
Why Positive Cashflow Matters - simonebrunozzi
https://avc.com/2019/09/why-positive-cashflow-matters/
======
H8crilA
One sign of a bubble: traditional valuation principles are abandoned because
"this time it's different". See Nifty Fifty, 2000 dotcom, 1920's crash, 2015
Chinese A shares, ... . It usually requires a new generation of people to
enter the market because most people learn only on their own mistakes, not on
other people mistakes.

This article talks about what negative cash flow means for the company. But
what does it mean for the investor? A company that cannot go cash flow
positive is worth zero - the value of the company is max(all future cash flows
discounted by the interest rate curve, 0). The max(, 0) comes from the concept
of the limited liability company.

~~~
gizmo686
Doesn't said company still have assets? At some point, the company can just
dissolve and liquidate its assets. Assuming the assets are worth more then the
companies debt, this leaves something to distribute to shareholders.

~~~
Someone
If the company hasn’t been cash flow positive over its lifetime, it is
unlikely that the assets will be worth more than the debts.

Investments in machinery almost invariably depreciate significantly the moment
they are bought, and salaries paid to personnel, electricity to power the
lights in your office building, money spent on legal, etc, all lead to zero
assets.

It can happen if most of the assets are products the company made, and the
company can produce them below market value, but then, why would it have have
products in store, and not sell them?

There are exceptions, but they’re easily recognized. On the one hand there’s
seasonal demand: companies growing Christmas trees, or producing umbrellas,
hockey skates, etc.

On the other hand, there’s companies with long production times such as
whiskey distillers or factories building nuclear plants.

~~~
pmart123
Well, this is why it makes a lot more sense for startups to raise equity
versus debt typically. There could be some exceptions such as using the debt
to buy required hard assets, but typically, it makes very little sense.

------
tarr11
Also from avc.com: "the 40% rule" [0]

"I have never seen growth and profitability so nicely tied together in a
simple rule like this. I’ve always felt intuitively that it’s OK to lose money
if you are growing fast, and you must make money and increasing amounts of it
as your growth slows. Now there’s a formula for that instinct. And I like that
very much."

[0]
[https://avc.com/2015/02/the-40-rule/](https://avc.com/2015/02/the-40-rule/)

~~~
aidenn0
That's an interesting rule, but doesn't account for companies running at
negative gross profit. SaaS companies can have non-negligible COGS since they
have (virtual or otherwise) server costs. If (for example) your AWS bill is
higher than your revenue, no amount of growth is likely to make that healthy.

~~~
MuffinFlavored
> SaaS companies can have non-negligible COGS since they have (virtual or
> otherwise) server costs.

Is payroll not in that COGS equation?

~~~
mikeyouse
COGS typically includes payroll for employees whose labor is directly tied to
production but doesn't include 'overhead' employees and other categories like
rent / legal / sales / marketing.

The best way to think about it: "If we had 0 sales, would this expense still
exist?" If it wouldn't exist, it's COGS.

------
reilly3000
The traditional defense of negative cash flow is that excessive cash means
that resources are idle that could be working towards growth. This makes sense
in winner-take-all markets, where getting marketshare fastest means
establishing a semi-monopoly and ensuring years of profit.

I think there is some validity to that thinking, but there is an implicit
assumption that one could choose to step on the brakes on growth at any time
and resume positive cash flow. For many firms, that is simply not the case.
The firms in that position are more desperate for growth, and in my opinion
the most dangerous to all. When backed into a financial corner they make
comprises that harm their customers or the ecosystem as a whole.

Therefore, I think it’s crucial to distinguish strategic cash burn vs
unsustainable business model. Metrics like negative return on ad spend (ROAS)
are decent indicators.

~~~
ethbro
In tech, it feels like negative cash flow is valued partly for it's ambiguity.

With positive cash flow, your valuation becomes easier.

With negative cash flow, you're either (a) strategically burning for growth or
(b) unsustainable.

But you can pitch as to why it's one instead of the other. Which gives a lot
of wiggle room for "early stage unicorn magic" tales.

~~~
hef19898
I always looked at negative cash flow as _default dead_ , regardless of
profitability. Long term survival is at risk when you run out of cash to pay
invoices, profits or not. All that needs to happen is financing, either by
banks or investors, to stop.

