Is it a tech bubble?

Every week a “we are in a tech bubble” article seems to come out in a major newspaper or blog. People who argue we aren’t in a bubble are casually dismissed as promoting their own interests. I’d argue the situation is far more nuanced and that people who engage in this debate should consider the following:

1) Public tech companies: Anyone with a basic understanding of finance would have trouble arguing many large public tech companies are trading at “bubble valuations” – e.g. Apple (14 P/E), Google (18 P/E), eBay (16 P/E), Yahoo (17 P/E). You could certainly debate other public tech stock valuations (there are a number of companies that recently IPOd that many reasonable people think are overvalued), but on a market-cap weighted average the tech sector is trading at a very reasonable 17 P/E.

2) Instagram seems to be the case study du jour for people arguing we are in a bubble. Reasonable people could disagree about Instagram’s exit price but in order to argue the price was too high you need to argue that either: 1) Facebook is overvalued at its expected IPO valuation of roughly $100B, 2) it was irrational for Facebook to spend 1% of its market cap to own what many people considered one of Facebook’s biggest threats (including Mark Zuckerberg – who I tend to think knows what is good for Facebook better than pundits).

3) Certain stages of venture valuations do seem on average over-valued, in particular seed-stage valuations and (less obviously) later-stage “momentum valuations.” The high seed-stage valuations are driven by an influx of angel/seed investors (successful entrepreneurs/tech company employees, VC’s with seed funds, non-tech people who are chasing trends). The momentum-stage valuations are driven by a variety of things, including VC’s who want to be associated with marquee startup names, the desire to catch the next Facebook before it gets too big, and the desire of mega-sized VC funds to “put more money to work”.

4) Certain stages – most notably the Series A – seem under valued. Many good companies are having trouble raising Series As and the valuations I’ve seen for the ones who do have been pretty reasonable. Unfortunately, since the financials and valuations of these companies aren’t disclosed, it is very difficult to have a public debate on this topic. But many investors I know are moving from seed to Series A precisely because they agree with this claim.

5) No one can predict macro trends. The bear case includes: something bad happens to the economy (Euro collapses, US enters double dip recession). The warning sign here will be a drop in profits by marquee tech companies. The bull case includes: economy is ok or improves, and tech continues to eat into other industries (the “software is eating the world” argument). Anyone who claims to know what will happen over the next 3 years at the macro level is blowing hot air. That’s why smart investors continue investing at a regular pace through ups and downs.

6) The argument that sometimes startups get better valuations without revenue is somewhat true. As Josh Koppelman said “There’s nothing like numbers to screw up a good story.” This is driven by the psychology of venture investors who are sometimes able to justify a higher price to “buy the dream” than the same price to “buy the numbers.” This doesn’t mean the investors think they will invest and then get some greater fool to invest in the company again. For instance, at the seed stage, intelligent investors are quite aware that they are buying the dream but will need to have numbers to raise a Series A.

7) No good venture investors invest in companies with the primary strategy being to flip them. This isn’t because they are altruistic – it is because it is a bad strategy. You are much better off investing in companies that have a good chance to build a big business. This creates many more options including the option to sell the company. Acquisitions depend heavily on the whims of acquirers and no good venture investors bet on that.

http://www.tutorspree.com akharris

I think there’s also an important aspect on overall size/impact on outside pieces of the economy. When a bubble truly happens it not only drives a disconnect between asset prices and underlying value, but it warps the valuation of associated assets.

I don’t think we’re seeing any of that in tech. I see the argument that there is localized over-exuberance on the early stage for some companies/groups of companies. But it doesn’t extend any farther than that.

http://www.cdixon.org chris dixon

Good point – I agree.

http://twitter.com/MogulAzam MogulAzam

The funny thing is this is true of most startup environments bubble or no bubble.
http://twitter.com/FrantzdyRomain Frantzdy Romain

Some economic bubbles leave behind something extremely useful: infrastructure.
And hopefully that infrastructure isn’t broken down, but consolidated, and reused.

http://www.cdixon.org chris dixon

Good point. And important to note that thus far the vast majority of money being invested is by VCs, angels etc who (if it is a bubble) can afford to lose their money. Where things get bad is when non-rich people put their saving at risk in the public markets.

