Making Money On Disruptive Business Models

Making Money On Disruptive Business Models

Every equity investor wants 𝐡𝐢𝐠𝐡𝐞𝐫 𝐯𝐚𝐥𝐮𝐞 𝐟𝐫𝐨𝐦 𝐡𝐢𝐬 𝐢𝐧𝐯𝐞𝐬𝐭𝐦𝐞𝐧𝐭𝐬, implying that his objective is to maximise the present value of his investments at a given risk given other alternatives.

Yet, we see companies have different strategies to add value. For example, some companies want to capture market share and are willing to negotiate lower pricing against higher volume. In my view, cutting prices generates reactions from the competition, and the net effects on value creation can get unpredictable.

For instance, consider the new-age Indian startups in edutech, fintech, or the #onlinegrocery segment. If BYJU cuts prices to gain a higher market share, upGrad will react, and the net effect will result in lower margins, but volume will not increase to compensate for lower margins which is a recipe for lower firm value.

Suppose an 𝐢𝐧𝐜𝐫𝐞𝐚𝐬𝐞 𝐢𝐧 𝐦𝐚𝐫𝐤𝐞𝐭 𝐬𝐡𝐚𝐫𝐞 𝐥𝐞𝐚𝐝𝐬 𝐭𝐨 𝐡𝐢𝐠𝐡𝐞𝐫 𝐦𝐚𝐫𝐠𝐢𝐧𝐬 𝐞𝐢𝐭𝐡𝐞𝐫 𝐛𝐞𝐜𝐚𝐮𝐬𝐞 𝐨𝐟 𝐞𝐜𝐨𝐧𝐨𝐦𝐢𝐞𝐬 𝐨𝐟 𝐬𝐜𝐚𝐥𝐞 𝐝𝐫𝐢𝐯𝐢𝐧𝐠 𝐝𝐨𝐰𝐧 𝐜𝐨𝐬𝐭𝐬 𝐨𝐫 𝐢𝐧𝐜𝐫𝐞𝐚𝐬𝐞𝐝 𝐦𝐚𝐫𝐤𝐞𝐭 𝐩𝐨𝐰𝐞𝐫 𝐝𝐫𝐢𝐯𝐢𝐧𝐠 𝐝𝐨𝐰𝐧 𝐜𝐨𝐦𝐩𝐞𝐭𝐢𝐭𝐨𝐫𝐬. In that case, it will lead to a higher value. However, if this strategy results in lower pricing and margin, the net effect on value creation is negative.

Thus, startups looking to disrupt the status quo often lose value. For instance, ride-sharing companies have displaced traditional cab services companies, but Uber, Lyft, DiDi, Grab, and Ola continue to lose money.

Thus, in my view, 𝐝𝐢𝐬𝐫𝐮𝐩𝐭𝐢𝐨𝐧 𝐢𝐬 𝐞𝐚𝐬𝐲, 𝐛𝐮𝐭 𝐦𝐚𝐤𝐢𝐧𝐠 𝐦𝐨𝐧𝐞𝐲 𝐨𝐧 𝐝𝐢𝐬𝐫𝐮𝐩𝐭𝐢𝐨𝐧 𝐢𝐬 𝐜𝐨𝐦𝐩𝐥𝐞𝐱, 𝐚𝐧𝐝 𝐝𝐢𝐬𝐫𝐮𝐩𝐭𝐢𝐨𝐧 𝐜𝐫𝐞𝐚𝐭𝐞𝐬 𝐥𝐨𝐭𝐬 𝐨𝐟 𝐥𝐨𝐬𝐞𝐫𝐬 𝐛𝐮𝐭 𝐝𝐨𝐞𝐬 𝐧𝐨𝐭 𝐧𝐞𝐜𝐞𝐬𝐬𝐚𝐫𝐢𝐥𝐲 𝐫𝐞𝐩𝐥𝐚𝐜𝐞 𝐭𝐡𝐞𝐦 𝐰𝐢𝐭𝐡 𝐰𝐢𝐧𝐧𝐞𝐫𝐬.