USERANDSUBSCRIBERECONOMICS:VALUEDYNAMICS

CFASession,November2017

TheSetUp

Baseyear Years1-5 Years6-10 Afteryear10TotalMarket $200,000 Grow1.5%ayearGrossMarketShare 10.00% 40%RevenueShare 20.00% 15.00%OperatingMargin -43.08% 20.00%Reinvestment NA Reinvestmentrate=7.5%Costofcapital NA 10.00% 10%->8.00% 8.00%Riskoffailure

TotalMarket MarketShare Revenues(15%ofGross) EBIT(1-t) Reinvestment FCFF1 220,780$ 13.00% 8,826$ (2,105)$ 775$ (2,880)$2 243,719$ 16.00% 11,309$ (1,983)$ 828$ (2,811)$3 269,041$ 19.00% 13,930$ (1,564)$ 874$ (2,438)$4 296,995$ 22.00% 16,661$ (820)$ 911$ (1,731)$5 327,853$ 25.00% 19,466$ 270$ 935$ (665)$6 361,917$ 28.00% 22,294$ 1,715$ 943$ 772$7 399,520$ 31.00% 25,080$ 3,511$ 929$ 2,583$8 441,030$ 34.00% 27,741$ 3,884$ 887$ 2,997$9 486,853$ 37.00% 30,173$ 4,224$ 811$ 3,414$10 537,437$ 40.00% 32,246$ 4,514$ 691$ 3,823$

Terminalyear 548,723$ 40.00% 32,923$ 4,609$ 484$ 4,125$

69,920$ 28,479$ (2,103)$ 26,376$

5%-$

25,057$ 5,000$6,000$

36,057$

Uber,TheGlobalLogisticsCompanywithabehaviorproblem(June2017)TheStory

Uberisalogisticscompany,doublingthemarketsizebydrawinginnewusers.Itwillenjoyweakglobalnetworkingbenefitswhileseeingitssliceofrevenuesslip(85/15),highercosts(withdriversaspartialemployees)andlowcapitalintensity.Theextracurricularproblemsatthecompany,withitlegaltanglewithGoogle'sWaymodivisionandaccusationsofcondoningofsexualharassmentwillslowthecompanydownintheneartermbut

notdamageitenoughtoalteritsstorysignificantly.TheAssumptions

StorylinkGrow10.39%ayear Delivery&Moving+Ridesharing

10%>40% Bigplayer20%->15% Lowerrevenueshare

-43.08%->20% CostpressurescontinueSalestocapitalratioof3.00 Morecapitalinvestmentmodel

At75thpercentileofUSfirms5%chanceoffailure,ifpricingmeltdownleadstocapitalbeingcutoff Cashonhand+Capitalaccess

TheCashFlows

TheValueTerminal valuePV(Terminal value)PV (CF over next 10 years)Value of operating assets =Probability of failureValue in case of failureAdjusted Value for operating assets

Mostrecentpricingputthepriceatgreaterthan$70billion

+Cashonhand+CrossholdingsValueofallassets

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PushbackonUberValuation

¨ Inputdisagreement:LotsofinputsandassumptionsandIcouldbewrongonanyorallofthem..

¨ Modeldebate:DCFwasdesignedforoldeconomycompaniesandnotsuitedtoneweconomyfirmsthataremorefocusedonaccumulatingusers&subscribers,makingthemstickwiththefirmandsellthemproducts&servicesoverlongperiods.

¨ DCFisflexible:DCFmodelsaremuchmoreflexiblethanmostpeoplegivethemcreditfor,andthattheycanbemodifiedtoreflectotherframeworks.IfyouhaveaproblemwithaDCFvalue,itshouldnotbewiththemodelbutwiththepersonusingthatmodel.

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DCF:AggregatedversusDisaggregatedValuation¨ DCFFirstPrinciple:Thevalueofabusinessisthepresentvalueoftheexpectedcashflowsfromthatbusiness,withthediscountrateadjustedforrisk.Thatistrueforanybusiness,manufacturingorservice,smallorlarge,oldeconomyorneweconomy.

¨ AggregatedversusDisaggregatedValuation:Inaggregatedvaluation,youvaluetheentirecompany,consolidatingitsrevenues,earningsandcashflows.Youcouldvalueacompanyonadisaggregatedbusinessbasedupon¤ TheDifferentBusinessesitisin(SumofthePartsValuation)¤ TheDifferentGeographiesitoperatesin¤ TheUnitsthatitgeneratesrevenuesfrom(Subscribers,Users)

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Whydisaggregatedvaluation?

¨ Incorporatekeydifferences:Inaggregatedvaluation,youmisskeydifferencesacrossdisaggregatedunits(business,geographies,products,users)aswellasthemissingofcompetitiveadvantagesthatapplyonlytosomeunitsofthebusinessandnottoothers. Withdisaggregatedvaluation,youcanbringthesein.

¨ Connectstoriestovalue:Ifthestorybeingtoldbyabusinesspersonorentrepreneurisaunit-basedstory(users,subscribers),buildingavaluationthatisrelatedtothoseunitsisbetter.

