Everyone is worried about valuation!

Everyone is worried about valuation. That’s great there should be worry. If there wasn’t worry, I’d worry about that. Here’s how I explained valuation. You tell me what you disagree with!

The kind of companies that we are investing in now never existed before! Look, ten years ago I searched for companies growing at 15% or 20% a year. And 25% was a dream come true. Now I don’t even bother looking at a company with 20% or 25% revenue growth.

Okay, anyone disagree with this? Anyone still searching out companies with 15% or 20% growth? Nope? Okay, let’s go on!

We are investing in a new model of enterprise. Our companies have very high revenue growth year after year. I’m talking about 40% to 65% per year for most of them, but some even higher. These are also very high gross margin companies (70% to 92% for the most part). Their revenue is almost all recurring, on software subscriptions and thus largely locked in, and their dollar-based net retention rates are generally greater than even 120%. This means that last year’s customers buy a lot more this year than they bought last year instead of having an attrition rate, or forbid-the-thought, being companies whose customers make one time purchases, or sell hardware, and thus don’t even have ANY revenue guaranteed next year at all.

Okay, do you disagree with any of this? These are a different kind of company! I’ve never seen companies like ours before. Have you?.. Think how different this is from companies that sell “things” and have to go out and sell them again next year to the same people or different ones. And think how low capital intensive our companies are. No factories to be built to expand sales! Just lease more software.

Of course a company growing revenue 50% per year, with 95% recurring revenue, 92% gross margins, and a 130% dollar-based net retention rate is worth a much, much, higher EV/S than the old model of company, with fairly low revenue growth, low gross margins, and with little or no visibility into revenue for the next year and beyond!

Do you disagree with any of that? No. Okay, let’s go on! This next part is key.

Revenue that has very high gross margins is worth more per dollar of current revenue (in other words, it’s worth a higher EV/S) than revenue with lower gross margin. Here’s why! EV/S, which is traditionally used for evaluation, puts Sales (Revenue) as the denominator. But that’s silly! On $100 million of sales Alteryx, with gross margins of 90%, keeps $90 million, while a grocery chain, with gross margins of 5% or 10%, keeps just $5 million or $10 million on the same $100 million of sales. Revenue by itself doesn’t tell you much of anything. It’s the gross margin dollars that should go in the denominator, not total revenue.

If you understand that key part, you are on your way! Have you got it? Disagree with any of it?.. Okay, good. Next we come to revenue growth. That’s the MOST important factor. You need to grasp this:

Why is the rate of growth of revenue important for comparing EV/S? There’s a heck of a good reason! Next year our SaaS company growing at 50%, will have $150 of revenue instead of $100, and with its 92% gross profit margin, it will keep $138 toward covering operating expenses… Now let’s say our conventional company is growing at a nice steady respectable 10% per year. Next year, it will have just $110 of revenue, and with its 23% margins it will keep just $25 towards operating expenses. So now we have $138 versus $25… one year later!

The difference in compounding is enormous and grows each year. If we go just one additional year later, our SaaS company will have $225 in revenue and will keep $207… while the conventional company will have revenue of $121 and keep $28. Look at that again! Both companies started two years ago with revenue of $100. Now our company is taking home $207 in gross profit , while the conventional company is taking home $28!!! Just two years later!.. In the third year, our SaaS company growing at 50% will keep $310 in gross profit, which is ten times the $31 the conventional company will keep in gross profit. That gives you an idea of the enormous power of the combination of high growth and high gross margins (that our companies are blessed with).

Do you disagree? Do you still think it makes sense to base your valuation of these companies on current revenue? If the conventional company is trading at an enterprise value of let’s say, four times its revenue, isn’t our SaaS company worth four times THAT! Or six times that, … or who knows, ten times that?