------
qubex
Coming from the manufacturing sector, the idea that anybody could fail to have
an instinctive terror of negative cashflow... horrifies me.

~~~
imtringued
A lot of companies would be fine with 5-10 million in funding and organic
growth. However investors don't want to manage thousands of small profitable
private companies. They want fast growth and then exit quickly in a bang. This
means a lot of companies get 3-5 times more funding than they need, then
generate a nice profit but not enough to pay back the excess funding and
finally shut down.

~~~
MichaelApproved
Why would they shut down if they generate a nice profit?

~~~
ses1984
Right, if they can't pay back funding, they haven't made any profit yet.

------
pontifier
I once read about a simple AI strategy for multiple games that has stuck with
me. The strategy at any point was to make moves which increase the number of
moves available to the AI.

When making decisions now, I often step back and think about what types of
decisions will give me more opportunities to make more choices. This often
involves increasing the funds available to me.

Funds without encumbrance are better than a debt of any kind though... and
venture capital is just a different kind of debt.

~~~
eru
In some situations, curtailing your options can be good. See
[https://en.wikipedia.org/wiki/Precommitment](https://en.wikipedia.org/wiki/Precommitment)

~~~
pontifier
Interesting. I can see how that could be effective due to our natural tendancy
to over value immediate utility.

It makes me wonder what sort of evolutionary advantage that sort of willpower
breakdown provides... If any.

------
gnicholas
> _I could go on, but I suspect you get the point. Positive cash flow puts you
> in control versus the capital markets._

I guess that's why VCs generally don't encourage this sort of behavior.

~~~
AmericanChopper
It’s also why it’s not terribly uncommon for stock to dip a bit after getting
the books in the black.

------
lemcoe9
Breaking News: Companies that make real profits have more flexibility.

~~~
rafaelcosta
Except Positive Cashflow != Profitability. ;)

~~~
ismail
Yep.

I had a long debate with an accountant, regarding what I should primarily
manage. Being bootstrapped I mostly manage cash-flow and made the mistake of
saying “profit is made up”. That got him real worked up.

My point was we derive profit. The actual transactions are in the cash-flow
statement which does not lie.

~~~
barrkel
You can hang on to a lot of cash while making lots of promises, and bankrupt a
company without spending a penny.

I know you know, but it's a real problem with a lot of small operations
getting their accounts done; they think they're in the black due to a bank
balance, but when the accountant sees the books, things aren't so rosy.

------
streetcat1
His advice does not apply to you (as a founder).

He is diversified, so the outcome of one company does not really matter.

You are not diversified, so only you know what best.

------
lutorm
"Positive cash flow puts you on (sic) control ..."

Applies to individuals just as much as companies.

~~~
simonebrunozzi
I think people are very different than companies in this respect.

An individual would want to have savings (in the form of pension - e.g. 401k -
and invested savings), while a company's mandate is NOT to store significant
amounts of money to derive capital interest from it.

~~~
lutorm
True, but it's similar in the sense that both can leverage credit but then
become dependent on their creditors, and that having a significant chunk of
cash in your assets gives you freedom to do what you think should be done
(invest in new facilities, etc.)

A quick google reveals that Apple supposedly has over 200 billion in cash
reserves...

~~~
eru
Apple's case is partially a tax arbitrage.

------
navigatesol
Silicon Valley: We don't want these silly MBAs coming out here and telling us
how to run our businesses with their dated teachings.

Also Silicon Valley: Hey guys, did you know having positive cash flow is a
good thing?

------
gweinberg
Well, you'll need positive cash flow sooner or later if you want to stay in
business. But the advantages the op attributes to positive cash flow are
really advantages of having money in the bank. The only advantage to having a
slightly positive cash flow is that it makes you feel good. If your cash flow
is slightly positive but your key people are getting stock options or whatever
as a nontrivial part of their compensation, you are actually losing money.

~~~
hef19898
Didn't that happen to Uber when all the RSU from before the IPO vested?

Or with Amazon around 2017 after the stock jumped by a factor of more than
five and they gave put too much RSUs in the years before?

------
botswana99
Man, this kind of B.S. wisdom from VC gets me pissed. Do you think in all the
thousands of boards meetings he has sat on that he ever recommended getting
cashflow positive? The whole VC model is burn baby burn until you can get big
a flip of the asset.

This kind of articles come out during a down market when the VC go from 'we
will make billions' to 'cut your burn rate so I can see sell the startup you
worked on for the past few years for pennies on the dollar.'

Everything VCs write is warped by their capital distortion field. Beware

~~~
paulsutter
False. VCs really want to build a fast growth enduring company. That’s very
hard to achieve, but it is what they want.

