Internet Bubble Again? Yes and No.

There is a massive bubble brewing and it is going to pop and pop BIG. This isn’t like the dot com bubble in fact much different. It’s camouflaged around the new emerging mega-franchises: Facebook, Twitter, Zynga, Groupon, among others. It’s validated by the big moves of the big industry incumbents Microsoft, EMC, Cisco, amongst others.

Some say that in these kinds of markets that growth means a “rising tide lifts all boats”. I’m not buying it. In this hyper fast market it’s more like “tidal wave of new and existing mega-franchises will swamp all boats.” Boats being startups and growing venture or self financed ventures.

More evidence is illustrated by the big YCombinator trend opening up entrepreneurship to the masses

YCombinator is the community college of startups. YCombinator is the hottest incubator in Silicon Valley. Funding for entrepreneurship was once very difficult and elite process. With YCombinator anyone can walk in the “front door” and get a startup funded startup. YCombinator is like the “community college” of entrepreneurship and that only puts more entrepreneurship on the street innovating and solving problems. YCombinator will certainly cause a short bubble in the beginning but overall a good long run trend.

Other Experts Weight In – Bubble Yes and No

Charles Beeler and John Furrier in #theCube at #strataConf This is illustrated by two blog posts one by SiliconANGLE contributor Brad O’Neill and another by angel investor Roger Ehrenberg. Brad points out what everyone is talking about and Roger highlights some rational around the massive inflation of the new mega-franchise internet brands.

Roger Ehrenberg over at the information arbitrage blog wrote an insightful post yesterday that coincides with a SiliconANGLE guest post from Brad O’Neill yesterday. Of course if you follow my views I agree there is a bubble going on at the startup level not the consumer level.

Roger writes

There is a strong desire to characterize the market in a homogenous way, e.g., “We’re in a bubble” (Fred Wilson) or “Valuations are reasonable” (Chris Dixon). Bottom line, this doesn’t begin to explain the variations observed in nature. There is a world of difference between Quora and Facebook, YCombinator start-ups and Groupon, every “social shopping” start-up and Twitter. One needs to look beyond the headlines and ask “What is REALLY going on here?”

Great franchises cannot always be valued purely on the basis of revenue or current cash flow. This isn’t sophistry, it’s simply reality. When Google paid $1.65 billion for YouTube, many thought this was merely a symbol of having way too much cash to spend on something irrational which it coveted. Fast forward, Google has created a unique property in one of the fastest growing segments of the online market, and they have the resources to take the long view.

Facebook has effectively created a parallel Internet, fostering a level of engagement and stickiness Facebook also hosts the websites of millions of businesses globally. Are the levels at which Facebook is trading irrational? I have no idea what its fundamental value is, only what others are willing to pay. But there is no question that it represents a massive and rapidly growing franchise, a business that has immense competitive barriers and powerful network effects. It may well be worth what people are paying for it – and more. Its mid-11 digit valuation is certainly not indicative of a bubble.

Groupon? Please. The company is generating cash like a casino, except in a much more predictable manner. Was turning down $6 billion crazy? Not if you consider the valuation that it may well be able to claim via IPO. Given that its principals were able to take hundreds of millions off the table in the most recent financing, there is no reason for them to sell the company. They are in it to win it, and have the momentum to support its growth through an IPO and beyond.

Twitter is an enigma. A household name with an large and engaged user base. A powerful platform that has supported the growth of countless businesses on top of its pipes. A force for freedom, commerce and distribution. The revenue story is only just beginning at Twitter while rumors swirl about its eventual acquisition by either Facebook or Google for a reported $8-$10 billion.

I agree with Roger in that the valuation are insane but reasonable for only a few of the companies – these are the new “mega franchises or mega brands”. History has show that all mega brands or mega franchises have been worth it – Microsoft, Apple, Google, among others.

My favorite quote from the post worth noting is… “There is a world of difference between Quora and Facebook, YCombinator start-ups and Groupon, every “social shopping” start-up and Twitter. One needs to look beyond the headlines and ask “What is REALLY going on here?” I still remember people saying Microsoft was overvalued in 1989 or Google when they went public.

There is a bubble underneath those new mega brands or mega franchises and this is where the collateral damage will be.  The mega-brands are worth the value in the long run, but the failure will be the ones that are “hopefuls” – this is what Brad O’Neill was saying. This is where the big damage will occur.

Brad writes

In my repeated private conversations with professional investors, reporters, big company execs, and entrepreneurs, everyone acknowledges that things are out of whack.

Amongst the warning signs are the following:

Valuations for early stage companies are way too high for too little value
Acquiring companies are throwing out rational valuation models in favor of highly suspect ‘strategic’ models

Investors of all stripes are over-competing for deals with less and less diligence
“Me-too” ventures are seeking funding in record numbers

Founders/Investors are making historically anomalous decisions regarding valuations and passing on 10x exit opportunities.

Rationales as to why “it’s different this time” start to circulate. This time: “social/mobile/local (or whatever) is a utility for the new web”.

The carnage will be the fools who fund what they think is a megabrand.  That’s the appeal that is frothy.   In today’s market there is a difference between this “bubble” and “dot com bubble” — mainly entrepreneurs are making money in this bubble (mostly in the mid range sized ventures and lifestyle ventures).

How can you find the next mega franchise or help prevent the bubble from bursting?

It’s all in the DATA!!!

Bubble 2011 – It’s a Venture Capital Chain Letter Scam

Update 2/17/11:  Great post from PEHub.com – Mark Cuban weights-in on the bubble. Connie Loizos @cookie wrote a great story on this.

Mark Cuban knows a thing or two about bubbles, having profited handsomely from an earlier Internet boom. But ask him if we’re seeing Bubble 2.0 and he’ll give you a different theory.

“It’s almost the 2011 version of a private equity chain letter,” says Cuban, who sold Broadcast.com to Yahoo in 1999 for $5.7 billion and went on to buy the the NBA’s Dallas Mavericks.

“Remember the old chain letter, where you put up some money, then you got other people to put up some money, and you gave it to the people who were in the deal before you? That’s what’s happening today,” says Cuban. “The early [VCs] are getting the new [VCs] to invest enough money at high enough valuations that they get most, if not all of their money back. Then the next round [sees] someone else invest more money at a higher valuation, returning cash to the last two rounds of investors. By the time you get to the last [VC] standing, those last few rounds hope they can get a return from the public markets. That may be very tough. But the only players really on the hook are the guys from the last rounds. Just like in a chain letter.”

About John Furrier

John Furrier is founder, co-CEO, and Editor-in-Chief of SiliconANGLE, a new media company covering the intersection of computer science and social science. Furrier is also the co-founder and CEO of CrowdChat a social media platform for large-scale group conversations over hashtags. In addition to SiliconANGLE John runs Broadband Developments a private incubator and investment firm for creating new startups. Furrier lives in Palo Alto, California with his wife and four children.