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JFrog – Note 20201027

[October 27th, 2020]

JFrog has been doing quite well since its IPO in mid September. In the first 10 trading days, it doubled from its IPO price of $44/share and gained 50% from close of the second day of trading.

Due to limited free flow before lock-up expiration, the stock has been quite volatile. Technically, the stock looks good as of today while fundamental-driven investors might be more concerned about valuation.

As of this writing, JFrog has market capitalization of US$7.5B with EV/NTM Sales is over 40x. As I mentioned in my quick calculation post before IPO, JFrog’s product is mission critical and it has outstanding financials with high topline growth, GAAP profits and positive cash flow. That said, what kind of assumptions and underlying characteristics does it need to support the valuation at current level or higher?

The characteristics of software business is well understood that it has limited marginal cost to scale which leads to high contribution margin. If the software business can acquire customers and retain them efficiently and effectively, the business might be able to quickly enjoy operating leverage once it breaks even. The adoption of software-as- a-service business model further makes the revenue stream more recurring and financials of the business more stable and less product cycle driven.

JFrog just had accounting profit in last quarter (2Q20). JFrog is likely to have accounting profit going forward even though the company mentioned it planned to increase S&M spending in the prospectus. If JFrog doesn’t reinvest its contributing profit into R&D and S&M too aggressively, I expect that the operating leverage will kick in very quickly. I think this pattern is quite clear so the thesis on margin expansion will more likely to suffer from negative surprise in the short term when everyone takes margin expansion for granted.

While margin improvement is not enough to support the stock, at least we know JFrog had healthy unit economics to generate attractive financial results. Future industry-leading profitability is not enough. That profitability needs to be at a scale that matches the valuation. Eventually, it’s all about growth. There are few areas for growth.

  • Story: TAM, TAM Expansion, Adjacent Markets / Other Uses Cases

This depends on how large the problem JFrog is solving. Software is enabling every industry. The volume of software written, the demands for a faster release cycle, and the increasingly complex layers of dependencies and security requirements are self-reinforcing tailwinds that are all increasing the size of the market that JFrog addresses. The opportunity in adjacent markets includes improved security solutions for DevSecOps and enabling software updates at the edge (Internet of Things, IoT).

  • Acquisition of New Customer and Geographic Expansion

In addition to typical initiatives and process to acquire new customers, JFrog intends to continue to expand internationally as DevOps practices are increasingly around the worlds.

JFrog doesn’t further breakdown revenue from the rest of world. I was wondering whether China could be major revenue contribution but I realized in a call with Chinese video conferencing provider that pure enterprise SaaS model might not be working in China because corporate procurement process is different from markets like the U.S. Bottom-up or Land-and-Expand might not work that well China. Sometimes SaaS companies still need channel partners to market the product and maintain the customer relationship. This is why contribution profit after the sales and marketing might not look that great in China because there’re relatively high on-going costs on maintaining the customer. It might be difficult for products that use freemium or self-service (inbound) model to get adoption. I’m not sure whether community-driven marketing will work there. Hope some analysts will ask this during the conference call next week.

My another hope is that JFrog can get traction in Japan. I notice that the company has developer advocates based in Japan. Currently, digital transformation has become a buzzword (DX) in Japan. Maybe this can fuel some adoption.

  • Cross-sell / Upsell / More Usage from Existing Customers

To date, JFrog has not deployed a significant outbound sales force, relying primarily on its self-service and inbound sales model. Moving forward, Jfrog is building a small, high-touch strategic sales team to identify new use cases and drive expansion and standardization on JFrog within its largest customers.

JFrog has outstanding ARR growth, gross dollar retention and net dollar retention.

The most impressive chart in the whole prospectus is their cohort analysis.

