Selling the dream is the most significant driver of market cap

We live in a capitalist world. Consumers, corporations, and the state (i.e., government via laws and regulation) are the most important groups in this world. Consumers have value because they generate demand for various goods and services. Corporations have value because they fulfill these demands. The state has value because it (tries to) keep things fair between these two groups and acts as a neutral judge and redressal mechanism when there are disputes. Because this is a capitalist world, it's all about value creation. Money is the points tally of the value created. We measure the value of consumers by a metric such as consumer spending. We measure the value of corporations by their profits or market capitalization. Market capitalization is a distillation of what the future of that corporation looks like—an expected value of what could happen to that company under various scenarios. We see that distillation as a stock price, and we may agree or disagree with it, based on which we make buy and sell decisions.

One of the most popular methods for determining stock price is to perform something known as a discounted cash flow analysis. It's basically a fancy way of estimating the profits the company will make next year, the year after that...and so on until the end of time. But with one nuance—you "discount" the profit of the next year a little bit because...who knows what will happen next year!? The profit of the year after that? You discount it even more because two years of uncertainty is more than one. And so on. You add up all these "discounted" profits to get an estimate of the market cap. [Finance nerds, I'm being very reductive and ELI5, I know.]

One of the QUIRKS of this method is that you can do this profit forecasting—quite reliably—for maybe the next year or two. You can do it a little less reliably for years three to five. What about year 50? How do I know what HDFC Bank, Asian Paints, or Google will make in the year 2076? I don't. No one does. It could be 0, i.e., the company doesn't exist, or it could be 50 times what it is today. So what do we do? Give up? Nope. We use a modelling trick called "terminal value," whereby you model for a few years and then just..."assume a number" for the rest of time. This feels like a shaky modelling approach—and it is—but it's the best solution we have today.

OK, so terminal value is a quirk of discounted cash flow analysis. Does terminal value matter? Hell yes, because it accounts for anywhere between 50–80% of the value of most well-known companies. For startup companies, terminal value is actually >100% of market cap because their profits are -ve. Woah, hang on. So we are saying that more than half of the value of the world's most important companies is just...a completely made-up number?! Yes, it is. And that is why it is so important for a company to "sell the dream."