Anonymous

I appreciate that this turns the question to the consequences of a bubble rather than attempting to diagnose a bubble. It will matter for all the entrepreneurs who are able to get funding now and not later, but they are clear on the risks they are taking to start a business. It could, however, become a problem if overvalued stocks become significant parts of individual retirement portfolios as they did last time (and as overvalued mortgages became for a significant population).

What seems to have changed since the late 1990s is the emergence and popularity of things like lifestyle mutual funds that employers are encouraging, and average investors seem to be accepting.

http://www.cdixon.org/ chris dixon

I am personally very against the idea that non-professional investors should buy anything in the public markets beyond index funds. They are at a severe informational disadvantage vs say hedge funds and will lose most of the time.

If what you are saying is that employers are encouraging index funds over individual stocks, I didn’t know that, but if that’s the case I think it’s a good trend.

Anonymous

Totally agree that non-professional investors should stick to index funds or things that behave like them at the lowest fees possible, like ETFs. More and more employers are making target date funds and index funds available to employees as part of retirement savings programs, and my opinion is that even younger, non-professional investors whose retirement portfolios were impacted in the late 1990s have a new-found appreciation for the benefits of a passive investing approach. Before that, non-professional investors simply didn’t believe that large-cap US stocks would decline as the S&P 500 was roughly doubling every five years starting in 1980, even before its meteoric rise from 1995 to 2000.
Guest

“As in all our investments, Paulson has access to the same information that everyone else in the securities markets does, like other public market investors, we must rely on audits and underwriter due diligence for comfort that financial statements and disclosures are accurate and reflect the true state of affairs at companies with publicly traded securities.”
Paulson’s statement on his loss in
Sino-Forest

http://www.cdixon.org/ chris dixon

Agree they are dependent on companies for accurate financials but the idea that hedge funds like Paulson have the same information as retail investors is crazy.

http://twitter.com/vinaeco Vincent Turner

superb and balance post, this is perhaps the article that Nick Bilton should have written
Anonymous

http://goo.gl/6gPdC
http://kidmercury.posterous.com/ kidmercury

i would beef most with #5. macro trends are just as foreseeable, if not more so, than sector-specific trends. it is clear money supply is expanding and that previous expansions of money supply have been followed by bubbles and that current debt levels are unsustainable and cannot be fully serviced without currency devaluation or debt cancellation.

P/E is not the only metric by which fair valuation can be determined. the rate of apple’s price appreciation is unsustainable, doubly so when one considers its market capitalization.

stocks are drawing capital that is seeking safety. the bond market is weak and people have to put their money somewhere, and so they are looking for long-term safety.

i think the social media bubble will pop sooner rather than later, perhaps after facebook’s initial pop. and, let’s see if apple can get back above $640. the hedge funds and goldman will then go to the next sector to blow a bubble in.

http://www.cdixon.org chris dixon

I agree that low interest rates have encouraged new investors to enter tech investing, and that is distorting things somewhat. But at the same time the fundamentals of tech seem very strong. So overall I think it is hard to predict. But at any rate we should be having this discussion using financial data (as you are) and not just giving our opinions.

http://avc.com fredwilson

great post Chris. Zynga trades at something like 13x pre-tax cash flow when you back out the $1.5bn of cash they have. that certainly doesn’t seem like a bubble valuation either.

i do think there is more money sloshing around the tech/internet/mobile sector now than there has ever been. and that is impacting valuations across the board.

the question is if this is temporary or the “new normal”. i guess we will find out.

http://veespo.com David Semeria

Everyone focused on the valuation for Instagram, but there’s also another angle: there’s no doubt that FB, with it’s nearly 1bn in users and predicted mkt cap, was seriously spooked by a 12 person start-up.

So the game would appear to work both ways: startups can come from nowhere and be worth billions in a few years, but the same market mechanics might also leave them vulnerable to other younger companies (cf Zynga / omgpop).

This is the “creative destruction” that your partner Albert frequently talks about, and could perhaps lead to less earnings visibility on internet-based companies, which in turn would mean lower than average multiples.

http://avc.com fredwilson

Thats what I talked about last week http://www.avc.com/a_vc/2012/04/what-if-web-and-mobile-apps-are-like-tv-shows.html

http://veespo.com David Semeria

Yes, that was a great post.

