to project negative earnings and future cash flows. We have always believed that these historical earnings models have flaws and can be misleading. As with our outlook for other companies, near-term accounting profit or loss means little in our valuation framework; What really matters is the long-term cash flow generating potential and the present value of those cash flows. Therefore, a thoughtful bottom-up idea of each individual company’s expected future cash flows is paramount. Due to their strategic assets such as a deep tech stack, well-established brands, large and happy customer base and strong management teams, many consumer tech companies can enter adjacent categories thereby increasing their potential profit pool. Thus, some of these technology-enabled, emerging business models could potentially have huge value creation opportunities, but envisaging an imbalanced and disruptive future can be a daunting task.
Many professional managers managing capital in both the private and public sector employ significant research resources to build a deeper understanding of the various business models within the consumer tech sector in emerging and developed markets. We will continue to focus on companies that have built a competitive advantage in rapidly growing and large target markets, that have positive unit economics and management teams that are strong on execution as well as governance.
Prateek Pant is the CBO at White Oak Capital Management.
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