ARR from customers in the 2011 cohort, 2012 cohort, 2013 cohort, 2014 cohort, 2015 cohort, 2016 cohort, 2017 cohort, and 2018 cohort in 2019 represent an increase over each cohort’s initial aggregate ARR by 13.2x, 14.6x, 7.9x, 6.6x, 4.3x, 2.9x, 2.0x, and 1.4x, respectively.

On average, customer cohorts have expanded by approximately 3.0x within the first three years. All of customer cohorts have continued to expand in 2020, as of June 30, 2020.

JFrog Prospectus

My interpretation is that the usage of JFrog products has an underlying trend and JFrog has done a great job retaining and monetizing existing customers. If the past cohorts have similar pattern of ARR growth, I would assume new cohorts might behave likewise. If theses characteristics hold, I would expect JFrog’s growth rate might be at least 30%+ (this bottom should be higher if there’s no COVID-19 impact) from existing customers for an extended period of time with additional growth coming from new customers. This 30%+ growth period might be much longer than some participants’ expectation. This is my key assumption to the currently 40x+ EV/NTM Sales.

Frog has market with trend and products with attractive economics to address the market. My bet is that JFrog can ride on the trend and fend off the competition from much larger but less focused players. Risks come from competition and sector-wise valuation correction.


Prospectus Summary

The CSRM Platform

  • JFrog is Continuous Software Release Management (CSRM) platform which enables organizations to continuously deliver software update across any system.
  • The platform is the critical bridge between software development and deployment of that software and provides the common ground for software developers and IT operators, making it integral to the DevOps workflow.
  • The specific platform is JFrog Artifactory which is an universal package repository. JFrog’s approach to software release is package-based and enabled the CSRM category. The platform
    • enables organizations to store all package types in a common repository where they can be edited, tracked, and managed,
    • connects all of the software release processes involved in building and releasing software,
    • empowers customers to shorten their software release cycles and enable the continuous flow of current, up-to-date software from any source to any destination,
    • is agnostic to the programming languages, source code repositories, and development technologies that our customers use, and the type of production environments to which they deploy.

Basically, Jfrog is a market leader in mission critical category in the DevOps workflow.

Market Opportunity

  • Core (TAM): The volume of software written, the demands for a faster release cycle, and the increasingly complex layers of dependencies and security requirements are self-reinforcing tailwinds that are all increasing the size of the market that JFrog addresses.
    • My Thesis: the complexity and volume this tool addresses grows exponentially.
  • Adjacent (TAM Expansion): improved security solutions for DevSecOps and enabling software updates at the edge (Internet of Things).
    • My Thesis: big market, particularly IoT but adoption trajectory is relatively uncertain.

Business Model

  • Bottom-up, community-focused approach to driving increased usage of product.
    • Demonstrating the value that products can provide to software developers and IT operators before their organizations become customers.
    • Try to make developers and operators champions of JFrog.
    • The go-to-market and multi-tiered subscription structure for both self-managed and software as a service (SaaS) subscriptions and technology partnership ecosystem fuels the growth.
  • Go-to-Market (focus on reducing friction)
    • The subscriptions are offered in multiple tiers that differ based on both product breadth and functionality.
    • The pricing has various options including free trials, freemium offerings, and open source software options providing low-friction entry points for software developers and IT operators.
    • Support for public cloud on-premise, private cloud and hybrid deployments reduces friction adoption and prevents vendor lock-in for customers.

Growth Strategy

  • Building new capabilities and extending the platform to have broader range of use cases.
  • Cross-sell, up-sell and usage expansion within existing customers
    • To date, JFrog has not deployed a significant outbound sales force, relying primarily on our self-service and inbound sales model. Moving forward, Jfrog is building a small, high-touch strategic sales team to identify new use cases and drive expansion and standardization on JFrog within its largest customers.
  • Customer acquisition
    • In addition to typical initiatives to acquire new customers, JFrog intends to continue to expand internationally as DevOps practices are increasingly around the worlds.