But you didn’t talk about the effect it might have on late-stage valuations….

Edit: oops, I took another look and saw you did.
Anonymous

Bob Buch said this well in a posts earlier this month -
http://techcrunch.com/2012/04/14/its-not-a-bubble-its-valleywood/. Thinking about Instagram and other web and mobile apps as sources of product innovation and audience extension for the largest consumer platforms like Facebook and Google actually makes sense. But, as you say, maybe they need to be valued as businesses that last for 5-10 years like a TV show. However, even when successful TV shows stop running in primetime, syndication revenues can last decades longer. Is there a corollary to syndication revenue for web and mobile apps if they lose their network effect?

http://avc.com fredwilson

not that i know of
JamesHRH

See comments above w GRIMLOCK re:P&G.

Syndication is a rare historical situation where an entirely new distribution channel sprang up and recycled assets.

Really unusual.

Matthew A. Myers

Hey David!

You prompted me to publish a blog post I had written up, Re: “How Twitter’s secret offer for Instagram made Facebook pay $1B”

The “creative destruction” is why I don’t see Facebook being worth $100 billion. I could rephrase that by adding, it is worth $100 billion – assuming that competition didn’t exist.

The biggest flaw to Facebook is that it’s a controlled ecosystem. You just can’t have that online / get away with it online like you can in the physical world, because people are mobile.

And the reason the non-controlled ecosystem will win out is because there are advantages to the user that a controlled system can’t allow; I touch on this in an earlier post of mine, The Independent Web, How Can It Work?

It’s all about the less ugly winning out. Ugly in the sense of usability. MySpace was uglier than Facebook (figuratively and actually). Facebook will be ugly to what things are evolving to.

http://veespo.com David Semeria

Hi Mathew,

As Chris himself tweeted out “giving up 1% of your presumed mkt cap to take out your biggest threat is a savvy move”. So the point is not so much why FB did what it did, or indeed why it paid what it did.

The consensus is that FB behaved entirely rationally.

For me the really interesting point is how could a behemoth like FB get blind-sided so quickly by a company with a dozen employees.

I think there’s no doubt that internet companies play by different rules to traditional ones. Their virality and lack of physical presence allow them to grow at previously unthinkable rates.

But my question is: is the reverse also true? Can the same market dynamics destroy a company at the same speed?

He who grows by the sword, shrinks by the sword?

Matthew A. Myers

Indeed, it could have been the only move he could have made. It will just be another mechanism to try to maintain control for a little longer – or rather maintain the perception of control.
And yes, it’s just as easy – that is if you’re maintaining your growth by force, like you say “grow by the sword, shrink by the sword.”

The situation with Facebook is they ‘are the platform’ currently, or at least they created a controlled platform – when in reality the true platform is the internet itself, whereby normal economics would allow the true most-valuable (in terms of usability to a user and overall ecosystem) to win.

Facebook’s main control mechanism has been via keeping control of contact lists, and other data. They would have had huge migrations of people long ago otherwise after all of the multiples of abuse of people – changing privacy settings at least a dozen times, etc..
FAKE GRIMLOCK

TINY NIMBLE COMPANIES USUALLY OUT COMPETED BY TINY NIMBLE COMPANIES.

ESPECIALLY WHEN THEM BECOME HUGE, SLOW, CLUMSY COMPANIES.

http://veespo.com David Semeria

But FB is anything but slow….

FAKE GRIMLOCK

WHEN LAST TIME THEY RADICALLY CHANGE CORE SYSTEM?

GLUE TIMELINE ONTO PAGE NOT COUNT.

http://veespo.com David Semeria

But FB is anything but slow….
http://youngandbrilliant.net ninakix

Can I just build a company that’s like an octupus? We can be slow and clumsy and HUGE in the middle, but then have lots of little tiny, agile tentacles.

FAKE GRIMLOCK

LOTS TRY THIS APPROACH.

USUALLY NOT WORK.

http://youngandbrilliant.net ninakix

Ink attacks?

FAKE GRIMLOCK

WHAT AN INK ATTACK? IT SOMETHING TO DO WITH TATOOS?

http://youngandbrilliant.net ninakix

THIS: http://www.youtube.com/watch?v=QCImR8fiJ58

–

Matthew A. Myers

If you have the right people I think it’d be possible. It might be impossible to get all of the right people together and aligned though. And the key is having someone with a solid end vision (at least solid intent behind here they are going).