Now let’s consider that our company has almost all recurring revenue, and a dollar based net retention rate of 130%, which means that it is enormously more certain that our SaaS company will have increased revenue next year than that the conventional company will even have the same revenue next year. How much is that worth in increased EV/S? Is that security of our revenue worth another 30% tacked on? Or 20%, or 40%. I don’t know. But it becomes clear that, by simple arithmatic, the reason that our SaaS companies are exploding in EV/S is that the market is starting to do the same arithmatic that I just did.

And are you with me on that? Any disagreement. Hard to quantify the advantage of recurring revenue like you can for gross margins and rate of growth, but it’s there nevertheless…

And as for comparing this to the internet bubble, if you were there you’ll know that it’s just not the same ballgame. Then many IPO’s didn’t even have revenue yet. Just a great idea. All of our companies are thriving businesses, growing at great rates, and the majority are category crushers, with little or no effective competition. And famous analysts were saying, sure ABC is 200 times revenue, but comparables are 400 times revenue, so ABC is cheap. Now we have everyone telling us how expensive Zoom is, and how it’s overpriced. That’s good. That’s what we want to hear.




Wish I could rec this post more than once. This needs to go in the Knowledgebase as a “conclusion” to understanding all the metrics that have been broken down for all to understand. Who needs financial books? Along with Denny’s banging on about S curves over the years, it’s all there. Thank you.



I’m going to play the Devil’s Advocate here. All your points are true and well taken - and form the reason why these stocks are desirable. That said, the reason for any stock’s price is that the number is what someone is willing to pay and the counter-party willing to sell at (and one of the two frequently turns out to have made an error in judging the future price of the shares).

As you point out, these stocks don’t trade on value, but rather on the expectation that they will make vast amounts of money in the future - and much of the math posted by the group is to try to predict when and how much. Equities are only one of the places that investors move their money and hyper-growth stocks are only one of the equity categories.

With only a couple of major blips, we have been on a decade long tear in the stock market during a time when cash is unpopular and interest rates are near zero. Our current pricing on these shares are more due to supply/demand for these than any rational math (and as pointed out the interest, and therefore pricing, in them is asymmetric).

So, continuing to purchase these stocks (as a market) creates a self-fulfilling prophesy as the number of shares is static and the choice of this group, while not quite a “current fashion” is very subject to change if the economic environment (for instance) interest rates rise - and they will tend to drop quicker than other types of stock if “real assets” become popular.

While the above may have something to do with macroeconomics, it is also important to apply a “future expected value” to the environment when pricing shares of stock. Ignoring this, especially with a portfolio concentrated in only one sliver of one asset class, can cause significant financial (and, for some, psychological decision making) battering.

I’m not preaching doom/gloom here, but just trying to say that, during euphoria, it’s sometimes hard to abandon the “damn the torpedoes, full speed ahead”, when the environment changes. Keep your eye on the ball (which presumably is to continue to make money, or at least not to lose it) regardless of what changes take place - which it can quickly on a stock where valuations don’t currently matter.



I’m with Jeff here. I’ve been reading all these posts for the past two months, and as a result I’ve trimmed my high growth allocation in half, down to under 45% of assets. To me the depths that people are going to to show that “this time really is different” and that growth can continue at these rates for near infinity is approaching the Kool Aid level. I really don’t think the true believers here are accurately taking into account the risks involved here. As a result I’ve cut my shares in half over a period of 6 weeks. Obviously I believe there is a quite good chance of market thrashing results here which is why my allocation did not go to zero. But to be all-in with this strategy? Sorry, I can’t buy into that premise any longer.


Hi bjurasz,

I’m glad that you and Jeff are worried and selling your high growth allocation down. I really am. If no-one was worried I’d really get scared. But I wish you would have done what I asked and told me what part of my analysis I had gotten wrong so that I could worry a bit too. Or do you just agree with all my analysis, or at least you can’t find anything wrong with any part of it, but you decided to worry anyway (which I guess would be a valid decision).