> The whole VC model is burn baby burn until you can get big a flip of the
> asset.

~~~
013a
A typical VC fund's portfolio has a lifespan of 8-12 years. This is the amount
of time the venture principals have told their investors that, after which,
they'll start realizing the value of the portfolio. Funds typically have
multiple portfolios active concurrently, and additional investors may come in
throughout the initial stages of a fund (couple years).

There isn't any way around this: at the end of the day, VCs want a return in
about a decade. That's their window. They absolutely will sacrifice the long-
term success of a company in order to attain a positive return within that
decade, because that's when their investors want to see a return. What most
people don't realize is that VCs are, usually, just middlemen. Maybe a firm is
started by someone hyper-rich, but even in cases like this, they're taking in
external money from dozens of sources to build these checks they write to
founders.

Of course, they're not evil. In everyone's ideal world, they can see a return
in their window and the business can go on to be sustainable and amazing. But
the world isn't sunshine and rainbows; if they have to choose between "maybe
successful in 20 years" or "sell it and break even", they're going to force a
sale (if they can). I've seen it happen first-hand about three times (though,
in these cases I witnessed and many I'm sure: the businesses had become
"zombie startups" and likely wouldn't have seen substantial growth even with
more funding. an early exit was the best outcome for everyone involved. But,
in one of them at least, the CEO was pretty angry at them.)

~~~
babesh
Different motivations AND different evaluations of the company and market
between the VCs and the founders. Also different risks and rewards for the VC
and the founders.

Sometimes the VC thinks that the market the startup is in is a bubble and the
VC will push for growth over long term health. Sometimes the VC is right and
sometimes they are wrong.

I've seen this play out where the VC pushed for growth probably to get
acquired. The VC may have been mostly right since the market was a bubble that
popped. One competitor was able to pivot though and ended up with 4X. Most
competitors failed. Perhaps the VC wanted the money or perhaps the VC didn't
believe in the founders.

Sometimes the startup has no market and then the VC may push for actions that
lead to acquisition. Sometimes the founders demand additional incentives in
the acquisition.

I've seen this play out since the VCs probably at best break even and want to
wash their hands and the founders threaten to stop the deal since they lost
out on salary and stock founding the company.

------
Causality1
I really hate this modern way of doing business where being successful means
your company implodes after losing five billion dollars a year for ten years
rather than imploding after losing a hundred million dollars a year for five
years.

Aside from being, you know, crazy, aren't there laws about charging customers
below cost in order to fuel expansion and grab market share?

------
Mrnobody2b
"You can also prove that you have a business model that can generate positive
cash flows, which it must at some point as a stand alone entity."

------
thiago_fm
He's using the term cashflow in the wrong way. You can have positive cashflow
as long as investors are investing in your company, but that doesn't mean your
business is going anywhere or that you make a profit.

~~~
sokoloff
What you say is true, though unlevered cash flow from operations is what is
typically meant rather than cash flow from operations plus cash flow from
financing.

------
EBeache
It continues to amaze me that these big companies are allowed to operate at a
loss for years.

~~~
pwinnski
Under limited circumstances, depending heavily on what is causing the loss,
sometimes this can be effective for very few companies. Of course, many people
unrealistically believe that their circumstances apply, that the cause of the
loss is irrelevant, and that it will be effective for them. Most are wrong.

Losing money per transaction is dangerous. Making money per transaction but
plowing the profits into expansion is less dangerous. The latter is what
Amazon did. The former is what too many companies are doing, not seeing the
difference.

~~~
privateprofile
>> Losing money per transaction is dangerous.

Is that not just a form of dumping, and should therefore be illegal/regulated?

[https://en.wikipedia.org/wiki/Dumping_(pricing_policy)](https://en.wikipedia.org/wiki/Dumping_\(pricing_policy\))

~~~
pwinnski
There is theoretically a scenario in which a company might _temporarily_ lose
money on each transaction due to scale, but over the long term manage to lower
costs so that each transaction is profitable. Even that, I'd say it's
dangerous to _count_ on that, but it's not completely impossible.

I think that's different from dumping, which I consider to be a more
deliberate attempt to outlast a competitor.