JamesHRH

GRISMTER – being picky here – outcompeted is unfair.

Proctor & Gamble have all but given up on innovation: and they just finished one of their best decade’s ever.

Being huge isn’t losing & if it is, feel free to put me at the front of the Loser Line.The Gram has merely 25x FEWER users than the Book. Outcompeted? For the Book, being outcompeted would have been letting MS, GOOG, TWIT or YHOO get it.

That;s their competition.

FAKE GRIMLOCK

PROCTOR AND GAMBLE ONE OF MOST INNOVATION DRIVEN LARGE COMPANIES IN WORLD.

BAD DATA = BAD UNDERSTANDING OF WORLD.

JamesHRH

Last line could be Dino biting own tail b/c it’s on fire big Fella.

I didn’t say P&G wasn’t innovative – I said they gave up on inside innovation. In essence, they expanded their m&A activities to co-fund expansion of new
products.

Dig deeper into their results or read a lot of Lafley interviews & he has said that they were getting beaten at innovation – so they stopped trying to do it all themselves.

The biggest P&G hits of the 21sy century – things like Swiffer – were invented outside the walls of P&G.

FAKE GRIMLOCK

NOT MATTER WHERE INNOVATION COME FROM. IF IT DRIVE COMPANY, IT DRIVE COMPANY.

GO OUTSIDE FOR INNOVATION ITSELF IS INNOVATIVE WAY TO SHORT CIRCUIT USUAL PATTERN OF STAGNATION.

JamesHRH

Isn’t that what FB did?

http://www.victusspiritus.com/ Mark Essel

Yup.

We’ve seen it, look at Yahoo and AOL. They are not the superpowers they once were. Even physical companies are impacted by the disruption of software, Blackberry and Nokia vs iOS & Android.

http://youngandbrilliant.net ninakix

The “creative destruction” is why I don’t see Facebook being worth $100 billion. I could rephrase that by adding, it is worth $100 billion – assuming that competition didn’t exist.

+1, good point. The issue is that as far as the speculation goes, it’s impossible to know – no one knows how competitive other companies can be with Facebook, or how much the network effects protect it.

http://www.cdixon.org chris dixon

Thanks, Fred.

Zynga – Yeah, the risk there seems that games are hit driven. But certainly hard to argue 13x cash flows is bubble.

To me it seems inevitable that there will be a down cycle. The more interesting question is what happens after that. Some of the things happening now seem like good trends (more college students aware of startups as career path vs consulting, finance, law) and some seem bad (gossip-y tech press, non-smart money investing).

http://about.me/adriansanders Adrian Sanders

The thing with Zynga is that they aren’t really a game maker, they’re an entertainment platform that uses really clear statistics to deliver certain experiences to a core audience.

I think of this in the same way as “movie” houses that make shitty thriller or slasher films. They know their demo, they watch as it shifts, moves and adjusts and they deliver low quality but predictable experiences to those who seek it.

While it’s “hit driven” in the sense that they have super star performers, they have the size and reach to spam the system with so many attempts that I really don’t see it as a game of chance.
http://avc.com fredwilson

I wonder if the latter is partially responsible for the former

Anonymous

I don’t doubt that’s the case, actually. As startups become more mainstream, they attract more mainstream media attention, the tech media becomes more frothy, and “investing” seems more attractive.
See Randi Zuckerberg’s new series, and the Winkelvoss’ recent announcement.
http://engag.io/ William Mougayar

The good thing I think is failures are costing less than in 2000. Failing can be more quickly detected and with less collateral dammage.

http://avc.com fredwilson

yup. totally agree.
Guillaume Ouellet

Agreed, at least companies going public are actually making money this time.
http://about.me/brandonmarker Brandon Marker

I always ask the “bubble talkers” to point out all of the major failures that have taken place thus far. They have a hard time naming, and cite that specifics is always a difficult questions. Obviously, there are still plenty of companies failing, as there should be.

