TaketheFifth 83economist of a prominent investment research firm who announced
toThe New York Timesthat “we no longer thin kwe know how to
value companies” (to be kind, that confused confessor shall go un-
named in this book).
Valuation has always been difficult, but how much harder now
can it be than it was before? Cash is the ultimate economic pay-
off. If you can’t get to the point of figuring out how long it takes
to get cash and what risks may reduce the amount or value of it,
then it is not that you don’t know how to value companies any-
more but that the things you are trying to value are not worth try-
ing to value.
Proponents of financial alchemy shrin kfrom the mind-set of
business analysis discussed in this book, presumably deeming its
tools conventional, maybe even boring, dull, and old-fashioned.
When people want to be rich now, they relegate the idea of a nest
egg grown with patient discipline to the dustbin of the older gen-
eration’s history, alien territory to freshly minted paper millionaires
and their envious contemporaries.
Unfortunately, this attitude leads to day gambling on stocks us-
ing credit card debt and a “buy now, pay later” myopia that neglects
the inevitable day of reckoning. It also leads to the popularity of
techniques that enable false positive answers to key questions about
a business when traditional tools give negative answers.
In the biotechnology industry in the early to mid-1990s, for ex-
ample, fewer than 10% of companies generated earnings and few
even generated positive cash flows from their operating businesses.
But those companies needed new investment. Since the traditional
measures of business analysis could not tell a convincing story, they
turned to unorthodox measures. The most striking was a measure of
so-called performance known as “cash-burn.” This was the rate at
which a business was “able” to spend cash on new research projects.
The more burn, the better the management and the more desirable
the investment. Crazy?
It is not much crazier than the similar move made in the Internet
and high-technology industries of the late 1990s and early 2000s.
These financial entrepreneurs jettisoned the traditional metrics of
performance and value based on earnings and cash in favor of new
ways to look at these questions. Take market share, for example.
Entrepreneurs say, “Look, we have 60% of the market in selling
flowers (or whatnot) over the Internet, and you should give us credit
for that.” Or, more optimistically yet, “We have 10 million ‘hits’ on