A reason why it seems irrational is you stated you thought ZM was a 13b or so mkt cap with a 35-40 P/S, because there was confusion on the share count.

Once it was verified the share count was indeed truly double what you thought, and the mkt cap doubled and the P/S doubled, you had absolutely nothing to say…it was a non-factor.

That just seems to stretch things a bit. We want things to double/triple over X amount of time.
In about 10 minutes, you found out ZM had doubled, yet your reason to invest hadn’t changed…the potential stock appreciation upside, in your view, hadn’t changed?

That is just one I have a hard time understanding.
Agree they are all great companies. Doesn’t mean their stock is great investment.

Everything is up today, and ZM at almost -5% is the lowest on my watchlist of 50 or so stocks. The markets are enjoying a bump due to trade war truce. Nothing has changed about ZM fundamentals over the weekend. Seems traders are taking profits. I maintain most of ZM valuation is just chasing “hot SaaS IPO” and momentum trading so far.



ZM was downgraded to sell this morning by Goldman Sachs. Target was raised to $66 though.



Saul, I guess your analysis, to me, is solely focused on supply side and does not take into account demand side. Or perhaps takes the demand for granted. “These companies simply must adopt these technologies due to the cost savings yadda yadda”. To me it sounds like supply-side economics, and personally I’m a demand-side guy. Do you grow an economy by giving tax cuts to “job creators” and big corps, or do you grow an economy by enabling the consumers the ability consume more? You can guess my view on that. And because of this I probably look more at macro trends than you do. If the economy slows, for example, you’re going to see demand for these services drop. And a drop in demand for high-growth is a killer.

I also don’t think you can neglect the low interest rate environment on the last decade and its impact. For example, I’ve seen recent articles about how this has done more to destroy value investing than anything else this decade.

In other words, the success of these companies, to me, depends not just on what these companies are doing and how well they are executing. There are other factors at play as well. And if those other factors become more normalized, well…

Simply put, I don’t think some here are looking enough at the forest.


Simply put, I don’t think some here are looking enough at the forest.

And with great respect, I don’t think some are looking enough at how fast a forest can grow and has grown in a short space of time or indeed what Saul has been trying to tell you. This negative thinking can really restrict the growth within the forest.

If a hurricane or another disaster hits the land, then the crop that has been accumulated might wither somewhat but will still be rich in production for those that have seen it multiply 4 fold, even if/when cut in half…

But to continually worry about what if’s. One can always sell your crop or buy fresh seeds again, but it’s better to see the product multiply several times over first and the quicker the better particularly when strong seeds have been planted in the first place.
The best of the crops will usually survive and when the plant doesn’t grow anymore we search for new strains.


My wall of worry is topped by a black swan type of event. I was an investor in 2000 and can remember the go-go attitude by all that things are different now and that the internet has changed everything. I saw friends loose a bunch of money because they believed it really was different. They thought all internet stocks were bound to continue their meteoric rise. We know what happened. The internet did change some things for some companies, and while it was a tide that lifted all boats, when it receded, many boats were left high and dry.

I think the point is that we are no better now at discerning the full impact of cloud computing and subscription based services than we were able to understand the impact of the internet on businesses. In 1999 many of my less risk averse friends couldn’t find enough internet stocks to buy. While Saul may be right about stickiness and subscription-based services, he/we have no idea what is lurking in the future to disrupt this. This is why we call them black swan events. There is no way to figure out what you don’t know.

This is not to say that these investments should be avoided, but we(I) have to be wary. I have only about 20% of my investment dollars in many of these companies. I get envious/greedy when I see Saul’s 400+ percent gain since early 2017. I too like Saul live on my investments along with a pension and have taken a much more conservative view.

Many here seem to think that they will know when to sell. I have seen many posts that end with something like, “you have to watch these stocks closely, so you know when to sell.” I can tell you that you will never know when to sell until it is too late. On a day-to-day level, it is hard to discern whether the stock price is dropping because of market sketchiness, or because the public is revaluing the company. We can survive fluctuating markets, but surviving a company being revalued by the public is another matter.