Then I ask for them to name some from the 2000 tech bubble, that is simple for them. The magnitude of failing companies then was giant, and it hurt a lot of people.

http://youngandbrilliant.net ninakix

I’m just having a hard time with this argument – I don’t think he (or anyone else I’ve seen) is arguing about large, established companies. Some people are questionable about the later-stage *startups* (different from *established companies*), but I think there has been consistent concern about the issues in early stage startups.

We are spending a lot of time comparing this bubble to 1999, but I’m pretty certain that they are not similar in any way. The comparison between the two is useful and accurate in the same way that say, the Great Depression is useful for understanding the Great Recession. Which is to say, in limited, critical doses.

Furthermore, a bubble is one of those things that is ridiculously hard to prove the existence of during it’s growth period. The entire point is that we won’t see failures until we see them start happening at an alarming rate. I suspect that if we see that occur here, it won’t be companies that are failing spectacularly, but investors.
Again, all these points are related: bubbles happen most frequently when the value of the goods is not clearly discernable. This is a period of uncertainty – no one really knows how the social internet will play out, just like no one knew how big search or e-commerce would be in the 90′s. Now these quantities are a bit more known, so it’s harder for these companies’ values to inflate as much.

@cdixon:disqus raises the point in this thread that startups are now being seen as a viable career path, and I suspect that these things are fairly related. However, it makes a certain amount of sense that during a bubble, accompanying the over investment of [monetary] capital into a space is the over investment of human capital into the space. My concern is that being geared towards a career in *startups* is as worrisome as a career in *finance.* Both do certain crucial things, but more important than either of these things is a commitment to certain types of work. I am far more interested in a generation of people that have educated themselves to create, build and innovate – whatever institutional vehicle that facilitates it best for the skills that they acquire.

Still, as painful as bubbles and bubble bursts can be, they’re crucial to innovation – the cyclical nature of Silicon Valley is that they take on industries with high uncertainties, whose value is as of yet undetermined. And it takes that exploration to determine what works, and what those values are – I compare it to the periods of boom and bust in evolution, that result in diversity and efficiency in turn. (I once tried to write an ill-fated college paper on this).

Sorry for the big wall of text, but. http://xkcd.com/386/

http://about.me/brandonmarker Brandon Marker

I completely agree, when I say, “magnitude of failing companies then was giant,” I am referencing the scope of failures on the public market, failing quickly, with countless investors left with nothing.

I agree on pretty much all of your points. Except the last, unless you have a paper to explain

And the wall of text is appreciated.

http://youngandbrilliant.net ninakix

Right – that was certainly a feature of the last bubble that was… unfortunate. Still, the idea that current early-stage investors are over-valuing the companies they are funding isn’t ludicrous.
–

http://www.victusspiritus.com/ Mark Essel

The relation between evolution, technology, and finance is worth pursuing. For the former two I enjoy Kevin Kelly’s thoughtful analysis.

JamesHRH

No, I think the former is responsible for the latter. People chasing Baby Boom Echo trends.

http://avc.com fredwilson

chasing cause and effect

Anonymous

Fred,

Just wondering how you are getting to the 13x pre-tax cash flow? ZNGA is subject to around 30% dilution after you factor in all the options, warrants and ZSUs.

Leo

http://avc.com fredwilson

the strike price on many of them aren’t much different than the current stock price. it’s not 30% dilutive.

Anonymous

I’m not seeing that. I see the weighted average strike on 100mm+ options @ 0.69. Sorry if I’m not following correctly.

Also, if I consider capex, I’m seeing cash burn.

http://avc.com fredwilson

i stand corrected. it will be interesting to see if all of them vest and get exercised.

http://www.cognation.net deancollins

i like the “new normal” reference.

I guess this is what makes the game of life interesting, at most times, everyone is learning the same thing as you playing the same “roll of the dice” as you.

The one fundamental that has changed since the last bubble is people dont question “should i pull out my credit card and purchase’ online anymore (though most times its just a button click for more zynga tchotchke or an itunes purchase), maybe that explains the extra cash sloshing around….
http://6pna.com PanosJee

Seed financing in the consumer tech especially in SoLoMo seems to be where the bubble is. More companies trying to go viral, socially fatigued consumers, unclear business models.

http://www.urgentspeed.com Jeff

Well said Chris, besides these days an investor does not need many successes in their angel portfolio to out perform other asset classes available.
http://www.contentmatters.info graubart

Valid points overall, but I think that #2 and #3 are the key ones that make this feel like a bubble. I don’t know anyone who doubts that, strategically, Instagram was worth 1% of Facebook, if only from a defensive standpoint. It’s the $100B FB valuation that is more open to debate.

