I said yesterday: “This is why I’m out of Square. The growth hasn’t been organic for a while. Plus it’s a very large base now – and it takes a lot more work to move a battleship than a rowboat.” But why does that matter? Is it so much harder to turn their annual revenue of 1.5 or 2 billion into 3 billion, 5 billion, or 10 billion, than it is for AYX to turn their 300m into 1 billion or 2 billion? Yes. Why? Well here are 3 reasons off the top of my head.
- The more revenue a disruptor takes, the more incumbents fight back.
- The more customers spend with a company, the closer each gets to their spending limit.
- The more revenue a company takes, the closer they get to saturating their TAM. Whether they’re at 1% or 50% of the TAM, each incremental dollar is increasingly more difficult to get, because there are fewer total dollars left to draw from.
We tend to look at revenue growth rate a lot here, as we should. But we need to remember: this is only a rule of thumb! A company’s value has literally nothing to do with it’s PS or EV ratio. The value corresponds to the expected discounted future cash flows.
It’s 100% normal that the future cash flows expected for a small company would be proportionally larger, compared to their current revenues, than those of a large company. That’s why I favor the NEWR’s, and AYX’s, and SMAR’s of the world over SHOP and SQ.