Over the course of the past 3 – 4 years, technology startups (specifically firms in the SaaS and consumer web/social media sectors) have been focusing on gaining market share in order to grow quickly. They do not focus on earnings because investors are now willing to pour money into high-growth firms with the hope that such companies will become dominant forces in their respective sectors, potentially leading to huge profitability in the future. At least, that is the hope.
Rather than focusing on earnings, these firms use alternative accounting metrics to measure their progress. For example, in order to display their high growth but also mask the fact that they are hemorrhaging money, many new tech firms report certain financial data differently than most mature companies. As a result, these newer firms focus on “billings” or “bookings” rather than “profits.”
When companies file to IPO (ie “go public”), the SEC ensures the accurate reporting of revenue according to GAAP. In 2014, the SEC questioned 88% of technology companies about how they account for revenue, up from 79% of tech firms in 2013. For reference, the SEC only questioned 46% of all IPO bound companies (tech and non-tech alike) about their revenue reporting throughout 2014.
The SEC is obviously much more focused on the tech firms financial reporting because many more of these companies are cash flow negative and the accounting issues are critical. The trend is getting worse. In 2010, 66 % of tech IPOs were profitable, whereas only 17% of 2014 tech IPOs were profitable. The 17% from 2014 was the lowest since 2000, the year of the dot-com bubble collapse, which is why many people are predicting a similar collapse in the technology sector soon. In 2015 the numbers got worse: 15.4% of all IPO’d tech firms have been profitable.
The Rubicon Project (RUBI) is one of many high-growth public tech firms. Though the SEC forces RUBI to report revenue and profitability according to GAAP, RUBI also reports a metric they call “managed revenue”, which they define as money spent on advertising using the RUBI platform. Their managed revenue increased 179.6% between 2011 and 2014, from $238.8 mm to $667.8 mm, respectively. But in reality the company’s own revenue total is much less, coming in at $125.3 mm in 2014. And they were also unprofitable last year, with a net loss of $18.7 mm. Other tech firms such as Hortonworks (public) and Uber (private) report revenue unconventionally. Uber reports “bookings”, which they say will near $10 bn in 2015, but their revenue is only about 20-25% of that amount. And HDP, like many SaaS companies, reports software “billings”, which means predicted sales of software to occur as part of subscription contracts, but which has not yet occurred and is not included in GAAP. HDP reported $100 mm in billings for 2014, but had only $46 mm in revenue.
Investors in IPO’s and other young tech firms need to be aware, and should be wary, of such unorthodox accounting methods implemented by high-growth technology IPOs and their claims of financial success, which may be based on obscure or invented metrics.