For #3, I do think that the mega-VCs are distorting the playing field a bit. In many ways, they drive entrepreneur behavior away from building a revenue-producing business and towards gaining an early exit.Does that mean we’re in a bubble? No. But it does mean that valuations for the premier startups are definitely distorted imo.

http://www.cdixon.org chris dixon

I think reasonable people could argue about Facebook’s valuation. I’m just saying if you want to criticize Instagram’s price you have to argue one of those two ways. That said, I certainly wouldn’t want to short Facebook’s stock. They control one of the two most important axis of power on the web (social and search).

http://twitter.com/IceCreamYou Isaac Sukin

No you don’t. Instagram has a value independent of Facebook. To say that Instagram is worth $1B you have to show that it could have either done $1B damage to FB or that it adds $1B of value to FB, or some combination.

http://avc.com fredwilson

it already did $1bn of damage to FB if FB is worth $100bn. it may have done a lot more. every photo posted and favorited on instagram is engagement that is not happening on FB by FB’s core user base
http://www.cdixon.org chris dixon

It could have easily chipped away 1% of FBs value. Instagram was getting far more daily mobile downloads than FB when it was acquired.

http://lianza.org/ Tom Lianza

So, what would be the warning signs if we *were* in a bubble? This is a great argument for why we’re not, though point #1 focuses on a handful of examples, and point #2 is a counter-point to a single counter-example.

What about the Pinterest, Evernote, Dropbox, Spotify, Airbnb’s of the world? If Foursquare raised at a billion dollar valuation, would that signal a bubble?
In neither this piece nor Bilton’s has anyone made an argument that’s falsifiable.

http://www.cdixon.org chris dixon

I think you have to take those case by case. Airbnb and Dropbox, for example, seem have real, profitable, fast growing businesses. I don’t know the financials of Spotify and Evernote. Companies like Pinterest, Tumblr and Twitter are more speculative because the business models aren’t decided yet. The (reasonable IMO) bet investors are making is like many internet companies before them (e.g. Google) the business models will emerge.

http://twitter.com/ScotchGuyDan Dan Bowen

Chris if you take some recent ones we do know, Yelp and Groupon, its easy to see how the word bubble gets pushed to the forefront. Stoppleman still refers to Yelp as a startup and in growthmode 7 years in while it is remains nothing more than a burn rate…albeit one with a $1.5B value?!?! Even bigger issues with Groupon and their volcanic rise and what is starting to look like a potential titantic failure with the burn, the SEC looking in and class-actions lined up for miles and yet a $6-$10B value? If the valley called companies like this out more than they patted themselves on the back for them it might mitigate the attitude a bit.

http://www.cdixon.org chris dixon

I don’t disagree that some tech companies ate (very) overvalued.

http://profile.yahoo.com/SMJG3ZBXQAMZXBLRCG73ST6R4Q PVR

Recently Amazon bought Kiva systems for 800 million. They build solid robotic technologies for 10 years. A Photo upload toll is valued more than that. Valley is Indeed in a delusional bubble. People can always say VC guys are smart and they choose after careful evaluation. They have a herd mentality and do on relative basis

http://www.cdixon.org chris dixon

I agree there is definitely a herd mentality at times, and more pronounced now. But going back to Instagram, do you think FB is overvalued or FB overvalued Instagram?

JamesHRH

If I had to pick, FB is overvalued.
http://engag.io/ William Mougayar

No and Yes.
http://kempedmonds.com kemp

Facebook is overvalued. The revenues and secondary data sales are not significant enough.
http://www.facebook.com/erlend.wilhelmsen Erlend Wilhelmsen

FB changed my parents behavior. Not overvalued.

http://www.justanentrepreneur.com Philip Sugar

Here’s the question. It changed their behavior but what is that worth?

