A Bubble over “Bubbles”

28 Apr

 

Perhaps no subject in the venture/tech start-up ecosystem over the past year has received greater attention–and been the focus of more collective hand-wringing–than the issue of bubble/not a bubble. With little argument, there are varied opinions on this and fairly good analysis on both sides. For my part, let me come right out and say it: Yes, we are in a bubble–it is primarily a bubble of prognosticators and market participants of all persuasions tripping over themselves to be the first to call what is occurring in technology markets a “bubble.” Taking a position on this subject might be great for bloggers seeking to drive traffic and for talking heads and Wall Street analysts looking to increase their respective profiles by saying inflammatory things but it hardly gets anyone closer to a reasoned understanding on what is occurring on the ground and, more importantly, on what lies ahead.

Like all good arguments, there are core issues worth having a spirited debate over; and then, there are lots of sideshow marginalia that have little bearing on what is actually going on and what actually matters. [AngelGate, anyone?]

FDR was on to something when he announced that the only thing we had to fear was….(wait for it)….fear itself. FDR knew something about the power of language. The power of language is particularly relevant here because I believe one cannot have a meaningful discussion about current market conditions and the behavior of some market participants without first clearly defining our terms. There are healthy, albeit heated, markets and then there are bubbles, and one does not necessarily beget the other.

I think I speak for many tech market participants in declaring that “the B-word” will be inextricably linked to the 1998-2001 boom/bust cycle that came to define the technology/venture landscape for many participants that were there to experience it first-hand. As such, given the negative connotations and the fairly brief historical context we are dealing with, the word “bubble” is loaded and, hence, problematic. This is not to suggest that one cannot use the word; I simply believe that tossing the word around cavalierly whenever a market becomes heated and — egads! — frothy is overkill and, as it happens, not terribly descriptive.

Fortunately, there have been a lot of smart, experienced people developing thought leadership on this issue. Diverse voices such as Mike Arrington, Howard Lindzon and Forbes’ Eric Jackson have all made impassioned arguments worth reading. I could get into an itemization of points and counter-points on where I am coming out on the question of bubble/not a bubble, but it would be a lengthy exercise and, at the end of the day, something of a transient position given the fast-moving environment we are in.

However, I am fairly confident that while there are some broad similarities between the current environment and the 1998-2001 period, few of the underpinnings behind the ’98-’01 bubble appear to be in evidence in the current environment. In short, there are far more dissimilarities than similarities and those differences are profound: much better companies, real (and often, huge!) profits, better monetization and distribution, true scalability, lower development costs, and on and on.

Additionally, the market froth that exists today concerning valuations is still contained within a relatively small segment of the broad technology landscape and among a select group of (largely) professional investors. By their very nature as “consumer-focused” enterprises, consumer internet companies capture the public’s imagination and garner the greatest amount of attention from the media. [Last I checked, no one was planning a major Hollywood film about the founders of SAP.]

Additionally, much of the current froth in valuations has been primarily directed at a handful of high-profile companies (Facebook, Zynga, LinkedIn, Groupon, et al). While it is true that we are now seeing soaring valuations for some very immature companies across the consumer web space, there is little evidence to suggest that this is driven by anything more than healthy competition among investors and by excitement over the rapid pace of innovation. Given the boomlet in new seed stage firms, “super” angels, and in legacy venture firms that have recently augmented their efforts in consumer web investing, this is to be expected.

All this aside, this does not suggest that I am somehow Pollyanna on the current state of consumer internet investing. There are certain areas that I am watching closely and I do have some concerns. As Fred Wilson has suggested, some investor behavior has become alarming. To my mind, certain investors — but still a minority of them — are getting skimpy on diligence and on the need to be methodical in an effort to move quickly to win certain hotly contested deals. Other investors are caving too quickly on terms or agreeing to extremely generous provisions for founding teams in order to win coveted deals. Again, this is just my opinion and is largely anecdotal, but I am hearing enough similar things from other investors that suggests that I am not alone in that view.

I am also wary about the rapid evolution of the secondaries market and with some of the private stock trading platforms that allow early investors/employees to sell their shares. I think these services are, by and large, great tools for investors and for start-ups but some discipline needs to be employed here so things don’t get misaligned. No doubt, regulatory agencies will get more involved as these secondary “paths” get further institutionalized and begin to bump up against current outmoded regulations concerning investor limits and the like. On balance, however, I think these issues, while concerning at times, are self-correcting.

In summation, I think the consumer web is perhaps three or four innings into an extended period of growth with the lion’s share of attention and the highest valuations being accorded companies that are innovating well and rolling out products and services that consumers are passionate about. Jeff Bussgang posited recently in a post that he felt we were in a “bubble,” but that perhaps the question we should ask was where in the bubble cycle we were–perhaps 1996, versus 2000. That is a clever way to nuance the issue although, again, I think employing the term bubble implies that once this market surge cools there will be catastrophic consequences. While there is reason for pragmatism, discipline and caution, given what I am seeing today in the marketplace, I am not finding evidence to support that.

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