Weekly Top 5 Papers – September 11th 2017

1. A Brief Introduction to the Basics of Game Theory by Matthew O. Jackson (Stanford University – Department of Economics; Santa Fe Institute; Canadian Institute for Advanced Research (CIFAR))

2. Unleashed by Cass Sunstein (Harvard Law School; Harvard University – Harvard Kennedy School (HKS))

This paper grew out of a big puzzle: Sometimes social change happens very rapidly, and few people anticipated it. Think about the Arab spring, the rise of same-sex marriage, the fast fall of communism, and any number of recent events. How and why does that happen? There are two possibilities. The first is that a shift in social norms unleashes people’s underlying preferences. That can be inspiring, and it can be terrifying. The second is that a shift in social norms creates new preferences. That can be terrific (civil rights) and it can be horrific (Nazism). Of the two, I would give pride of place to unleashing, but both matter.
I have been focused on these issues for over 20 years, but I had not managed to see the crucial distinction between these two phenomena. This is one of those papers that seems to have a tiger by the tail – which means that it is inadequate and incomplete, but perhaps a start. – Cass Sunstein

3. The Role of Theory in an Age of Design and Big Data by Matthew O. Jackson (Stanford University – Department of Economics; Santa Fe Institute; Canadian Institute for Advanced Research (CIFAR))

4. Squaring Venture Capital Valuations with Reality by Will Gornall (University of British Columbia (UBC) – Sauder School of Business) and Ilya A. Strebulaev (Stanford University – Graduate School of Business; National Bureau of Economic Research)

Uber, AirBnB, SpaceX, and other private venture capital-backed (VC-backed) companies have delivered spectacular growth to their employees, venture capitalists, and entrepreneurs. Despite this, the true value of shares in these private companies has remained a black box. Our paper develops a financial model to estimate the fair value of venture capital-backed companies and of each type of security these companies issue. We estimate true values for more than 116 U.S. unicorns (VC-backed companies with a reported valuation above $1 billion) by applying our model to their most recent financing rounds using data from legal filings. We find that the average unicorn reports a valuation 49% above its fair value, with common shares overvalued by 59%. Almost one half (53 out of 116) of unicorns see their value fall below the $1 billion threshold when their valuation is recalculated and 11 unicorns are overvalued by more than 100%. Overvaluation arises because the reported valuations assume all of a company’s shares have the same price as the most recently issued shares. In practice, these most recently issued shares almost always have better cash flow rights than the previously issued shares. Equating their prices therefore significantly inflates valuations. Specifically, we find 53% of unicorns have given their most recent investors either a return guarantees in IPO (14%), the ability to block IPOs that do not return most of their investment (20%), seniority over all other investors (31%), or other important terms. Better knowledge of these terms and their impact on valuation will help entrepreneurs, employees, and venture make better decisions. – Will Gornall

5. Partisan Gerrymandering and the Efficiency Gap by Nicholas Stephanopoulos (University of Chicago Law School) and Eric McGhee (Public Policy Institute of California)