¨ Connecttobetterbusinessdecisions:Totheextentthatinsiderscanobtaintheinformationtovalueabusinessonadisaggregatedbasis,youcanusethatinformationtoimprovethewaythecompanyisrunandtoincreaseitsvalue.

UserBasedValuation- Structure

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User/Subscriber/MemberBasedValuation

¨ Auser,subscriberormemberhasvalueonlybecausehe/shegeneratesrevenuesforthecompany.Thekeytovaluingaunitthenbecomesidentifyingthelinktocashflowsandvalue.

¨ Tovalueusers,youhavetovalueanindividualuserfirstandthenestimatethecostofacquiringnewusers.¤ Thevalueofanexistinguseristhepresentvalueoftheexpectedcash

flowsthatyouwillgeneratefromthatuser,overthelifetimethatheorsheremainsauser.

¤ Thevalueofanewuserwillbethevalueofauser,netofthecostofacquiringauser.

¤ Theaggregatevalueofuserswillbethesumofthevaluesofexistingandnewusers.

¨ Togettothevalueofacompany,youhavetonetouttheothercentralized/non-userspecificcoststhatitwillface.

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ValuingExistingUsers

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ValuingNewUsers

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ValuingCorporateDrag

What are these?A user/subscriber/member based company usually has expenses that are not directly related to acquiring or keeping its constituents, but are central to keeping the business going.

AUser-basedValuationofUber

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UberUserEconomics

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Uber:DeconstructingtheFinancials

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Uber’sExistingUserValue

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Uber’sNewUserValue

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UberCorporateExpenseValue(Drag)

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UberValuation

UserValue Assetvalue CompanyValue EquityValue

ExistingUsers $16,412.49

NewUsers $20,190.70

UserValue $36,603.19 $36,603.19

- CorporateExpenseDrag $(10,369.28)

UberOperatingAssets $26,233.91 $26,233.91

+Cash $5,000.00

+Didi CrossHolding $6,000.00

UberFirmValue $37,233.91 $37,233.91

- Debt $-

ValueofEquity $37,233.91

TheFieldofDreamsCompany

ValuingAmazonPrime

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AmazonPrime:ACustomer’sPerspective

¨ Becomingamember:AnAmazonPrimemembershipcosts$99/year.

¨ TheMembershipPrivileges:¤ Freeshippingontwo-daydeliveriesforitemsthatareclassifiedasprimeitems.

¤ UnlimitedstreamingofmoviesandTVshowswith Prime Video.

¤ BorrowbooksfromtheKindleOwners'LendingLibrary

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TheEconomicsofanAmazonPrimeMember

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ValuingAmazon’sExistingPrimeMembers

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What’sdrivingAmazonuservalue?

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ValuingAmazon’sNewMembers

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DivvyingupTechnology/ContentCosts

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TheValueofAmazonPrime

ValueofExistingMembers $41,335

ValueofNewMembers $52,792

ValueofAllPrimeMembers= $94,127

- PVofCorporateExpenses $32,846

ValueofAmazonPrime $61,281

User-basedValueDynamics

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I.UserCostPropositions

• Profitsarebetterthanlosses:Ifyouareaninvestorinabusiness,youwouldratherthatthebusinessmakemoneythanlosemoney.

• Youngcompanieslosemoney:Ifyouhaveayoungcompany,youshouldexpectthecompanytomakelosses,evenifitisavaluablebusiness.

• Notalllossesarecreatedequal:Foryounggrowthcompanies,dependentuponusersorsubscribers,therearegoodwaystolosemoneyandbadwaystolosemoney.

• Investorbeware:Toinvestinthesecompanies,youneedtoknowwhytheylostmoney,notjusthowmuch.

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a.ExistingUserversusNewUserCosts

UserValueProposition1:Amoney-losingcompanythatislosingmoneyprovidingservicetoexistingusers/customersisworthlessthanacompanywithequivalentlosses,wheretheprimaryexpensesarecomingfromcustomeracquisitions.

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b.FixedversusVariableCosts

¨ UserValueProposition2:Acompanywhoseexpensesareprimarilyfixed(willnotgrowwithrevenues)willbeworthmorethananotherwiseidenticalcompanywhoseexpensesarevariable(trackrevenues).

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II.UserGrowthPropositions

• Foryoungcompanies,wegenerallyviewgrowthasgoodandrewardcompanieswithhighergrowthrateswithhighervalue.

• Notallgrowthiscreatedequal.Somegrowthstrategiescreatemorevaluethanothersandsomemayevendestroyvalue.

• Inauserorsubscriberbasedmodel,therearetwowaysyoucangrowyourrevenues.Oneistogetexistinguserstobuymoreoryourproductorserviceorperhapsotherproductsandservicesthatyoucomeupwith.Theotherisbytryingtoacquirenewusers.