Perhaps my crystal ball needs polishing. For those of you thinking about using trailing stops, I can also tell you that I stopped using them because of the number of times I experience a stock dropping through a stop and then reverse course, only to end the day/month/year higher.



Dot com bust. When companies saw their values sky rocket because they were dot coms. Think crypto craze of Long Island Beverage Co or current Marijuana craze on “potential” without “proven results”

SaaS companies are successful on the demand side because the cost to subscribe to the service is superior to the cost self operate that function internal to the company.

Let me state that again. It is cheaper to subscribe to a third party offering than operate internally.

Oh…and it’s a better product
Oh…and companies buy more of it
Oh…and they purchase add ons

It’s different because companies are showing revenue growth on actual products.

Valuation tolerance may change as macro conditions change, but think of the “demand side”…won’t those enterprise customers who also have large chunks of debt (and lower margins) be looking to squeeze out all costs (ie moving from higher internal maintained costs to lower subscription costs) in order to afford debt payments?

Or…won’t they be looking to eliminate the higher cost operational strategies and shift to the lower cost operational strategies (ie moving to a cloud based and digital economy)

The arguments for macro conditions only serve to highlight the value of many of these companies.

The real threat to these companies is a better product from a new competitor.

Full stop.

Just a Fool



I agree that a significant threat is a newer, better, faster way of doing things. I believe artificial intelligence will change significantly how we do business. The first company that is able to link quantum computing to data analysis will rule. Quantum computing will change the way we think and organize information.

I worry that I can’t think of more reasons. To even think that we understand all threats to a company’s bottom line is hubris. We don’t know what we don’t know. And I am guessing the universe of what we don’t know is larger than the universe of what we do know.

I’ve got skin in this game, but I am still concerned. I would be less concerned if I had bought in at much cheaper a prices. As it is, I think I my principle is probably secure in about a third of these fast-growth companies.


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We all know a downturn is coming at some point, but of course have no idea when. For me, I’m choosing to stay fully invested in high growth companies and shoot for returns of 300%, 400% or even 500%. It’s much better to fall back 50% from those gains instead of being a bit more conservative due to valuation concerns and then awake to a downturn with my portfolio having risen substantially less.



Jeff, what kool-aid. You mean compounded 3 or 4 year growth of 40%?

Please define your terms. I certainly am not counting on 50% or above, although history indicates that is a real possibility. For my purposes I’ll be pleasantly surprised when specific companies over deliver.



I’m sorry de ja vu. Have we not had this exact same conversation in the exact same manner w the exact same comments every 3 to 6 months since 2017?

Why don’t you change it this time to company specific and not the always generality. The market has been in a bubble since 2017 and these general category of companies can’t sustain growth. Never mind they have w many accelerating growth.

Pick a company and analyze it. The market has not just generally boosted a generality. The market has actually discriminated by company.



and shoot for returns of 300%, 400% or even 500%. It’s much better to fall back 50% from those gains instead of being a bit more conservative due to valuation concerns and then awake to a downturn with my portfolio having risen substantially less.

In the case of ZM (yes…still picking on them) you would need Zoom, a company that provides video conferencing (a very competitive and not new field) to go from a robust existing $25b market cap to $100b, $125b, or $150b mkt cap.

Hey…I guess AOL was worth that much once, so anything can happen.



Lots of psychology to the market.

The Slack IPO was the mark where I was waiting to lighten up and I did that morning. Nothing wrong with taking some profits and redistributing them to be more diversified. The dirty word here. :wink:

I only have about 30% of my portfolio in Saas names now. At this point in my life having already made my goals for my future I’m a bit more in the preservation of capital category. I still have my FANG stocks for the most part. Have held AAPL and AMZN for almost two decades now. I’m also in pharma, energy and defense.