Competition

  • With respect to self-managed deployments, diversified software companies, such as IBM, Inc. (Red Hat), Pivotal Software, Inc., and VMware, Inc., and developer-focused software companies, such as GitLab Inc. and Sonatype, Inc., have offerings that compete with certain of JFrog’s products.
  • With respect to SaaS deployments, cloud providers, such as Alphabet Inc. (GCP), Amazon.com, Inc. (AWS), and Microsoft Corporation (Azure DevOps including GitHub), have offerings that compete with certain of JFrog’s products.

Monetization and Metrics

Revenue Streams

  • Subscription – Self-Managed and SaaS
    • Subscription – self-managed and SaaS revenue is generated from the sale of subscriptions which includes support and upgrades and updates on a when-and-if-available basis for JFrog self-managed software products, and revenue from JFrog SaaS subscriptions, which provides access to software managed by JFrog in the public cloud. For subscriptions to JFrog self-managed software products, revenue is recognized ratably over the subscription term. For our SaaS subscriptions, revenue is recognized based on usage as the usage occurs over the contract period.
  • License – Self-Managed
    • License revenue reflects the revenue recognized by providing customers with access to proprietary software features. License revenue is recognized upfront when the software license is made available to JFrog customer.

Metrics

  • ARR, Gross Dollar Retention and Net Dollar Retention

  • Cohort Analysis

ARR from customers in the 2011 cohort, 2012 cohort, 2013 cohort, 2014 cohort, 2015 cohort, 2016 cohort, 2017 cohort, and 2018 cohort in 2019 represent an increase over each cohort’s initial aggregate ARR by 13.2x, 14.6x, 7.9x, 6.6x, 4.3x, 2.9x, 2.0x, and 1.4x, respectively.

On average, customer cohorts have expanded by approximately 3.0x within the first three years. All of customer cohorts have continued to expand in 2020, as of June 30, 2020.

Historical Financials

Mario Kart Live: Home Circuit

Concept of the Game

Mario Kart Live: Home Circuit (Mario Kart Live) utilizes Mixed Reality technology to combine real-time, interactive information captured from physical radio-controlled cars and digital Mario Kart gameplay experience.

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Nature of the Game

Due to physical element in the game mechanics, the game has natural constraints on scalability in different forms.

  • Unlike drone racing which inspired the game, Mario Kart Live has a clear limitation on area defined by wireless communication capability of the hardware. The size of area might be designed based survey of average size of home space and costs of hardware. Nintendo recommends the product is for indoor use only.
  • The game doesn’t support online multiplayer while up to four players can race together via local multiplayer. This means the game can only enjoy limited local network effect due to relatively high price of RC cars and uncertain replayability for potential players.

In the mean time, Mixed Reality element gives the game unlimited possibility and unpredictable fun.

  • There’re unlimited routes that players can design. In fact, they are required to set up track every time they paly. User’s creativity and improvisation is a source of fun for this game. It’s kind of user-generated content (UGC) even though the “content” creator is the “content” consumer. There’s no built-in mechanic in the game to share this type of content. For those who are really enthusiastic about the game, they might go to social media to find ideas to decorate and create obstacle for their tracks. They will find some as it’s not surprising there’s supply of this type of content. Oh by the way, how’s Nintendo Labo doing?
  • Mixed Reality brings teal-time, interactive physical inputs into gameplay, sometimes making the game unpredictable in an enjoyable way. One scenario is playing the game with toddlers or pets walking arounds. Their actions are less predictable adding random factors into the game (which is actually a part of game mechanics). That said, I don’t know how often this magic happens and how much it makes players want to replay the game.

Business Model and Monetization of the Game

The game integrates/bundles radio-controlled car and downloadable-only game software. The game software also serves as the operating system for the RC cars. The bundle is priced at $100. The game has in-game items which can be unlocked using coins earned during the game.