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a.GrowthfromExistingUsers

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b.GrowthfromNewUsers

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GrowthandValue

¨ UserValueProposition3:Acompanythatisgrowingrevenuesbyincreasingrevenues/userisworthmorethananotherwisesimilargrowthcompanythatisderivinggrowthfromincreasingthenumberofusers/customers.¤ Youngcompaniesfacetradeoffsandthequestionofwhethertoallocateresourcestogetnewusersortrytosellmoretoexistingusersisoneofthose.

¤ AtleastinthecaseofUber,thenumbersseemtoindicatethatifyouhavetoputpriorities,itshouldbeongettingexistinguserstousetheservicemorethantokeeplookingfornewusers.

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III.UserBusinessPropositions

¨ Lookingatacompanyasauserorsubscriberbasedcompanycanbeusefulindecipheringhowandwhytheymakethestrategicandbusinesschoicesthattheydo.¤ FromBuzzwordstovalue:Auser-focuscanhelpusmakesenseofthefocuson“bigdata”and“networkingbenefits”thatmanyofthesecompanieshaveandlinkthemmoredirectlytovalue.

¤ RevenueModels:Auserfocuscanhelpdeterminewhattypeofrevenuemodel(subscription,advertisingortransaction)willoptimizevalueforacompany.

¤ RealOptions:Doesacompanywithalargeandloyalcustomeruserbasehaveoptionality(leadingtoapremiumbeingaddedtoitsvalue)?Whilerealoptionsarenotoriouslydifficulttovalue,inthiscontext,auserfocuscangiveusdirection.

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a.TheGreat,theGood,theBadandtheUgly!

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NetworkBenefitsandBigData:Keystobeingexceptional¨ UserValueProposition4: Theexceptionalfirmwillbetheonethatisabletofindapathwaytohighvalueperuserandalowcosttoaddinganewuserinamarketwhereitscompetitorsstrugglewitheitherlowvalueperuserorhighcostsofacquiringusers.

¨ Thekeystobeinganexceptionaluser-basedcompanylieinutilizing:¤ NetworkBenefits,toreduceyourcostpernewuser,asyougetbigger.

¤ BigData thatyouhaveaccumulatedonyourusersto(a)customizeexistingproducts/servicestomeetuserpreferences,(b)createnewproductsorservicesthatmeetperceiveduserneedsor(c)fordifferentialpricing

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b.RevenueModels

Subscription Transaction Advertising

UserStickiness(Userlife&RenewalProbability)

High(Highlife&renewalprobability)

Intermediate(Intermediatelife&renewalprobability)

Low(Lowlife&renewalprobability)

RevenueperUserPredictability(Discountrate)

High(LowDiscountRate)

LowPredictability(HighDiscountRate)

Intermediate(AverageDiscountRate)

RevenueperUserGrowth(AnnualGrowthRate)

Low(Lowgrowthrateinrevenues/user)

Low(Highgrowthrateinrevenues/user)

Intermediate(Intermediategrowthrateinrevenues/user)

Growthrateinusers(CAGRin#Users)

Low(LowCAGRin#users)

Intermediate(IntermediateCAGRin

#users)

High(HighCAGRin#users)

Costofaddingnewusers(Cost/NewUser)

High(HighCost/NewUser)

Intermediate(MiddlingCost/New

User)

Low(LowCost/NewUser)

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The“best”revenuemodel

¨ UserValueProposition5: The"optimal"revenuemodelwillvaryacrossfirmsdependingupon wheretheyareinthelifecycle,theproductorserviceofferingandwhethertheyarefocusedonusergrowth,revenuegrowthorrevenuesustainability.

¨ Anadvertising-basedmodelwillallowformuchmorerapidgrowthinafirm'searlyyears,asubscription-basedmodelwillgeneratemoresustainablegrowthandatransaction-basedmodelhasthegreatestpotentialforrevenuegrowthfromexistingusers.

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c.RealOptions

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TheValueofOptionality

¨ UserValueProposition6:Thevalueofoptionalityfromauserbasewillbegreatestatfirmswithlotsofsticky,intenseusers inbusinesseswherethe futureisunpredictable becauseofchangesinproduct/servicetechnologyandcustomertastes.

¨ Thevalueofarealoptioncomesfromexclusivity,andtotheextentthatyouhavesticky,intenseusers,youhaveabasethatyoucanusetoexperimentwithotherproductsandservices,withthevaluescalingupwiththenumberofuses.

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BottomLine

¨ ThemostdirectapplicationsofauserorsubscriberbasedmodelisinthevaluationofcompanieslikeUber,FacebookandNetflix.

¨ Thatsaid,moreandmorecompaniesareseeingbenefitsinshiftingfromtheirtraditionalbusinessmodelstouser-basedones.Apple’sbillioniPhoneusers,Amazon’sseventymillionPrimemembersandMicrosoft’shundredmillion365usersareallgivingthesecompaniestheirversionsofuser-basedmodels.

¨ Understandingusereconomicsiskeytoinvestinginthesecompanies(valuingorpricing)andinmanagingthem.