Being diversified allows me to actually welcome selloffs like we are seeing in our cloud names because I’d love to add to them at much lower prices. MDB at 127? Bring it on. ZS low 60s? Common down!

I added all last Nov and December. I’ll be more then happy to have that opportunity again if it comes.

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I don’t agree that reading articles about a stock or stocks being overvalued is a good contrarian indicator that suggests you should buy. To me it offers no value whatsoever. At no point will you suddenly see such articles dry up as stocks rise. You’ll only see more of them as time goes on. So they serve absolutely no purpose for indicating how much fuel is left in the tank for a continued rise. It’s interesting the last time I saw such thought process published was in the Rule Breakers/Rule Makers book, which was written in 1999. But if that’s your methodology, expect more “confirmation” that there is money on the sidelines and it’s not over yet as time goes on, because the more stocks go up, the more articles are going to come out of the woodwork saying things are overvalued. The whole idea of only buying overvalued companies and looking for articles saying it’s overvalued makes absolutely no sense to me. If you’re looking for some kind of market confirmation that you are in “good company” or you’re not buying a dog, all you need to do is look at relative strength and leave it at that. There will always be naysayers out there, just like there was in 2000.

It took me 5 seconds to find this article about certain real estate markets being overheated/overvalued in 2006: https://money.cnn.com/2006/04/07/real_estate/overvalued_hous…. I’m sure that I can find more if I looked.

As for SaaS stocks being overvalued, I am not in that camp, other than a few exceptions. Zoom and Crowdstrike in particular. I don’t see how Crowdstrike leaves any money on the table when it’s already trading at a market cap higher than it’s biggest competitor. It strikes me as the market is paying for growth and not considering TAM or what it will be trading at when growth finally, inevitably slows. Is Crowdstrike going to be a $60 billion company some day? I don’t know, but if they do, they will be, by far, the biggest security software vendor out there. Even at $25 billion, which is only a double from here, they will be. Where is there any meat left on the bone when the market is already assuming they will be dominant when they’re not? Crowdstrike was valued at $3 billion a year ago in private funding. That is a huge increase in valuation in a year. What occured to make that happen? Change in investor’s risk tolerance and investor sentiment. That’s not necessarily a good thing for future returns. Neither is an environment where everything doubles the first day of trading.

Zoom is another. To buy Zoom now, you’re betting that Zoom will transform the way businesses communicate to justify their market price.

In the tech bubble of 2000, I disregarded price ratios and concentrated on market cap as a valuation method. That has changed since then, after missing out on some big caps, MasterCard in particular, that went public at a large market cap but still had a huge run because they are in huge industries. Suggesting that Market Cap in isolation is not an effective valuation tool. This being the first time since I ever had to question valuation based on market cap/TAM as whether there is any room for growth, rather than just buying, like I did a year ago and not worry at all about valuation, I may be way off, but ZM and CRWD in particular give me concern. It does not matter to me that they’re growing the fastest. A year ago ESTC was by far the fastest growing company in my universe, and look at it now.

When it comes to MongoDB, I believe the price the market is offering leaves plenty of room for continued growth. I own MDB. I plan on buying more.

I asked myself, how would my holdings change if I completely disregarded valuation and wanted to hold the most fastest growing, disruptive companies? Luckly, while I don’t hold the fastest growing, I do still hold what I consider the most disruptive. So valuation concerns haven’t kicked me out of buying anything yet. But it’s a question I’d rather not have to ask myself.


If the conventional company is trading at an enterprise value of let’s say, four times its revenue, isn’t our SaaS company worth four times THAT! Or six times that, … or who knows, ten times that?


I really looked for where we disagree, and I think the only part I disagree with is the part in bold. You know that I agree that our companies are special, that it really is different with them than conventional companies, and that they most definitely should trade at higher valuations than conv. companies. But if 10x, why not 15x? Why not 20x? Why not 100x?