The game has little room for paid DLC, let alone live ops. If the game was solely developed Nintendo, it might get some free updates. Since the game is developed by Velan Studios, the consideration is different from that of platform holder being a sole developer. Nintendo and Velan Studios probably have a flexible plan with production depending on initial reception and additional content depending on installed base, user feedback and user behavior.

The game is likely to collaborate with Tetris 99 to offer special skin. Nintendo might have other plans for this in Super Mario 35th Anniversary campaign.

This product looks like software in a box. However, the hardware and software are so integrated that replayability and scalability are capped in a reinforcing way. Thus, it has limited potential for game as a service.

Prospect of the Game

Due to the limited replayability and pricing, I don’t expect this product to be a hit as Ring Fit Adventure which even has utility value (keeping you fit) . We might see supply shortage on this product for an extended period of time as Nintendo might be cautious about the demand (more like another Nintendo’s high quality experiment). If the product does well, that’s very good. Even if the product doesn’t do well, the game meets Nintendo’s high standard and presents the innovation/novelty to the world. Nintendo can always treats it as marketing initiative under its broader IP strategy. My perspective is that the game is more like a profitable marketing initiatives. The magnitude of lifetime contribution profit won’t be significant for Nintendo. I don’t expect next iteration or live ops plans for this game.

Sides Notes

It seems Nintendo is executing based on an IP platform strategy rather than on game platform concept. Nintendo’s live game or game as a service includes their mobile games (Mario Kart Tour, Fire Emblem Heroes, Animal Crossing: Pocket Camp, Dr. Mario World, Dragalia Lost), Nintendo Switch Online and Tetris 99 (as part of Nintendo Switch Online). Nintendo doesn’t have real live games in their 1P game portfolio (excl. games or services related to The Pokemon Company). What they’re doing with their 1P games on Nintendo Switch is keeping iterating franchises/IP with some add-on or DLC for each iteration. The reasons why Nintendo lacks live game on Nintendo Switch, can’t build a successful smart-device business and sticks with more traditional business mode on game level on their platform are multifaceted and interconnected.

Ring Fit Adventure has high potential to become a viable game as a service and it’s a new IP so it has less historical burden to try some new business models. It’s been exactly one year today since Ring Fit Adventure launched. Not sure if Nintendo has any further plan for this game after seeing its success. In addition to its own sales, the game also drives some adoption of Nintendo Switch Online and adds value to that service.

  • As of the end of Jun. 2020, Nintendo has shipped 3.9M Ring Fit Adventure but it didn’t have a business model for the game that generates recurring revenue.
  • In comparison, Peloton had 1.1M connected fitness subscription as of the end of Jun. 2020. Over the past year, Peloton has added more than $30B to its market cap. Nintendo’s market cap is around $65B.

JFrog – Quick Cal.

💡 Intellectual exercise only. Don’t take the projection seriously.

JFrog recorded accounting profit in the last quarter. The company has been cashflow positive for a while. The business is a typical software business which enjoys high gross margin. Once the business breaks even, the operating leverage might kick in faster than consensus expects because people are not good at predicting something non-linear like operating leverage.

The product seems mission critical but I’m thinking that even without competition, is the TAM large enough to support 10x top-line growth for JFrog which has ~$160M revenue run-rate currently?


2020/9/14

(Reuters) – The company said it now expects its IPO price between $39 and $41 per share, up from between $33 and $37 per share expected earlier.

Unity – IPO Note 2

Unity filed S-1/A yesterday so now we have a better grasp on pricing. I’m not going to do a sensitivity analysis table which shows the relationship between market capitalization, estimated revenue / revenue growth and the multiple since FinTwit has done a great job.

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@jaminball

Since it’s typical for IPO stock to pop, what you would like to do is extending the table to X dollar per share and check whether the corresponding multiple for the traded share makes sense to you. Jamin has done a great work on the SaaS valuation comp categorized by the growth.

