It's a common finance idiom to refer to a company's share price as management's "report card," and this is actually a useful concept. A perfectly rational student wants a report card that accurately assesses their skills, but given the choice between an accurate one and one with higher grades, almost everyone prefers the latter.¹ There are plenty of warnings about this, though usually in private businesses where there's more control—raising a round at a billion-dollar valuation is usually gratifying, but if the last round was at five billion then it's demoralizing. Public companies have a similar dynamic, though it tends to happen more continuously: it's just hard for people to stay excited about work when their own shares in the company are trading at a fraction of their previous value.

There are some investors who act on this directly; Jamie Dimon has explicitly talked about how he doesn't want to buy back stock at more than twice tangible book value, in 2013 Reed Hastings explicitly attributed some of Netflix's share price performance that year to "momentum investor-fueled euphoria”, Elon Musk has mused on Twitter about Tesla's stock price being too expensive and Buffett, too, has in the past talked about Berkshire trading at a price where he, personally, wouldn't be a buyer.

So, it does happen. But typically, CEOs keep thoughts like that to themselves. Or, if they express a view that their stock is too expensive, it takes the form of: either issuing more of it for cash or using it as currency to buy something that isn't so mispriced.² Sometimes, this is straightforward: if a company is in the investment phase, it's expected to raise capital, and investors can assume that doing so is a good sign. Investors in AI labs, for example, aren't put off by how much money these companies raise: training models is expensive, serving them requires even more hardware, and if demand is rising and they're positioned to take advantage of it, then investors' money is worth more when it's spent by OpenAI or Anthropic.

So, there goes one heuristic: a company that issues lots of equity is either doing so because it's overpriced, and sees issuing stock as accretive because it increases cash per share, or because it's underpriced, and the accretion comes from increasing future free cash flow per share instead.

On the M&A side, one thing overpriced companies often do is expand their definition of strategic. For example, when AOL merged with Time Warner in a 55/45 deal where Time Warner brought most of the EBITDA and AOL brought most of the hype. But there was a reasonable argument for synergies between them, if not for AOL's valuation: Time Warner had great content, but distribution was moving online; they also had a substantial cable operation, which was a nice complement to AOL-as-ISP. In a way, AOL's pitch was that it would help Time Warner realize synergies with itself: making sure that if people were reading Time (this deal took place so long ago that people regularly read Time) on their computers, they were perhaps watching trailers for Warner movies on those same devices as well.

AOL pulled it off! They took a business that was early but struggled to develop a competitive moat, and merged it with something more defensible. The resulting business wasn't great for shareholders, partly because it was hard to meld the companies together but also because the merger coincided with both the peak year for dot-com enthusiasm and the peak of print advertising revenue in real terms. So, not a great merger, but one that, from AOL's perspective, saved them from a worse outcome.

One of the more interesting cases of an acquisitive, overvalued company was Wirecard, which was overvalued because they were cooking the books. Wirecard had a problem common to frauds: over time, it would get harder and harder to explain the gap between their reported earnings (which they were fudging) and their cash balances (easier to audit). Their solution was to do fake acquisitions: the money they claimed to spend acquiring smaller global payments companies was really just an excuse for why that money wasn't accumulating as cash on hand, or turning into dividends and buybacks. But in Wirecard's case, the model was that they used fake acquisitions to explain why their actual cash generation was so low. (They also had some fake balances, and when €1.9bn went missing, the company finally fell apart.)

Diginex is a recent and entertaining example; it's one of many Asia-based microcaps that went public on US exchanges in the last few years despite dubious profitability and growth. For a while, Diginex was trading at 450x sales, despite anemic growth record and persistent losses. One of the drivers of that levitation act was that the borrow cost on Interactive Brokers was regularly over 900%; even if you were right that it was going to go down, you needed it to go down fast, and every time a short seller capitulated, it put more upward pressure on the stock. They decided to do the same exit-by-merger approach that others have been tempted by; when they initially made the deal, they were paying $1.5bn worth of Diginex stock. Four months later, they were issuing more stock, but valued at $1.05bn, and their target was now going to run the company. So, management was able to convert control of a company that had a high market cap but little economic value into a sliver of ownership in something more viable, over which they had minimal control.

Owning a sufficiently overpriced stock is a bit like having successfully pulled off a heist and stolen a famous piece of art. On paper, you're rich. But converting that wealth into the sort of paper you can exchange for goods and services is ruinously expensive. You even have limited use value; what good is it to have The Concert hanging in your living room if it means you can't have company over?

But that analogy illustrates part of what's going on. Sometimes, overly-promotional management is motivated by pure greed. But it's a misaligned kind of greed, seeking a high number in the short term rather than a durable stream of consumption. They may be motivated more by gratification: if you really want to have run a company that was worth billions of dollars, and you can't plausibly do that, you have a better shot at faking it, at least for a while.

We've looked at the uses and abuses of overvalued stock a few times in The Diff, including:

• A look back at the e-commerce rollup business ($), which was partly a way to take advantage of the valuation gap between single-product companies and diversified ones.

• Increasingly, public figures can monetize their fame by creating and exploiting volatility ($).

• Sometimes, valuations are set by people who want to say they invested in something, not people who think it's a good investment.

• Teledyne ($) took advantage of its own equity's mispricing in both directions.

• And a look back at a German cloud computing company that was better at making aggressive forward projections than about keeping up-to-date on its financials ($)

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1  There are exceptions, and there are plenty of domains where people opt in to harshly accurate grading: academic competitions, sports, etc. Personally, the first time I heard about the concept of "SAT prep," I was incensed at the idea that you'd prepare for something that was explicitly an aptitude test. That's like leaning on the wall when you stand on a scale! Only later did I learn that test prep doesn't have a big impact on scores, and that to the extent that it does, there's still an aptitude-driven ceiling.

2  They can also issue convertible debt, though the embedded option there makes it a way to take advantage of the volatility, rather than level, of the stock. Typically the buyer will be a fund that hedges the bond by shorting the stock, so in terms of the supply and demand of shares, it still counts as some issuance. Which makes things like this feel like a trick: yes, you can issue a convertible bond to buy back stock, but doing that implies that you think the stock could go up, just not a lot (i.e. you're selling an option to buy at a high future price in exchange for the chance to buy some now). For a company whose narrative is that they can be an extreme outlier success, that's basically backwards; if they believe their story, they should be selling their stock and buying long-dated out-of-the-money calls instead.