To me, things have a real value. If you were to say that Zscaler should be worth $100 billion, I’d say you’re not just optimistic, you’re wrong. Now obviously, we can’t know the precise value of a company, because it’s worth what the market will pay for it. So my comments about valuation are that:

  1. I doubt that the market will bid the valuations up further. And even if they do, they eventually must come down as each company’s revenue growth slows.
  2. If valuations stay where they are, our gains will slow quite a bit, since we owe a lot of our gains to multiple expansion.
  3. If valuations drop over time, it may negate or even reverse our gains.

I know you’ve said you feel the market might still bid up valuations higher on our companies. So, Saul, what do you think Zscaler is worth? 20 billion? 40 billion? If so, why? I think the current 10 billion is already a lot for a company with 273m in TTM revenue. I think it’s a lot for a company that may have close to 500m in revenue in a year from now. I think it’s a lot for a company that may have 1 billion in revenue in 3 years. Let’s say in 3 years they reach 1 billion in revenue…I don’t think Zscaler will be a company growing at 60%, 50%, or probably even 40%. So a PS of 20 at that point (a market cap of $20 billion) would mean a double in 3 years. Then there will be a little dilution…so our shares will be up maybe 75%? Slightly better than a 20% CAGR? If you see it differently, how?

Just to make sure were not talking past each other, I want you to know what I’m not saying.

  1. I’m not saying our stocks will come crashing down, just that they won’t grow nearly as much as they have in the past few years.
  2. I’m not saying our companies will stop growing rapidly, just that growth will slow over time, as is normal.
  3. I’m not saying that it’s impossible that the market will bid up valuations higher, just that I doubt it.

Saul, don’t you think it’s more likely that over time, for a stock with a PS of 40, that the PS will head to 10 instead of to 70? Sure it could touch 50 60 70 or whatever and only then head to 10, but over time, I think it must drop as growth slows. I think what you’re saying is that you think multiples could be bid up a little higher before they start trending down, at least for the companies that are growing the fastest right now. Maybe you feel like as long as the growth is high, multiples can not only stay high, but rise? I just see that as an increasingly risky game, with decreasing upside.



what do you think Zscaler is worth? 20 billion? 40 billion? If so, why? I think the current 10 billion is already a lot for a company with 273m in TTM revenue. I think it’s a lot for a company that may have close to 500m in revenue in a year from now. I think it’s a lot for a company that may have 1 billion in revenue in 3 years. Let’s say in 3 years they reach 1 billion in revenue…I don’t think Zscaler will be a company growing at 60%, 50%, or probably even 40%. So a PS of 20 at that point (a market cap of $20 billion) would mean a double in 3 years. Then there will be a little dilution…so our shares will be up maybe 75%? Slightly better than a 20% CAGR? If you see it differently, how?

This is where my head is at. Just modeling CAGR and I get stuck with ZS in that low-to-mid 20s% range, based on a somewhat likely stair-step of revenue that gets them around $1b in same amount of time. I see them as a $20b company at $1b revenues. The question is whether they will race up to that mkt cap all at once and then be a dead stock for a while, or if it will be slow and steady. What I am certain of is that it won’t have 200% price growth in the next 12 months, like MDB just did.

Same/worse with ZM, despite their higher growth rate. etc etc…
There has been a lot of turnover in stocks since I started really following this board, around Winter 2017.

ANET, SHOP, SQ, and others were more the rage.
If they no longer meet the grade, why should we think ZS or ZM or MDB or AYX should meet the grade in 2-3 years from today? Since we keep trying to justify valuations today by saying “in 2-3 years they will…” it seems we get ahead of ourselves then.

Because the story can, and likely will, change/evolve, it seems fair to wonder how long the market will value something at 30x or 40x or 60x. I had to check just now…ANET still below Jan 2018 prices, when I first came to the board wondering how/why ANET should be valued so highly.

I was told I just didn’t get it then, too.