Ignoring the person above, the main reason is usually accounting based. Online firms tend to work on a subscription basis and as a result recieve a lot of revenue upfront for let's say a two year membership. Now, due to accounting they can't count this as revenue because they haven't delivered all those months of service, but the money is in the bank. Thus online companies usually have much better cash flows than their EBITDA, especially when growing.

 
chrisarg72:

Ignoring the person above, the main reason is usually accounting based. Online firms tend to work on a subscription basis and as a result recieve a lot of revenue upfront for let's say a two year membership. Now, due to accounting they can't count this as revenue because they haven't delivered all those months of service, but the money is in the bank. Thus online companies usually have much better cash flows than their EBITDA, especially when growing.

This would make total sense if cash was actually included in EV.
 

It is included EV, just not straight away. EV is the value of the companies future cash flows to all investors in both Debt and Equity. I.e. better cash flow= better DCF valuation=higher stock price=higher EV, also it means creditors are willing to lend more debt because they can pay down debt easier. You remove cash at the end because cashflows are already driving equity and debt

 
Best Response

I would disagree with that, although that partially hits the reasoning. I'm not quite sure what you mean by "online companies" - ecommerce? SaaS? a blog?

Generally these companies trade at higher multiples because of the increased growth prospects people believe these businesses to have. People ascribe higher valuations because they believe that internet companies reach a ton of people, and that over time, will develop better ways to monetize these eyeballs. So while they may only have $x of EBITDA now, because they reach 1b people each month, if they improve their monetization techniques, maybe they can get to $xx of EBITDA. So the higher multiple is because of higher expected growth.

Regarding subscription based companies, while it's true that you'll bring in cash before you realize the revenue, as you hit a stead-state, your cash inflows should grow at a similar rate to your revenues, and so the timing difference isn't as important. The premium multiple that you see subscription-based companies have, is because of how predictable they are. There's less uncertainty around their earnings, because they'll book them months ahead of time. Investors will ascribe a premium to this forecastability, therefore why SaaS companies get great multiples.

 
SS4391:

I would disagree with that, although that partially hits the reasoning. I'm not quite sure what you mean by "online companies" - ecommerce? SaaS? a blog?

Generally these companies trade at higher multiples because of the increased growth prospects people believe these businesses to have. People ascribe higher valuations because they believe that internet companies reach a ton of people, and that over time, will develop better ways to monetize these eyeballs. So while they may only have $x of EBITDA now, because they reach 1b people each month, if they improve their monetization techniques, maybe they can get to $xx of EBITDA. So the higher multiple is because of higher expected growth.

Regarding subscription based companies, while it's true that you'll bring in cash before you realize the revenue, as you hit a stead-state, your cash inflows should grow at a similar rate to your revenues, and so the timing difference isn't as important. The premium multiple that you see subscription-based companies have, is because of how predictable they are. There's less uncertainty around their earnings, because they'll book them months ahead of time. Investors will ascribe a premium to this forecastability, therefore why SaaS companies get great multiples.

This is exactly correct and is the main reason. The highest multiples then go to SaaS companies that have great growth - because they combine high growth with predictable revenue streams. Marine - while in biotechnology many of the companies that go public are doing so without products launched, it is relatively rare for a technology company these days to go public as product development is taken care of mostly in the venture/growth financing stage. The lower EBTIDA usually comes from high opex spend that will (hopefully) drive sales even higher in the future - with the eventual hope that at some point when growth matures the company can ramp down opex spend and become a cash generating machine. The issue is the truly great companies (read: Amazon) will never do this because they always find new ways to invest in new areas like cloud services and grow revenue (hence the perpetually high multiple), and the the other companies that have now matured (read: EMC, Juniper, Citrix, etc) still continue to spend on opex as though they were young, fast growing companies.

 

Probably a combination of the above. But to add, I'm sure the accounting treatment contributes. Its possible that these companies have substantial intangible assets, think intellectual property ect...which in some cases is amortized over time. This leave net income proportionally lower, since amort expense, non cash expenses, hits a P&L but is stripped out of EBITDA. Can't speak to this industry but in Pharma and Biotech, we tend to have high IBiTDA due to all the R&D that was capitalized in the 7 plus years of drug development. That and biotech has can have massive future growth, for products not yet launched. Today sales and earnings might be $100, but in 5 years after launching several products currently in development, earnings may be $500. Key to valueing these companies is not current earnings or operations, but he future. Products also come off patent, and so a $500 company today may trade at a low multiple because next year its largest product will drop 95% value from patent loss. To some extent, online companies may have some similarities. Just my thoughts, by no means am I saying this is the answer, just a possibility.

 

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