Companies like Uber for example have claimed to have never made a profit, and have been in the hole this entire time they’ve been in business, burning money each year (this is just from what I’ve heard, I’m not sure if this is entirely true or not). Yet the owners and investors of the company have made a lot of money as far as I know. A few shark tank guests were early investors in Uber and they have made a good chunk of money from it but how does that happen if the company has never made a profit?
In: Economics
A company’s stock value is not based on the profit it made, but the profit it’s *going to* make. At some undetermined point in the future, the company will pay out dividends or maybe it will be purchased and you can cash out your stocks then.
Investors use a formula (time value of money) to determine if a company is going to pay out $X in ten years, what that’s worth to them today. They figure out what the company is going to pay out in ten years based on metrics, formulas and probably more wild guesses than they would like to admit.
So they look at a company that isn’t profitable but they believe is going to be profitable at some point in the future. Like Uber: they’re burning off a lot of money today, but they’re not doing it just for funsies. They’re making moves to ensure that they’ll be an uber-profitable (see what I did there?) company in the decades to come. Using their fancy math they figure out what they think the company will be worth in the future (or in some cases what they think other people will think) and calculate what one share of the company should be worth today. Then they look at the current stock price: if it’s worth more than its current value, they’ll buy, if it’s worth less, they sell.
The sum total of all the investors going through this exercise all the time is the market, and this activity is what drives the price up or down.
Latest Answers