Unity: Benchmarking the S1 Data by Jamin Ball at Clouded Judgement

I talked about the runway and opportunities. By being very long-term oriented and aggressive (or naive), the posts probably make most readers identify more execution risks than opportunities on the business fundamental. Now let’s look at risk of paying too much or what might make the share drop.

  1. Category Change
    If Unity is trading at a multiple of high growth category, it might face de-rating when it’s not able to consistently deliver that high growth or when investors realize its fundamental actually has lower growth (sentiment change).
  2. Overall SaaS Multiple Contraction
    The SaaS multiple has expanded significantly since April, it’s difficult to predict whether it will expand further, stay within a band or even contract in the future.
  3. The Robustness of Operate Revenue Growth
    Operate revenue (~60% of total revenue for the six months ended June 30, 2020) is primarily generated by Unity’s advertising product at the moment. If the advertising revenue growth derailed, Unity might experience severe revision on valuation.
  4. Market Might Not Be Willing to Attach SaaS Multiple on Operate & Others Revenues
    Create Solutions revenue is subscription-based which is recurring. However, Operate Solutions and Others revenues are more like re-occurring revenues which might not be suitable to be valued as SaaS business. More investors using sum-of-the-parts (SOTP) on Unity will depress the share price. While I fine with a stretched revenue-based multiple, it’s still difficult for me to swallow valuation method mismatch. Be careful when you know your counter-party is very savvy.

Two tweets about Peloton after earnings release might be related point 4 above. To me, Peloton is a software-in-a-box. It generates revenue streams and contribution profits from boxes (Peloton’s bikes and treadmills are actually lucrative) and software (subscription). Hardware contributes large portion of total revenue and this revenue stream is re-occurring by market penetration, product penetration (offering market more products or selling existing users different product. For example, a bike user might further purchase a treadmill) and long-cycle product replacement (how many bike you need in your lifetime?). Software contributes smaller portion of total revenue at the moment and its monetization is subscription which is recurring.

Lastly, market is willing to put premium on valuable strategic asset (game engine). Sellers will definitely take advantage of that.


Previous posts on Unity:

  1. Thoughts on Unity and Game Engine before Unity IPO
  2. Unity – IPO Note

Unity – IPO Note

💡 This note is NOT an advice for making any investment decisions. Data in this note is hand-collected so it’s recommended to double check your data provider and S-1. The content here is my intellectual exercise so it might deviate from reality substantially and should be different from typical S-1 tear-down or IPO snapshot (hopefully in a positive way). If reader is not familiar with the company and hasn’t read the S-1, the content here might be toxic. If you haven’t read the S-1 or something like S-1 tear down / Fintwit thread, you should check this Notion page. Google Sheet for model data below. Previous post: Thoughts on Unity and Game Engine before Unity IPO. Next post: Unity – IPO Note 2.

Unity – Product Offerings

Unity has two distinct, but connected and synergistic sets of solutions. The Create Solutions and Operate Solutions are two suites of software used by content creators and customers who want to acquire/retain end-users, run the content or monetize the content. In gaming vertical, Unity’s business is something like game-as-a-service enabler which covers a value chain from content creation to live ops.

Apparently, a job can be done by a suite of software or by a software encapsulating all needed features. While there might be some connection / integration among software within / across suite(s), the integration level or ease of use of software suite is generally inferior than that of the all-in-one software or software platform. Due to broad adjacent market, fragmented use cases / scenarios / workflow and limited resources, it’s understandable a company is unlikely to build every software / features in-house even if they have a platform mindset. However, what the company can do is buying stuffs which are complement to the exiting offerings and then try to integrate them into a software platform or make it as a standalone offering while still being connected to other offerings. There are few implications below:

  • The acquisitions need capital and/or shares.
  • The acquired products and teams need to be integrated into company. While sometimes it’s better to leave the acquired asset alone. e.g. the asset is a disruptive technology / business model to the acquiring company.
  • Product distribution, cross-sell opportunity and complement to existing products are typical synergies to justify the acquisition.
  • The growth in the future won’t be all organic.

