What a weird analysis.

A company that has revenues and is extremely well-capitalized gets debt finance. That is not news. That is totally commonplace. "Shouldn't all their capital come from investors?" No. Companies at all stages typically use a mixture of debt and equity finance.

His EV calculation is completely flawed also. Debt finance is typically senior to equity in recovery at bankruptcy, so when JPMC do this analysis (and believe me they did this analysis) they are not assuming 0% recovery. They are thinking it is most likely in a bankruptcy that they get some x>0% recovery.

Finally, banks don't think about their relationship with a multi-billion-dollar company in terms of the ROI on a single revolving credit. (even though this will in all likelihood be very profitable for JPMC). They think about how giving this revolving credit makes it more likely they get advisory on any future bond issuance and I-banking work when OpenAI want to do takeovers, and a foot in the door at IPO time etc.

1) If OpenAI goes bankrupt, JPMC will get more than 0 on their loan. For some reason I have yet to comprehend, when I was sitting on a credit desk pricing CDS, they always used 40% as the recovery rate. I ran into a credit guy who taught finance at two very famous universities, and he also immediately said 40%, with no explanation.

2) It's a revolver, it's not all being used

3) If things go great and OpenAI ends up buying smaller guys or getting bought out (probably MSFT?) then JPMC will be right in there with those young bankers who don't sleep. They will pull in many many millions in fees with very little expense.

4) If things don't go great, OpenAI will be looking for more financing. Guess who will help them?

5) It's really only in case there's an Enron things are terrible for JPMC. Like if it turns out the whole thing was a bunch of guys in India answering every ChatGPT query, something like that. If there's actually an AI business, and despite JPMC's history of due diligence misses (Javice case) that's probably the case, then there's deals to be done.

The math is wrong:

> Cost: $1,000 Case 1 (90%): OpenAI goes bankrupt. Return: $0 Case 2 (9%): OpenAI becomes a big successful company and goes 10x. Return: $1,000 + 5% interest = $1,050 Case 3 (1%): OpenAI becomes the big new thing and goes 100x. Return: $1,000 + 5% interest = $1,050

The actual math is that if OpenAI succeeds, then there's a nod and a wink that JPM will land the lead role in the IPO or any mergers/acquisitions, which translates into huge fees.

I’m pretty sure the banks view the intellectual property value as the security for their loan not the potential profits of the company.

I’ve worked for enough startups that even if your company folds and goes bankrupt with no business plan the ip generally can easily cover the outstanding loans.

At this point I would rather consider this kind of large loans to be "political" than "technical", that is say, they may or may not make sense in terms of $$$, but may make a lot of sense in other areas.

> This Reuters article claims OpenAI is going to generate $3.6 billion in revenue this year, but the costs will lead to a loss of more than $5 billion. It expects a major revenue jump next year to $11.6 billion

The article linked[0] is from last year.

A recent article[1] from this year says "OpenAI looks to meet its full-year revenue target of $13 billion and a cash-burn target of $8.5 billion, the report added."

[0]https://www.reuters.com/technology/artificial-intelligence/o...

[1] https://www.reuters.com/technology/openais-first-half-revenu...

The doomerism on OpenAI finances is unfounded IMO. They will survive and be a large company at this point. The big question marks are on just how big, when, and the cost to get there. If they lost all financing tomorrow, they'd deploy a cheaper model and slow down research. I don't have a hard time imagining that they could pull off a 75% reduction in costs in such a scenario.

No one is OpenAI’s financing while anthropic et al. keep raising. The big risk is that future innovation fails to live up to the hype and they can't afford full priced GPUs or the proposed datacenters.

> What happens if we instead put our lender hat on? [...] Case 1 (90%): OpenAI goes bankrupt. Return: $0

Even for a very simple model, this seems unrealistic. Isn't the whole point of a loan that your liable to pay it back if you're in any way able to? (very roughly)

So the bank would have claim to some of OpenAI's existing assets even if they went bankrupt. The probability that they not only go bankrupt but also have no assets left at all would be much lower.

I'd suspect the revolver has conditions that limit the circumstances under which it can be drawn. A public company is required to file the details of the facility but in this case... suspect OpenAI has gone for the headline but the details matter.

Or the banks own the most valuable, exclusive, world-changing IP in decades. Nobody else really has a shot at that IP besides a few other extremely-capitalized AI companies.

I'd loan them the money for that opportunity. It's possible that the IP will somehow turn out to be worthless; I don't know what will happen, but I am confident ruling out worthless. Could the lender could refuse Microsoft's payment - from a minority shareholder? OpenAI could accept Microsoft's money and pay the bank; with that offer, OpenAI would have leverage to play Microsoft and the lender against each other.

OpenAI could go bankrupt for many reasons having nothing to do with the value of their IP. For example, they could overinvest in developing it - a positive outcome for the lender.

> Case 1 (90%): OpenAI goes bankrupt. Return: $0

The loan value in case OpenAI goes bankrupt depends on the details of the deal.

> Luckily for us, banks exist!

Exactly. If they completely fail and threaten to take the economy with them then they can just say "Luckily for us, taxpayers exist!"

Big banks will give sweetheart loans to startups and officers of startup for the opportunity to take a company public. They’ll make billions on the IPO.

