Legendary tech entrepreneur and Silicon Valley venture capital investor Marc Andreessen this morning posted a series of tweets (@pmarca) on what to look for investing in a tech startup. Valuing a tech startup is not about looking at future cashflows of past products, it should be about future products that can generate "tons of cash flows" in the future.
The inventor of Netscape browser and co-founder of venture capital firm Andreessen Horowitz (the latter name comes from his co-founder Ben Horowitz) mocks at the way some investors value tech companies currently: "Ask any MBA how to value tech companies, she'll say 'discounted cash flow, just like any other company'."
"For new & rapidly growing tech co's, up to 100% of value is in terminal value 10+ years out, so DCF framework collapses," he tweets.
"You can run as many DCF spreadsheets as you want and may get nothing that will help you make good tech investment decisions."
He further tweets: "Related to fact that tech co's don't have stable products like soup or brick companies; future cash flows will come from future products."
So what should a smart investor look at?
He says: A - future product roadmap/opportunity, B- bottoms-up market size & growth, C - talent and skill of team.
So what are you valuing?
"Essentially you are valuing things that have not yet happened, and the likelihood of the CEO and team being able to make them happen."
"Finance people find this appalling, but investors who do this well can make a lot of money, but spreadsheet investing is often disastrous," Andreessen tweets.
"Doesn't mean cash flow doesn't matter, in fact opposite: this is the path to find tech companies that will generate tons of future cash," he says.
"Corollary: For tech companies, current cash flow is usually useless for forecasting future cash flow--lagging not leading indicator."
"This trips up value investors (Prem Watsa!) all the time; tech companies with high cash flows often about to fall off a cliff."
"Because current cash flows are based on past products not future products. And profitability often breeds complacence and bureaucracy."
"Always, always, always, the substance is what matters: WHO and WHAT. WHO's building the products, and WHAT products are they building."
"Brand will not save you, marketing will not save you, channels will not save you, account control will not save you. It's the products."
"Which goes right back to the start: Who are the people, what are the products, and how big is the market. That's the formula."
That is in short Marc Andreessen's crash-MBA in just 15-tweets for you.