Acquisition is one of growth strategies of Unity. This kind of tech roll-up is not buying revenue but creating revenue and hopefully making the customer even more captivated. One benefit of being an active buyer is that it might fuel the innovation in the ecosystem

Another implication of this strategy on financial modeling is that the company might not be generating positive cash flow (free cash flow – cash used in acquisition) or even keep consuming cash for an extended period. My prediction is that Unity accumulates zero internal cash over the next ten years and if they aggressively pursue this strategy, they might need additional financing in the future.

Revenue Streams & Underlying Driver

Quarterly Revenue Breakdown

Create Solutions

The core product in Create Solutions is a software development engine which is offered to customer in tiered subscription plans. The user of the engine is called creator here in case of confusion because Unity through its products has business relationship with various participants in the ecosystem.

As of 2Q20, the engine has 1.5M monthly active creator. The majority of creator is using free plan which leads to an annualized average revenue per creator of $147. It’s critical to keep the entry barrier of financial / learning as low as possible for potential creators to drive long term adoption and diffusion of the technology. At current stage, the churn on new adopters might be high because the majority of new adopters are hobbyists, students… even though there are free official / third-party learning content and community support. The journey to get reward from this tool via creation is still too long for most adopters at the moment. Thus, in the short to intermediate term, the subscription revenue growth primarily comes from expansion of enterprise creator base and expansion of revenue contribution from each paying creator.

In my last post, I naively assumed Unity can grow at 20% CAGR for 25 years. Below is my growth pattern to generate that CAGR on creator base and subscription revenue.

What’s the meaning of 20% CAGR? The stuff just grows at 20% every year? Nope. The key of this forecast exercise is that it needs to capture concept of adoption / diffusion. The growth pattern below assumes an accelerated adoption over next 20 years and there will be a breakthrough after 15 years. The overall CAGR is around 19.4%.

Use current 1.5M creators as base, the chart for creator over next 25 years looks like below:

The growth pattern of average revenue per creator assumes that revenue from expansion in enterprise creators can offset relatively low growth in creator base. This leads to an expansion in average revenue per creator in first 10 years. The higher growth rate in creator base from year 11 to year 20 results in flat to decline of average revenue per creator. Starting from year 20, the company is able to convert non-paying creators into a subscriber effectively. This slows the decline trend of average revenue per creator.

Then apply the growth pattern to current annualized average revenue per creator.

Finally, we have revenue projection of Create Solutions for the next 25 years. Well, it’s a $20B business in 2045.

Operate Solutions

This is a suite of software products and services that help customers acquire / retain end-users for the content and run / monetize the content. There’re two monetization methods: revenue-share model and usage-based model.

  • Revenue-share model (primarily advertisement)

    This model generates a substantial majority of Operate Solutions revenue. Unity facilitates advertising on applications via its monetization solutions including Unified Auction which allows publishers to sell the available advertising inventory from their mobile applications to advertisers on a cost-per-install basis or cost-per-impression basis. Unity retains a share from the transaction as advertising revenue. While Unity has Unity IAP to facilitate in-app purchase, it typical does not retain a share of the revenue generate through Unity IAP (how does Unity monetize this product? is it a bundled product?).

    The performance of this business is linked to overall app economy, in-app advertising market, expansion of customer base, the success of customer’s app and expansion of its app portfolio, and the effectiveness of Unity’s products that create measurable value for advertisers. As Unity provides tools that create content, the synergy between monetization and creation businesses is obvious especially when monetization happens within the content. The adoption of the software development engine for content creation will expand the overall economy of this type of content and Unity is a key player that fuels the expansion.

    What’s the impact of Apple iOS privacy change on the advertising revenue? Maybe wait for 3Q20 result?

