In a Christian mind frame, losses rank along debt on the wrong side of the dividing line between the good and the bad. They come with a sinful stigma. However, in the brave new world of digital platforms, it is perfectly rational to register accounting losses. The same way that real estate business or Private Equity does not come without its share of debt. Smart Private Equity Investors do not call it debt but “leverage” which sounds smart. On the other side of the spectrum, early-stage Risk Capital investors only invest in money-losing companies. In that case, one doesn’t call it a “loss” but cash burn: more dramatic and thrilling.

In Modern early-stage platforms, cash is mostly burnt or invested in acquiring users. When a new concept comes forward, there often is more than a new entrant at the beginning and only one by the end. Spending fast and wisely to acquire and then lock-in users is the key to success. The ugly happens when cash is burnt on real assets or on a weak or already crowded business model. 

wework is an example of a good idea (office space sharing) killed by a bad strategy (spending on real assets). Uber is an example of a good concept which was replicable and has been copied by Grab, Lyft. Uber is bound to be missing out on the opportunity to be a global leader and lost its chance to enjoy any pricing power in the future. Uber, unlike Facebook, did not grow fast enough in its early life which left time to other start-ups to grab a share of the pie. The good news for public investors is that the ugly takes place mostly at the pre-IPO stage : most listed platforms have already established leadership in their market. 

On Netflix, this is illustrated in a very entertaining TV Show simply named Start-Up or in the story told by “Social Network” about the early days of Facebook in Harvard University. In Deshima Smart Data’s portfolio, we have several “unicorn” companies using their cash to build-up leadership in their markets. One is Sea Ltd, the Amazon of South-East Asia. Some are growing on a market they invented with hugely disruptive models like Airbnb or Fiverr, an Israel-based platform for free-lancers. All these companies, on paper, are making losses (labelled bad). In reality, they are just building a huge user base in their respective market in order to secure leadership. They rationally sacrifice their current margins to be able to secure their future growth and pricing power, which is good. 

What is registered as expenses should be seen as an investment. Moreover, in the digital world, there is no space for slow growth. The winner takes all. As illustrated by Amazon, all does not stop at the gate of the main historical business: e-retail in Amazon’s case. It also means other adjacent business lines. Amazon is leading in the cloud and Amazon Prime Video is catching up with Netflix. These new business lines have been started and growing incredibly fast and at very low cost. Cohorts of existing paying users can be shifted from one product to other services. One key condition: have them accustomed to pay through the platform. 

The platform dynamics are so powerful and enticing. This creates natural monopolies that are very difficult to reverse. More than the tax debate, this will become a very significant issue for governments and legislators. This is the only threat we see for platforms. It may apply to GAFAM. Meanwhile, Fiverr or Airbnb are still early stage respective to the huge size of their markets. Following the severe May correction in their share price, they are not cheap yet, but worth monitoring. 

The counter-intuitive finding on loss-making stocks is shown in the Deshima chart on relative performance of US loss-making companies. There is no evidence that one should avoid investing in loss-making companies. In normal economic times that we have seen in the last 10 years, losing stocks tend to perform in line with the market. They can outperform significantly for several years. In other words, the good, the bad and the ugly are not what you expect them to be.