The two are independent answers.

http://www.victusspiritus.com/ Mark Essel

The network value of Facebook is limited by my tolerance for connections. Without interest beyond familiarity, for me that ends up being a hundred or so friends, and checking it briefly a couple of times a week. I value that time at ~5 dollars. If I’m the average user (maybe?) and there are a hundred or so million that value their time as I do, then Facebook is delivering a half a billion dollars of value a week. Assuming they can capture 20-100% of that value puts ther P/E at a much more cautious ~4-20

The $5 is the few minutes I connect with fellow users. The 100 million is based on folks who are willing and able to pay for that experience.

Steve Burgess

FB is overvalued. Of course, the piper will play in just a few weeks and we’ll find out what the market thinks.

http://twitter.com/mikepbaca Mike Baca

It’s called “network effect”. The reason that the photo upload service is worth more than Kiva and New York Times ($937 million) is because of it’s network effect.

One of FB’s greatest assets is providing people with a valuable service for sharing memories. Sure FB has created stickiness and has people spending 7 hours a day on their site, but I don’t call playing Farmville or Mafia Wars a great asset – it is however a very good time waster.

But going back to the asset of sharing memories. For those rational people out there who use FB for it’s real value, sharing memories through photo’s is really important.

When another start-up comes along and allows you to take beautiful pictures with no real photographer experience and share those pictures easily – it NOW becomes more valuable of an asset for memory sharing. FB recognized this and decided to make a move.

So comparing Instagram’s value to that of a robotics maker really carries no weight unless you look at the real value of the asset. A robotics maker has one asset – and that’s using robots to drive warehouse efficiency – a business solution. Instagram provides a consumer solution that’s value can’t be quantified until you realize the full potential of it’s network effect. And that my friend is something that those “smart” VC’s do recognize.

Next time do a little more research before you start to compare a robot maker to a photo sharing/social network.

Anonymous

I thought the average U.S. Facebook user time on site was 12-14 minutes per day? Sure, there are some 7 hour users, but there are also some zero-second users. Compared to average television daily viewing (in excess of 4 hours per day), Facebook has fairly limited ad exposure time.

Regardless, if “one of Facebook’s greatest assets” is it’s ability for people to “share memories,” I would remind All that this is something that existed BEFORE Facebook in a better form. I can guarantee you that I will look through a basement of boxes of family photos someday; but I will never hunt around for a digital version of this on Facebook.

If anything, we are losing our shared memories through this process…all while under the illusion that they are improving.

At 100B valuation, that is based on what P/E ratio compared to the 13-17x represented by Others?

http://www.cdixon.org/ chris dixon

Roughly 100 P/E.

Anonymous

So…um….if all the real businesses are 14-18 P/E, and FB is roughly 100 P/E, couldn’t this one mega-uber-propping-up-others-olith, single handed, take down the entire ecosystem…

What if FB was all of a sudden a realistically valued $20B company, how would the house of cards fall?

FB can’t go around buying up every new kid/competitor on the block (at even greater unrealistic margins) to retain it’s status, can it?

Entropy happens.

http://www.cdixon.org/ chris dixon

Well, bulls would cite FBs growth rate. But I think your concern is legitimate.

http://www.victusspiritus.com/ Mark Essel

I commented below on ball parking ~4-20 P/E based on personal value.

http://www.facebook.com/people/John-Furrier/550980302 John Furrier

I was just commenting to semil post on tc about this point… bubbles are a reflection on times when big “inflection points” of wealth creation happen… that’s been my 25 yrs experience. That being said every major wealth creation opportunity offered to entrepreneurs created massive wealth and jobs every time – and with that bubble conversations happened every time. Are we in a bubble I say yes and yes is good because there is big opportunities that world class and newbie entrepreneurs are chasing… that’s a good thing… Venture follows entrepreneurial trends… it always has and always will…and with the changing times the tactics to pursue opportunities will change with the times..
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http://twitter.com/DannyHorowitz Daniel Horowitz

Nice post. 1. Do you really think 17 P/E is reasonable? I think one can make a case for any of these large cap tech stocks being overvalued. Can we really predict what their cash flows will be like in five years? . They might be significantly less than today. These incumbents are being attacked from every angle.

2. I agree. Regardless of whether the Instagram purchase is smart or not (I think it is) a handful of higher or irrational valuations do not make for a bubble.

