Ever wonder why companies that do not make a profit manage to stay in businesses for many years? You notice a company has a failed business model, but yet they keep charging on generating more wealth for the owners without generating profits. It sure doesn’t make sense on the surface, however; if you look deep into the details, you begin to realize the insanity of it all.
How does the failed business model manage to stay in business? The answer is investors. Investors are propping up these failed businesses because they believe they can make money from it. Usually, the idea is to generate enough revenue or capital flow to launch the company into an Initial Public Offering (IPO). An IPO is where a private corporation offers shares to the public for the first time. The purpose of a company going public is to raise money to expand the business.
Rush To The IPO
However, the goal for many investors is to invest in a potential company or at least a famous company early, for pennies on the dollar. Then quickly get the company to the IPO status so they can sell a portion of their ownership at a high share price. For these investors, they know the company is overhyped because it has a failed business model that’s never going to generate profits.
But why would investors take the risk and throw money into a failing company? The answer is simple, the Fed. The Fed’s easy money policy has allowed the cost of borrowing to be cheap or even free, figuratively speaking. When money is created out of thin air or virtually free to borrow, investors and banks are willing to take on huge risks.
Since money is easy to acquire, what’s the risk of throwing money at these failed businesses if it means the possibility of gaining a surplus of wealth. Sure it can be a crap shoot since most startup businesses fail; however; if the bet succeeds, the payoffs are enormous.
Thanks to the cheap money policy the NASDAQ has increased over 600% in ten years, going from 1,300 to 8,100 points. Furthermore, it took thirty years for the NASDAQ to reach its previous high of 4,000 points. It’s also the same for the S&P 500 and the Dow Jones 30. Talk about inflation in assets prices.
A Failed Business Model
A great example of a failed business model is UBER. Yeah I know it’s a famous ride service company, but the fact is UBER is nowhere close to being profitable. UBER has been in operation for ten years, and it has managed a $12 billion operation loss since 2014. However, their IPO is expected to launch on May 10th with a valuation of $84 billion.
Once again, how can a company that’s never made any profits from operations have a valuation of $84 billion? Uber doesn’t even have assets worth $84 billion, and this insanity of the markets that can only occur due to the irrational exuberance of cheap money. However, once the cheap money policy is over, these businesses will fail, as investors will stop throwing away money into the failed business models.