Reliving the Old Days

I don’t mean to bring up bad memories, but who here was around in 2000? Remember that? Y2K was a thing of the past but so too were hundreds of companies who just couldn’t survive the sudden nosedive in the tech market. It seemed the lucky ones were those that didn’t turn a profit but still got picked up by a larger corporation. These deals were insanely cheap but at least that company survived. Amazon, which now sits at $326 per share dropped to $7 at the lowest, arguably a bad week away from complete dot-bomb status., a site that was in the Macy’s Day Parade and had an ad air during the Super Bowl, dissolved into thin air — sock puppet and all.

So, what are those of us still interested in Venture Capital doing, you might wonder, as the market climbs steadily towards numbers that we saw in 1999 right before the big crash started? Don’t we know the oldest adage of them all, “history repeats itself”? Why don’t we get out while we still can? Could it be that we just forgot? It was fourteen years ago. Or could it be that this growth is not a sign of a bubble at all?

I’m Forever Blowing Bubbles

We all know what a bubble is. It is when speculation gets so out of hand that the speculators themselves think, man, we should get out of here, this is nuts. That kind of growth is hard to spot if you are wrapped up. It can be intoxicating seeing the numbers continue to grow. Like the Wolf of Wall Street at his prime, you feel untouchable — until the floor drops out from under you.

The only sure way to tell if a market has peaked is to wait. But there are some signs you can find that can help the careful investor see that it might not be wise to continue. Let’s first look at what the alarmists who believe a bubble has reached its popping point see. From there we will take a look at the other side.

Reactionary Road

There are some companies that are overvalued based on their performance to date. Uber, Square, and Airbnb are all companies that have valuations that well outweigh what shows up on their balance sheets. That is speculation. There is no doubt about it. But that is the basis of a market economy; it is the investor’s prerogative to extrapolate future earnings from current data and act on those opportunities that he or she views as favorable. The trouble begins when that type of speculation runs unchecked. When speculation is not done based on careful calculation but based on the belief in the quality of a sector as a whole.

In 1999, there were 477 IPOs. The total valuation of these 477 companies was just over 64 billion dollars. So far in 2014 we have a little over half of that number, 256 IPOs. That is a big difference. The tech sector, and its investors worldwide, has grown since those early days in the late ‘90s. They are older now and with age, comes wisdom.

Investors have seen enough companies rise and fall within the sector to know what to expect. At first, when the sector was still in its infancy, investors and companies alike didn’t know what to expect, the ceiling hadn’t yet been built (or found, depending on how you look at it). So, with the same youthful exuberance of a teenager on his first skateboard, the sector started off hot but when it got up to speed, it ended up taking a closeup survey of the pavement. Now, with more experience under its belt, the industry has much more balance and, although it is cruising, it doesn’t show any signs of having another face-first meeting with the blacktop.

Growth is not an indicator of a bubble, unjustified growth is. And the growth of companies like Uber, Airbnb and Square (and many of the over 200 others) is as justified as your letterhead. So, pack up your parachutes and break out your boots, the tech sector is going to keep on climbing.

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