Instant Wealth to be Delivered a Rude Shock

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Nothing in life is free.

There is always a price to pay — even though you may not know it at the time.

Central bankers minted trillions of fresh dollars, yen, euros, pounds, renminbi AND reduced the price (interest rate) to access this freshly printed money to zero…and even below zero.

Thinking society would act like Pavlov’s dog, the brilliant grand plan was for this cheap and abundant money to spark another era of debt-fuelled consumption — a longed for continuation of the post Second World War economic ‘growth’ model.

Well they succeeded with half the master plan — the ‘debt fuelled’ part. The trouble is the ‘fuel’ went into the wrong motor. Instead on consumption taking off, asset prices have soared into the stratosphere.

Property values from London to New York to Sydney — and every major capital city in-between — have seven figure starting prices. The Chinese share market has only recently discovered there is such a thing as gravity. US share indices are posting record highs on ‘doctored’ company earnings reports. And the prices being paid in the art market suggest the buyers are sniffing and smoking the same stuff the artists used for creativity.

And then there’s TBM2 — ‘Tech Bubble Mark 2’. TBM2 looks like a re-run of TBM1 with one exception — now valuations are in the billions not millions of dollars.

Uber, Facebook, Twitter, Alibaba, and WhatsApp — to name a few — all command 10, 11 and even 12 figure price tags. (I was going to say valuations, but the word ‘valuation’ is an extension of value and there ain’t no value in these companies at these prices!)

Here’s a personal disclaimer: I have never used Facebook, Twitter, Uber, SnapChat, Instagram or Alibaba. However I have used WhatsApp and not paid a penny for the service.

My children do, however, make use of some of these companies’ products — but they tell me, with the exception of Uber, they do not pay for the privilege. In my very limited sample group I am struggling to see how these companies make sufficient revenues to justify the ‘mind blowing’ prices attached to them.

This is what cheap and abundant money does — like a lotto win it makes people fail to appreciate the true value of money.

And just when I thought I’d seen it all in the over-over-over-valued tech bubble along comes ‘Instacart’.

Instacart, an on-demand delivery company, is the brainchild of Apoorva Mehta.

Mr Mehta is 28. Prior to starting Instacart in 2012 he worked for Amazon’s ‘fulfilment team’. (I’m not up with the tech world so am not sure what a ‘fulfilment team’ actually fulfils.)

Anyway Mr Mehta is having a go at creating his own online corporation. Instacart is in the business of delivering groceries to your door, within two hours, for $3.99. You can pay a little more for a faster delivery time.

Apparently Instacart has an arrangement with Whole Foods and Costco — two major retailers at different ends of the food spectrum.

Great idea for the time-poor. Go online (I’ve done a dummy run) and you enter your post code and begin ordering from the list. The site makes the disclaimer that some items may be more expensive online than they are in the store.

I assume Instacart is getting a ‘clip of the ticket’ on these higher priced goods from its major suppliers. That’s the price you pay for convenience.

In addition to buying groceries online you can apply to become a delivery person for Instacart. There were also a number of admin and tech position vacancies being advertised. The company claims to have quadrupled its staff numbers in recent times due to demand.

From this brief research it appears Instacart earnings are generated from a margin split with its major suppliers and a slice of the delivery fee Although if I was a delivery person I’d want more than $3.99 per delivery to cover fuel, parking fines, wear and tear and the anxiety of rushing around like a ‘blue a**ed fly’ in a congested US capital city.

As we know from Coles and Woolies the profit margin on groceries is fairly skinny (around 3–4%). To be conservative we’ll assume there’s not oodles of fat in the US margins either.

Ok, so we have a three year old business with fixed overheads (growing staff numbers, rents, site maintenance and upgrade costs, etc.) being offset by revenues based on thin margins relying on high volume repeat business.

What’s this three year old company — that has not yet turned a profit — worth? Perhaps a few million dollars I hear you say.

Wrong.

Instacart’s latest capital raising of $275 mln. places a value of around US$2 billion on the business.

Two billion dollars! One of us is out of touch.

Here’s my simple logic. With $2 billion invested in a mix of blue chip shares and term deposits, the return of 4% would generate US$80 mln. per annum in income.

How many deliveries does Instacart have to make to generate a net income (after expenses) of $80 mln.? My guess is around 16 mln. (based on a net income of $5 per delivery).

Even if this number of deliveries is achievable, when compared to dividend and interest income, Instacart’s revenue is far from certain. If Instacart happens to be an online success, competition is bound to enter the marketplace — remember Groupon? There is nothing like competition to eat away at your margins.

Why is Instacart priced at $2 billion? Because the Fed has printed more than $4 trillion and have given it away for next to nothing.

Like a flood of water from a running tap, all that money has to slosh around in the system and find a home somewhere. What better place than in something ‘sexy’ like a tech start-up.

For those old enough to remember the late 1990s, the allure and mystery of the tech sector is the perfect place for the ‘greater fool theory’ to flourish.

The prices being applied to these companies bear no resemblance with reality. But we have seen this movie before and it had a frightful ending. The NASDAQ index plummeted back to earth with a bone jarring correction of over 80%.

Instant wealth was vaporised in an even quicker time than it was created.

When interviewed about what makes him tick, Mr Mehta said: ‘You always want more, so I’m not sure I’ll ever feel like I have really made it. This is a curse.’

I’ve no doubt Mr Mehta is going to get more — more than he bargained for.

And that feeling of never really having made it is going to be realised, but not in the way he meant it.

In due course he’ll find out the real curse was the Fed’s policy of cheap and abundant money that deceived him into thinking he’d built a genuine billion dollar business.

TBM2 is to be delivered to his door at a cost he never envisaged paying.

Regards,

Vern Gowdie,

Editor, Gowdie Family Wealth

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Vern Gowdie

Vern Gowdie

Vern Gowdie has been involved in financial planning in Australia since 1986. In 1999, Personal Investor magazine ranked Vern as one of Australia’s Top 50 financial planners. His previous firm, Gowdie Financial Planning, was recognized in 2004, 2005, 2006 & 2007, by Independent Financial Adviser magazine as one of the top 5 financial planning firms in Australia. He is a feature contributing editor to The Daily Reckoning and is Founder and Chairman of the Gowdie Family Wealth advisory service and editor of the Gowdie Letter To follow Vern's financial world view more closely you can you can subscribe to The Daily Reckoning for free here.
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2 Comments on "Instant Wealth to be Delivered a Rude Shock"

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Alan
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” I have never used Facebook, Twitter, Uber, SnapChat, Instagram or Alibaba.” (nor understand their business models from the sound of it as they ALL differ greatly from one another, why group them together?) “From this brief research…” “I’m not up with the tech world so am not sure what a ‘fulfilment team’ actually fulfils” It is clear Vern has 0% understanding about how the tech industry works yet considers himself more than qualified to comment on them. I am genuinely impressed that Vern has the skills to write an article in a digital medium, although I have a suspicion… Read more »
David
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I am with u Vern the people in the world are asleep the cann has been kicked down the road for so long they have no idea what lies in wait that day is coming.We may have to wait a bit longer but its coming.Then as a world we can start again.For my own kids sake it cant come quick enough maybe then they can buy a house 1 day at a fair price.

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