Upwork Valuation — Part 1. Values as of 1/13/19
By: Tom Moore
Tags: Investing, Platform, Upwork, Freelancing, Valuation

Values as of 1/13/19

Upwork (UPWK) is a leading freelancing marketplace connecting remote workers with clients / large corporations seeking project work. It went public in October 2018 at a $1.5 bn valuation ($15/share). UPWK currently trades at $9.79/share.

Company Overview & Housekeeping

Upwork is an online marketplace connecting buyers (clients) and sellers (freelancers) of services (think graphic design, software development, startup accounting, etc.). It’s not all that different than Uber or eBay — clients and freelancers have ratings, and ratings inform Upwork’s matching algorithm. When the job is done to the clients’ satisfaction, the freelancer is paid, and Upwork takes a cut of every transaction.

Upwork’s platform model should theoretically provide sustainable competitive advantages in the form of network effects and economies of scale. This, along with long-term industry tailwinds from the rise of freelancing, creates a compelling story of a company with the ability to generate returns on incremental invested capital above its cost of capital over the long haul.

The question, as always, is whether the currently depressed share price represents a significant discount to economic value. The current $9.79 share price is down from an all-time high of $25/share earlier this year. Upwork’s Q1, Q2, and Q3 earnings were each negatively received by the market. Additionally Upwork’s CEO, Stephane Kasriel, stepped down earlier this month, and shares fell further.

The following analysis (Part 1) will walk through a traditional DCF valuation. Part 2 and Part 3 will develop the analysis using a Steady State Value / Future Value model inspired largely by Michael Mauboussin’s approach, and an “Asset-based” valuation using customer / freelancer values based on Bruce Greenwald’s traditional reproduction value of assets framework.

This post does not constitute investment advice in any way — the author currently holds a long position in UPWK and is going through this exercise in part to revisit his original thesis.

DCF Approach

My DCF (attached) uses key cost of capital and risk-free rate assumptions posted by NYU valuation professor Aswath Damodaran on his incredible site Musings on Markets. My model also attempts to put operating growth rates over time in a larger market context of companies of similar size and industry. These comparisons and average rates of regression draw on research led by Michael Mauboussin published in Credit Suisse’s Sep 2016 Base Rate Book.

Competitive Positioning

UPWK is the world’s largest freelance marketplace by Gross Services Volume (GSV) — coming in at $1.8B in FY18. That year, UPWK captured about 14% of that GSV to the tune of $253M in revenue. UPWK’s only public competitor, Fiverr, projects GSV of about $400M at a ~26% take rate.

UPWK dominates the higher-paying, longer-term gig portion of the freelance market. Per UPWK’s S1 — about 80% of UPWK freelancers have a college degree, and 34% have a post-graduate degree. This dynamic bears out in the average size of a given gig on UPWK vs major competitors. Fiverr’s revenue per active client (seller) in 2018 was $145, compared to $800 on UPWK.

Upwork’s growth lags its smaller competitors (guiding to 19% FY19 annual revenue growth vs ~41% at Fiverr), and is only now building out its enterprise sales staff. Where Fiverr spent 52% of revenue on Sales and Marketing in Q3 FY19 ($16M), UPWK came in at 32% of revenue ($25M).

UPWK states that 80% of revenues come from Core Clients, which have spent $5,000 over their lifetime and have made a payment in the previous 12 months. UPWK has guided for 125,000 core clients in FY19 (Up from 105,500 core clients in FY18), with an average revenue per core client of $1,918. Based on Fiverr’s $145 average client revenue, Fiverr added the equivalent of 8,000 UPWK core clients in FY19. This comes out to an implied Core Client acquisition cost of $3.1k for UPWK in FY19, vs $5.42k for Fiverr. Based on comments made by UPWK and discussed later in this post I expect this sales efficiency advantage to continue into the future.

Industry Trends

A 2015 study by Harvard/Princeton economists Lawrence Katz and Alan Krueger states: “A striking implication of these estimates is that 94 percent of the net employment growth in the U.S. economy from 2005 to 2015 appears to have occurred in alternative work arrangements.”

If you feel as if everyone you know has driven for Uber or delivered for Postmates, you aren’t alone. According to a “Freelancing in America” study commissioned by UPWK — 35% of the American workforce freelanced in 2019 as shown below.