    We don’t know what will be the next emerging platform for consumers to consume content but at least the risk of AR / VR replacing in-app content consumption on mobile is mitigated since Unity is a leading player in that space.
  • Usage-based model

    This includes cloud-based solutions and enterprise hosting services to developers that develop and operate multiuser / multiplayer content (games or applications). These services are primarily sold on a fixed fee or usage-based model with fixed fees billed monthly in advance and usage fees billed monthly arrears. The performance is linked to the growth of customer base and their business success as well as macro drivers mentioned above.

Follow the 20% CAGR and the engine adoption assumptions, below is the growth pattern for Operate Solutions which has a CAGR of 20.5%.

Based on the annualized Operate Solutions revenue for 2020 and growth pattern above, the projection of Operate Solutions revenue for next 25 years is shown below.

Strategic partnership and Other

These are strategic contracts with owners of hardware, operating system, device, game console and other technology providers to customize Unity’s software licenses to enable interoperability with those platforms. Unity generally provides services in those contracts: (i) development and customization of our software to integrate with the customer’s platform and (ii) post-integration ongoing support and updates.

Unity also recognizes revenue for sales-based royalties based on the sales of games on the strategic partner platforms that incorporate Unity’s customized software.

This revenue stream didn’t show growth pattern in the last few quarters and the contribution is not material at the moment or maybe going forward. The forecast is based on annualized number of this year and then grow at 3% per annum for the next 25 years.

Margin Profile and Cash Flow

Quarterly Margin Profile

Annual, Semi-annual Margin Profile & Cash Flow

Forecast on Margin, Capex, Acquisition and Cash Flow

Valuation

Market Valuation at IPO

Jamin Ball has an excellent Unity S-1 review at Clouded Judgement. He predicts Unity will trade at $12B out of the gate based comp analysis and his forecast. You can check his newsletter or use Public Comps to do your own analysis.

I’m lazy and not good at logical reasoning so here’s my approach. Unity was valued at $6B in July 2019 which was a follow on at late stage by savvy investors. The visibility of exit event and the strong performance of SaaS in public market make 100% IRR target look fine. Series E should crystalize a 100% IRR in private market and further enjoy 25% public market premium. The market valuation can reach $15B ($6B x 2 x 1.25) during IPO before more market participants start processing information. (We have a drawdown today, Sep. 4, so maybe sentiment might change significant at IPO 😛)

Discounted Cash Flow (DCF)

Since we have free cash flow projection, it’s easy to comp up with valuation based on DCF. I discount the post acquisitions free cash flow at 10% discount rate and assume the terminate value trades at 20x post acquisitions free cash flow in year 25. Note that in my projection the top line and cash flow haven’t reached steady state in year 25 as they still grow at 20%.

The estimated enterprise value (present value of DCF) is around $57B. Assuming net debt is zero, equity value is therefore $57B. (I thought I can easily get a present value larger than $100B😅)

Multiple

A model can spit out anything you need. If you’re buying Unity at $15B enterprise value, you’re buying at 16.7x 2021 revenue or 8.1x 2025 revenue or 0.5x 2040 revenue…🤪

Final Thoughts & Reminder

In the beginning of this writing, I was about to write something more conceptual like increasing return, lock-in/switching cost, competition… but I notice those issues were mentioned in previous post or other places. This note turns out to be a forecasting exercise.

This exercise is not meant to be accurate but to provide a thesis-driven reference to track the performance of the company when the share might be trading at a multiple that is difficult to understand (e.g. 20 times 20xx revenue?). Maybe there’s a component in risk appetite called willingness to pay for an aggressive scenario in the distant future.

There’s no top-down market sizing here. Not sure if any PDIE material or broker’s coverage initiation has done that type of exercise.

The risk of IPO stock is high. High volatility and drawdown might lead to temporary loss of purchasing power or even permanent capital loss. Think twice before investing / trading stock with limited track record in public market. This note is just an intellectual exercise, NOT an advice for making any investment decisions.

Finally, the edge from having industry knowledge might be much more valuable than doing this kind of modeling.