No, pulling into the current valuation all the future profits is not the point of a valuation. If you did that, there would be no return to ever be had for the investors.

Under that premise, Facebook should have been valued at $200 billion at their IPO (or even earlier).

Google should have been worth $300 billion at their IPO in 2004.

Apple should be carrying a $20 trillion market cap using that calculation, pulling all of their future profits into their present valuation.

Investors do not normally reach a valuation for an investment today, based on profits ten years from now, with the expectation that the price paid today is equal to what the profits in ten years will justify. That's a recipe for not yielding any returns for ten years.

The point of a valuation is to invest capital into a company based on speculation of future returns to be yielded based on future profits, not to pay for all of those future profits with your investment today. The value is determined by the near-present estimation of what the business is worth, and with a potential bias elevating the valuation. The investor return comes from all of those future profits not being priced into the current valuation.

The entire idea of valuation is to indeed capture the value of current and future profits- it's just that the value of future profits is reduced in proportion to how far away they are.

Investors lose the value of the money invested for the amount of time that it is invested in exchange for future rewards, which are discounted the further out they are.

I don't know where those numbers came from.

An investor earning a return generally requires that present value does not account for all of the future profits. The parent I replied to claimed the exact opposite, that a valuation is based on all future profits.

For the investor ideally none of the future profits are captured in the present valuation. It's the battle between that position, and the company's desire to get as much capital for its equity as possible, that reaches the valuation.

Maybe what he meant is: If the future profits of AirBnB were known perfectly now, then their valuation should be the present value of all future profits as otherwise there is an arbitrage opportunity.

Since the future profits are not known perfectly, investors assume some risk, so the valuation is lower than the present value of all future profits, so that investors get rewarded for assuming this risk.

That first paragraph is what I meant. But the second paragraph is not quite how I understand it.

The risk is entirely down to the accuracy of the estimation of future profits. If there are only two VCs in the market and they both estimate the same cashflow, rational economics says they will both out bid school other down to the last cent of Present Value.

Of course that is not a realistic scenario, but I just want to be clear, and maybe folks were not implying it, but there is no "reward for risk taking". There is only a difference in estimated cashflow and a market that does or does not have high competition.

The more competition, as in SV VC world it seems, the closer a VC must pay to the estimated future cashflow. Which in cases of Uber or airbnb is frigging vast or nothing.

I think nothing to be quite honest but that's another post.

> If there are only two VCs in the market and they both estimate the same cashflow, rational economics says they will both out bid school other down to the last cent of Present Value.

Is this true in the presence of other investment opportunities. Suppose I estimate the present value of AirBnB's future profits as $30B plus/minus $10B, and I'm given a chance to invest at a $25B valuation. I also estimate the present of Dropbox's future profits as $30B plus/minus $1B and I'm given a chance to invest at a $25B valuation. Are you saying that I should be indifferent to which investment I choose?

Well no, but that does not change the game in whichever bid you do choose to participate in (and let's assume you will participate in at least one bid somewhere, and that bid will also have competitors)

At some point you will compete for the asset, and you and your competitor will have estimates of future cashflow and you will logically be willing to go down to the last cent before giving up (well the last cent, discounted etc etc)

The point is, profit is not a right of investment.

But the game investors play isn't "choose a company/asset class to invest in, and then compete with other bidders". While I'm competing with the other bidders I can take my money and invest it elsewhere.

So if we're really competing over the last cent an investor would logically think "my expected profit on this investment is now low enough that it makes more sense to take my money and buy government bonds instead, which offer the same expected profit but lower risk".

I see your point now. I respectfully suggest that the valuation of a company is intended to represent the discounted summation of future cashflow, and in a highly competitive marketplace that valuation is intended to reach the summation of those market place participants who estimate the cash flows to be the highest (without presumably deliberately intending a loss to themselves)

I cannot see any other way to price it (well lots of ways to estimate future cashflow and even define cashflow) but there is not some agreed amount of discount for risk out there. Yes people will always want such a discount, and can walk away. But the discount does not start with a figure and work downwards. It's only a discount in hindsight as it were.

Imagine if you will a hotel in NY that has one room, 100 USD per night and is going to be knocked down in 100 days time. I would only expect to pay a maximum of 10000 USD to buy the hotel. Any more would be obviously foolish. Present value plays some part but mostly estimated occupancy drives the expected cashflow.

But also if I demanded a discount for the risk that the hotel might not pay back my investment, there is likely to be some other investor who has a different view on the Hotel scene in NY. Especially for the "ultimate in boutique experiences". No one will pay more than 10,000 but how close we come is (should be?) determined entirely by investors estimates.

I do not think that the main driver of valuation is that between VCs and the founders. That is admin work. The driver of the price paid by a VC is how much other VCs are willing to pay instead.

That seems a good thing to me.

Thank you for the comments - good to think these through.

Hmm, not really. It kind of depends on how effective a marketplace we think the VC world is. We cannot complain it is overheated and bubble like, and then say it is leading to valuations less than its true value.

So, from my small knowledge of these things there are three means to value a publicly listed stock - (discounted) free cash flow, (discounted) dividend returns and earnings multiple. All of which assume you have perfect future knowledge of the total returns to holding the given asset and allow you to then price the asset today.

So using your example, let's say it is Google's IPO day and they are selling x shares at a total value of 10bn (whatever it was). If you have a copy of the FT from 2015 and it says google has made 300bn dollars in dividend payments to date, and then ceased trading for the Lulz -then you can confidently price the discount on those dividend payments (what you get for buying the asset) and then pay upto that amount in the IPO. Your profit comes from knowing the true value of holding google stock until 2015 as opposed to every other investors knowledge (who probably were a lot more conservative)

If everyone had that copy of the FT, then the price of the stock would on IPO exactly match the (discounted) return from the dividend payouts (well there are a lot of caveats here)

If another copy falls through time and says "oh, 300bn, we meant 30bn" then your estimate changes again.

So, in an ideal marketplace, all the participants know all the future events to come, can then workout current asset price and then pay upto that amount for the asset.

The only profit investors can make is if a) the market is unfair (barriers to entry, reduced knowledge etc) or b) by thinking they have more accurate estimates of future then the rest of the market (ie time wormholes near FT newspapers)

So - there is simply no way a competitive market will leave a gap between the current price and the "what everyone agrees will happen in the future" price. That's the definition of an unfair market.

Either way, airbnb is getting compared to companies like Ezpedia, but using their discounted cash flow and saying it is like airbnb is not taking into account the enormous legal and regulatory hurdles they are facing.