OpenAI – FOMO Party

A big hangover is yet to come.

• OpenAI has capitalised on investors’ desperation to invest by raising $6.6bn at a post-money valuation of $157bn and setting very unusual terms that are yet another indication that AI remains in the midst of its 4^th and largest bubble.
• In a short press release, OpenAI announced its fundraising and also went on to give a glimpse of its fundamentals which give more questions than answers.
• Details are as follows:
  • First, free users: of which there are now 250m weekly active users up from 100m weekly active users one year ago.
  • There is some confusion around this number as in January 2023 the company said that it has 100m monthly active users which is a different metric entirely.
  • RFM’s rule of thumb that it has used for years is that 100m users equate roughly to 30m daily active users.
  • Applying this to the January 2023 figure would roughly give around 50m weekly active users as of January 2023.
  • This implies that the user base has roughly doubled every year for the last 2 years.
  • These users are not monetised and generate no revenues and so, in financial terms, they represent -100% gross margin for the company.
  • Second, Value per user: which I struggle to make sense of.
  • At a valuation of $29bn in January 2023, investors were paying $580 per user which rose to $800 per user in early 2024 and now stands at a relatively more reasonable $628.
  • This implies that the present value of future cash flows per user is $628m which is a very tough pill to swallow when most users generate 100% negative gross margin.
  • Second, paid users: According to CNBC (reasonably reliable), there are 11m paid ChatGPT+ users and 1m paying business users.
  • At $20 per month and $30 per month respectively, this gives monthly revenues of $250m ($3bn annualised) which is within spitting distance of the $3.7bn forecast for 2024.
  • However, the expectations are that revenues will grow to $11.6bn next year which will require a subscriber base of 48m more than 4x what it is today.
  • This is supposed to be achieved with no price erosion despite an increasingly bewildering number of competitors and Mark Zuckerberg’s contention that everyone is already “slashing prices” to compete with Llama 3 priced at $0 per month.
• OpenAI expects to lose around $5bn this year (explaining why it needs more money) meaning that total costs are around $8.7bn.
• By my calculations, at $20 per month and 11m paid subscribers, ChatGPT+ should be hugely profitable by itself leading me to wonder where the rest of the money is going.
• This does not seem to matter and demand for OpenAI equity is so strong that it feels that it is in a position to demand that its participants in this round do not invest in its competitors.
• This sounds like an anticompetitive action to me which is the last thing OpenAI needs to do given that regulators are already sniffing around its activities and its business.
• It also appears that OpenAI has been able to backtrack somewhat on its promises to become a proper for-profit company.
• A couple of weeks ago (see here), it appeared that this was a condition of the transaction but this appears to have been downgraded to “we will consider it”.
• The current corporate structure contains conflicts of interest which I think remain large enough to cause the company to implode as it almost did about 1 year ago.
• Last time around the conflicts were fudged rather than fixed and so the risk of an event triggering another existential crisis at the company remains as large today as it was before.
• This kind of conflict has no business being present in a company with a $157bn valuation and the fact that the current investors are willing to simply overlook this issue shows just how desperate they are to invest.
• The one cool head here is Apple which according to reports has declined to invest in OpenAI which is also an indication that Apple Intelligence has no intention of remaining exclusive to ChatGPT.
• I suspect that a large part of the $6.6bn raised this week will find its way into Nvidia’s bank account underlining yet again that it is the only rational way to invest in generative AI directly.
• However, I continue to prefer the adjacencies of inference at the edge (Qualcomm) and nuclear power as their valuations are far more reasonable and both will still perform well even if generative AI fails to live up to expectations.
• As for OpenAI and its competitors, their valuations will only be able to defy gravity for so long and when the correction comes, those that have flown the highest will have the furthest to fall.
• Adding this to the conflicts of interest and governance issues of OpenAI leads me to think that OpenAI will fall the furthest and the hardest when the bubble eventually does burst.