I'm no expert in corporate finance, but whether or not OpenAI goes bankrupt feels like the wrong question to me (in thinking about this loan). Wouldn't a bank be more concerned with (1) the likelihood that OpenAI can raise another round of financing from which to repay the bank, and (2) the likelihood that OpenAI will have assets worth >10B when/if they do eventually declare bankruptcy?

The bank's risk seems quite a bit lower than the VC's risk.

Secured debt doesn't go to zero in the 90% failure mode...

Interesting that they seem to misunderstand the difference between Equity Risk and Debt Risk, they also misapplied bond spreads.

Anyway, J.P. Morgan's OpenAI loan isn't strange, it's calculated exposure to Microsoft.

- a company with 800m weekly actives is not going bankrupt

- existing models are profitable if cutoff future training and focused on inference

- debt is senior to equity

- if my life depended on one company not going bankrupt over the next decade I’d pick OAI over Citibank

- banks use revolving credit as a break even or loss leader for higher fee business

- high fixed cost businesses use debt and equity to scale

- lead investors would very rarely pay down the debt of an investment, that’s not the backstop

- unlikely for revolving credit, but a convertible structure could mitigate any perceived asymmetric downside

> Ctrl-F "convertible"

> 0 of 0 matches

Some analysis.

Banks are pretty chill about these things. I've been controller on something with a billion+ revolving facility myself.

You can basically throw the entire analysis out on a single point:

>Case 1 (90%): OpenAI goes bankrupt. Return: $0

It won't be $0. Creditors have liquidation priority and banks make very sure they're confident in the quality of the collateral before handing out billion dollar facilities.

> However, there's no speculation about what their earnings will be because they're currently selling their services below cost and there isn't really any story as to how they'll turn this profitable.

Do we know they're selling their services below cost? I'm pretty confident they're making money on inference and burning through large piles of cash on capex and research.

This author obviously has no experience with investment banks.

OpenAI is massive, fairly risky, associated with Microsoft, etc. all true. What matters to JPM is potential future business. There’s potentially an enormous IPO in the future. The credit line is just good business. They are fostering the relationship.

This just reminds me of how flimsy cases are bolstered as soon as you put numbers and formulae in them.

I've determined that it's a bad idea for me to write an article like this because every time I've seen one of these they're absolutely riddled with errors and incomplete information. I have no doubt I'd do worse!

I used to work in IB and I'm not that surprised: * Revolving credit facilities tend to have the highest priority of corporate debt when it comes to going after assets in the event of default * RCFs are often about relationship management rather than making money as others have pointed out * Credit agreements (that set out the terms of RCFs) often include a lot of triggers/rules about how much can be drawn and at what rate to protect lenders. e.g. If revenues are below Y you can only borrow Z

This looks a bit like JP Morgan trying to make an AI ZIRP without the Fed lowering rates.

The loan is likely secured by OpenAI's assets, including hardware, facilities, and IP.

This is not a serious person.

Taken from the About page:

Who are you? Hi, I'm the author. I've been dabbling in investing since 2015 and I decided to get more serious about it in 2023.

Is this financial advice? No. In fact, everything you read here is be half-baked by design. If it were fully-baked, then I wouldn't have felt the need to write about it in order to distill my thoughts.

The scenario and assumptions used in this are not just wrong, but they are simple and wrong.

It's not just strange, but completely regarded, _assuming_ no more information, but since it's JPM, of course they know more, which probably make it a lot less regarded.

I would not be happy with this trade if I had any $JPM.

It was a waste of time to read. TLDR is if OpenAI were a random startup it’d be strange but because it has credible shareholders that stand to lose in a bankruptcy (weirdly constructed argument), it’s probably safe enough.

Duh. Basically the author wrote a word salad to say the bank calculated the probability of them losing money would be lower than what the author pulled out of their ass at the beginning of the article, refuting their own hypothetical point.

Mixing the AI bubble with the financial system. What could possibly go wrong.

All that text to somehow not realize that large companies routinely take on banking relationships, including debt, specifically to start cultivating the various relationships/trust they'll want access to in the future. Apple and Microsoft both did this at massive scale even though they didn't have to, in order to prime the debt markets in regards to relationships/trust.

The loan amount is small & revolving to be too risky for a bank the size of JPM, but undue optimism about OpenAI also isn't justified.

Google, Amazon, Apple, MSFT, Meta & Nvidia didn't face "China risk", but AI firms do. As Tik Tok saga has proven, the days of running large losses for years, to recover it all back in IPO, and monopolize thereafter, may be over.

China might win the AI race and force the hand of USG for yet another national security imperative, to expropriate foreign assets.

The lead bank in OpenAI’s IPO will take something like 4-5% of the biggest IPO in history.

In the 1% scenario, JPM could be looking at tens of billions on the upside, if this loan secures them the lead.

"We're the primary lender for the AI boom" has some $$$ value as well.

My very first thought was that somebody needs to take the lead for the IPO circus...

(Also, a revolving credit facility is not a loan, which this discussion misses)

It's silly to assume that they have a 90% chance of failure just because startups have a 90% failure rate or whatever.

TLDR - MS won't let OpenAI go bankrupt/get seized by JPM so they're loaning with the concept that MS is backing it.

The first example has a miscalculation; if you invest 1k and the EV is 900, then your choice has negative ROI, not positive.

>OpenAI is not a profitable company.

People have to stop saying this with NO evidence to back it up. And by evidence I do not mean random investors opinions, anonymous "insider" infomation, etc. Give numbers. Saying the same thing 1000x doesn't make it true.