“No one’s fearful, everyone’s greedy, and eventually it will end.” This quote from venture capitalist Bill Gurley accurately sums up the situation that’s developing in the Silicon Valley. Reminiscent of the dot-com boom and bust of the late 1990s, the tech industry seems to be yet again on the brink, if not already in the midst, of an economic bubble. This may come as a surprise to some, but mainstream news outlets have had some telltale signs as cover stories over the past year. On the ground level, disaster couldn’t be farther from reality. The tech industry is very much in the middle of a boom, with new deals in acquisition and recruitment being made rampantly and base salaries for software engineers nearing $100k and rumors of even higher. So on what grounds do we demean one of the greatest growths in the economy since the recession with the term “bubble”?
For starters, there’s no money being made. These very companies spending seed capital and venture funding with no restraints are the ones in the least position to do so, with either no or negligible revenue. Take the example of WhatsApp, the global communications app purchased by Facebook this year for a whopping $19 billion. Even when considering their ~450 million users, it is estimated only 10% pay the $1 annual subscription fee, putting its actual revenue grossly behind the number that gave 55 employees an early retirement. To this day it remains debated as to why the number was so disproportionate, but it serves an excellent testimony to the overvaluation of the modern technology industry. These startups are bought on the foundation of potential-as users are becoming a form of pseudo-currency-with angel investors and venture capitalists hoping to be the first ones on the boat to the next Google or Facebook.
From a strictly numerical point of view, the trend in growth has been eerily similar to the rise of the dot-com startups of the late ’90s. The adverb is present due to the fact that by Q3/Q4 of 2000 they were closing their doors by the dozens as the dot-com bubble finally burst. As Business Insider reports, data from Thomson Reuters indicates that total tech investment is back to where it was at in 2000.
Although the number of deals is not, it is well past its 1999 counterpart and could indicate that simply more money is being pumped into fewer companies, resulting in massive overvaluations. On the other hand, we haven’t seen the alarming rates of tech companies making their initial public offerings as there were fifteen years ago.
Rather, there have been drastically fewer, such that venture capitalists have continued to supply these companies with what would normally have been provided for by the public market, with late stage rounds showing this with a $44.1 million average up 77% from last year. New Republic‘s Noam Scheiber draws an ironic distinction and parallel in that “the good news is that most of the money lost when the bubble bursts will come from private investors, who can afford it. The bad news is that, 15 years after the last tech bubble, we still haven’t proven we can look at a tech startup and judge it by the value it actually has.”
Historically, this frenzy has been geographically centered on the Silicon Valley, but this go-around nonprofits and governments are pushing for more startups. Cities such as New York and Austin are feeding the economical and cultural mindset, both of which have proven to be unsustainable. As Forbes contributor Marianne Hudson writes, many startups from all over are trekking to Silicon Valley and quoting Silicon Valley valuations in their fundraising back at home. Couple that with increasing media coverage, data availability, internet communication and discussion about early stage investment, it’s highly likely that the bubble will trickle into other regions.
This is all not to say that simply because there is a similar rise there will be an equally painful fall. If the industry is to learn from their mistakes, the historical trends need to be brought to attention and analyzed. The numbers are soaring. What is your business doing differently than those of 15 years prior? How can you take advantage of this boom without setting yourself up for disaster in what could be less than a year? Advocates of the current boom would argue that those investing now are seasoned vets of the dot-com bust, knowing what works and what doesn’t, with more savviness and realistic visions than the overestimation of the onset of the internet. Yet, the evaluations of new industries such as mobile, cloud, and software as a service, are being justified, and millions of dollars are being poured into them, without adhering to the revenue axis in the startup lifestyle.
These start-ups may just survive their “valleys of death” and obtain the profit and growth needed in order to turn into sustainable businesses. The lessons may indeed have been learned from the past and perhaps the spending and acquisitions will become justifiable. However, it requires a constant state of mind from both those running and those pouring money into these new companies.
Fortunately, the consensus of the bubble being a threat and awareness raised puts both investors and founders on their heels. With the header quote of the article coming from a well renowned VC, another example comes from the vocal a16z founder Marc Andreessen, who states “A lot of these companies are only spending money. They’re not making money. They’re just technology projects. They got some funding so now instead of eating pizza they’re eating catered lunches, thinking that means it’s a real company.” From the business side, Coupa CEO Rob Bernshteyn, in a guest post for Forbes, offers a follow-up and is an example of staying focused throughout the chaos: “There’s nothing wrong with spending some money on that; it’s part of the company’s maturing process and you should be celebrating your successes—to a point. Better office furniture, yes. Aeron chairs for everyone, no. Bringing in lunch a few days a month, yes. Having it catered by a five-star restaurant… not so much.” Regardless of whether the bubble pops or not, a gut-check is in order to make sure that come what may, the fundamentals of any particular company are sound.
Right now, while we speculate and write articles about the direction of the tech industry, its fate is being decided by the actions and interactions of investors and co-founders alike. If a company is to shed the playful moniker of startup and reveal itself to be a business, sustainability questions need to be answered, the cash burn rate dealt with, and an ROI feasible within the near future. However, by the data shown and experience painfully gained, the stakes seem to be at a more moderate level this time around. The shadow of the bubble looms over the Silicon Valley, but if the original lessons are learned and advice heeded its bursting won’t mean another technological abyss, just a much needed purging: a final separation of the startups from the businesses.