Virtuous Circle – How to Make Flying Cars

Ever heard of the virtuous circle in equity financing? A new startup, let’s call it the Wright Motors Company, has big big dreams. They want to make personal electric flying vehicles (EFVs). Wright Motors believes that in the future EFVs will replace ground vehicles, an old technology. To accomplish these dreams Wright Motors needs a  lot of capital. It will need billions of dollars. 

To raise money Wright Motors decides to sell shares. EFVs chances of success are low and it’s a very risky investment. Wright Motors makes big promises and gets investors super excited. Wright Motors claims that EFVs will unclog our roads, free up crucial real estate taken by parking lots, revitalize the economy, create smart green jobs and provide us more with the commodity we need the most; time. No more dirty polluting clogged gridlocks! If you want a piece of the future, the opportunity is now. Once EFVs gets the attention of the mainstream media, the stocks will be expensive and it will be too late. In five to ten years, you want to look in the mirror and say “look at the wise decision I made. My capital has contributed to a better world and my family is better off.” You want a piece of the American dream don’t you? You don’t want to be left out. You will be the coolest person at barbecues. Electric flying cars beat talking about Treasuries.

Investors are excited and Wright Motors raises a lot of money through selling shares. Now the hard work begins. Wright Motors needs a product, engineers, scientists, smart workers, parts and equipment, and a massive factory. Once it has accomplished these things, it will need a sales team, marketing, accountants, lawyers, customer service, and a service team. And more money.

After all success is never a straight line. But there’s a lot of enthusiasm surrounding the company. The media is hooked on the story and Wall Street is always looking for the next flavor of the month. Wright Motors taps Wall Street and manages to raise billions. Banks pocket millions in fees. And rather than punish the company for diluting its shareholders, the market sends the stock higher. It’s a great story after all.

Finally, Wright Motors announces that they have a working EFV prototype. The stock surge on the announcement and Wright Motor issues more stocks. The money raised goes toward building the factory and production should start soon. The stock is up on the good news and more shares are issued. 

For a company with no revenues for the foreseeable future the stock looks expensive. But valuation is based on the future cash flow, or future projections in the case of Wright Motors. So Wright Motors makes the story more compelling. The better the story the more excited the investors, the higher the stock price. You are investing in a piece of the future after all. 

Wright Motors burns all its cash and needs more money. They follow the script which is the higher the stock price the more money I can raise. Wright Motors announces they will enter the China market. China! That’s a billion plus customers! Now the stock is in complete frenzy and Wall Street goes to work.

A silicon valley technology giant is interested in acquiring Wright Motors and makes an offer. Wright Motors rejects the offer on the basis that the price is too low and opportunistic. After all it doesn’t take into consideration the potential ride-hail service and a future robotaxi launch. The stock surge some more and more shares are issued to make the vision happen.

The latest offering boosted Wright Motors’ market capitalization to over $250 billion, ahead of traditional plane manufacturer Boeing. Wright Motors is now among the world’s most valuable manufacturers in the world. The ascent of Wright Motors’ stock helps shore up the balance sheet and fund endless aspirations. Everybody wants a piece of the action. Wright Motors is now teasing another new factory and governments from all over the world are competing for the prize. Some are offering to foot the bill in addition to massive tax breaks. Here comes the kicker: This new factory will manufacture a flying truck! It will revolutionize the way we work hard!

Wright Motors follows the script and lets the virtuous circle roll! As long as investors are believing in the vision, the capital market will be generous. Excitement drives the stock price up, a higher stock price raises more money, which drives production, which drives a higher stock price, which raises more money. 

Rinse, repeat.

Thoughts On Nvidia

I’ve admired Nvidia (NVDA) for a long time. It’s a great company with great leadership and great companies are not typically cheap. Greatness comes at a premium. How much of a premium? That’s the key question and there’s no easy answer.

Unfortunately I’ve never invested in the company and I certainly regret it. Nvidia has a market cap just over $250 billion and is trading at an all-time high. The stock is up 80% year-to-date. Nvidia has $9 billion in net cash. Nvidia is not cheap. It’s trading at 22x sales and 60x EV/EBITDA. This suggest that the price might be ahead of its valuation. But Nvidia always traded traded at crazy multiples. The people buying Nvidia at these numbers believe the company will exceed expectations. Will Nvidia live up to the lofty expectations?

I’ve pinned down two reasons for not investing in Nvidia in the past.

  1. Price
  2. Lack of understanding (circle of competence)

The first reason, price, is still valid. Despite how great the business and its future is, I just can’t get myself to justify paying this much. Of course I said the same thing when Nvidia has a market cap of less than $100 billion. Now the question is will Nvidia be a $500b company in the future?

The second reason is my mistake in labeling Nvidia as a “video game” company. Nvidia is famous for its graphic cards, the GeForce. A graphic card is commonly refereed to as graphic processing unit or GPUs. People that builds gaming rigs use Nvidia graphic cards for the best gaming experience. A good graphic card can cost $1000 and more. Prices are on the rise and the hardware gets outdated pretty quickly. AMD is their main competitor.

Then the cryptocurrency bubble happened and Nvidia became a “crypto” company. When the bubble popped Nvidia did fall but quickly recovered.

Reviewing Nvidia forced me to reframe what Nvidia really is. Labeling Nvidia as a “video game” or “crypto” company was a mistake. Nvidia is way more than that.

Nvidia was founded in 1993 by Jensen Huang. Huang is the current CEO. The main idea was to accelerate computing and video games was the first obvious application. But at the time there wasn’t really a market until Quake came out, a 3-D first person shooting game that demanded a lot of computing juice.

Now Nvidia has parlayed video game success into super-computing dominance and artificial intelligence (AI). These multi billion markets didn’t even exist back then. This year, Nvidia’s data center will generate more revenue than its gaming unit. Nvidia recently inked a new partnership with Mercedes-Benz for computing hardware, software, and services starting in 2024.

Nvidia is becoming an end-to-end platform company. What does that mean? Nvidia is building the architecture, developing applications, and providing the software and hardware. Whereas a chip could go for a couple of hundred dollars, autonomous driving applications could go for several thousand dollars. Mercedes is going to design their cars with Nvidia in this partnership.

Labels can be misleading. Without trying to repeat the mistake of the past, Nvidia is more than just a chip company. Now the business model is the chip and the infrastructure for developing artificial intelligence. When you think Nvidia, you have to think accelerated computing (not videogames). Adding the accelerator to microprocessor became the GPU, well because it does graphic, but it does so much more.

Now scientific computing takes Nvidia into data centers. AI crunches a lot of data and needs a lot of muscle to accomplish that. Nvidia’s chip speeds up the algorithm to make the approach viable from months to days. Nvidia is a key component in the pick and shovel of AI, along with Intel, Amazon, and Microsoft among others.

Nvidia is tackling big markets, anything “smart”. Nvidia is at the center of AI, supercomputing, autonomous driving, 5G, virtual reality, gaming, medical, industrial and robotics. Each of these are multi-billion dollar market with a great future.

Now the main question is how much is this company worth? I’m not talking about next quarter numbers, but in five years when we had made progress in these big areas. I will keep an eye on Nvidia if the stock corrects.