3. I don’t think seed stage valuations are on average too high. What about the 99% of angel/seed investments that aren’t in popular tech blogs? This feels like a massive availability bias.

http://www.cdixon.org chris dixon

I believe the historical average of the S&P is roughly a 15 p/e. So 17 is a bit higher but hardly bubble territory. For example, in the real estate bubble smart people like Robert Shiller showed that the p/e (sales to rent ratios) for real estate were way higher than historical average. I haven’t seen anyone make a compelling analogous argument about the current tech market (specifically about mature, public tech companies).

http://twitter.com/DannyHorowitz Daniel Horowitz

You really believe the historical average of the S&P to be relevant here?

http://www.cdixon.org/ chris dixon

I think 100 years of data shouldn’t be ignored.

http://www.facebook.com/serkan Serkan Piantino

Also, PEs or, equivalently, earnings yields are affected by the risk free rate because they’re discounted future cashflows. So near zero interest rates mean higher PEs by mere math

David Kveragas Is A Swell Guy

Yup..The difference between a 17 and 15 p/e is only a 13% period of earnings growth…in commodity widgets that may be hard, but in tech…

The foundation of these values is actual money. It can’t be compared to the foundations behind real estate prices, which are supply, demand, and psychology.

http://stevefarnworth.com stevefarnworth

But surely 3 is going to be (if there isn’t) a main cause of a bubble? Dumb money jumping in, raising valuations across the board, hyping everything up, funding more and more ideas which have no clear monetisation strategy but *might* hit it big.

Along with 3 though, with the advent of more and more seed-only rounds and the “fail fast” mentality, wont that mean the pressure to raise an A round is taken away, meaning one of the main drivers to quickly achieve some KPIs are taken away, pulling down the cash with it?

I agree that Instagram being bought by Facebook isn’t representative of the market, but what about the fact they were raising at a $500m valuation? Where did that number come from? Zero revenue on the balance sheets. Surely it’s a sign that valuations are wildly outweighted, which, although it could be a false-positive, would be a signal that the hype machine is pumping once more?

The issue for me is that I look at the valuations being thrown around and I just don’t believe the companies they’re attached to will still exist in 10 years time…
http://500startups.com/ Dave McClure

too bad I’m nowhere near as rational as Chris in discussing this topic / Nick Bilton’s post. however, I’m happy knowing that irrational flame-baiting and ALL CAPS tweets have a place in the universe, if only in the circular file.

Chris: you’re a better man than I, Gunga Din.

http://dshan.me Derek

For what it’s worth, having both as a part of the conversation today was valuable from an early stage founders POV.
http://www.cdixon.org chris dixon

I for one miss your all caps, multi-colored blog posts
http://www.connectme360.com/ Brian Hayashi @connectme

Me, I’m just glad to see all the smiley faces next to all of the comments. Thanks, Dave!

While the time it takes to cycle up is incredibly fast, a business can go through its entire life cycle in years, not decades. The good news is that no information-centric business ever seems to die. The bad news is that so long as we are in this hypergrowth mode, above average isn’t anywhere good enough. Internet services have become like TV series: consider the example of the FOX series “Terra Nova”, whose 7.52 million viewers wasn’t nearly enough to justify its ongoing cost. In that context, the ascent of Y Combinator and 500 Hats remind me of the early days of movie and TV studios…suggesting that the best days are yet to come.

http://twitter.com/andrewbrackin Andrew Brackin

Few things.

Normal people aren’t losing money, first sign it’s not a bubble.

There’s a huge market (wasn’t before) and huge revenue from a lot of big companies.

There may be a lot of small companies with no revenue but they aren’t going to IPO any time soon.

Yes it’s a frothy market but there’s also a huge wave with a market in the billions of people.

http://www.cdixon.org chris dixon

Yes, bubbles require “greater fools” which I don’t think we’ve seen. (Although non-professional investors buying individual tech stocks is a really bad idea in any market).
http://twitter.com/DannyHorowitz Daniel Horowitz

Normal people did not lose money for many years into the real estate bubble despite data indicating that it was a bubble as early as 2005. (e.g. Las vegas, Divergence between new home prices and rental prices.) As long as people are making money it’s nearly impossible for them to believe something irrational is going on.

http://www.simplyzesty.com Niall Harbison

Wrote about this a couple of days ago. I think the success the big guys are having means that funding lower down is certainly frothing up and getting silly in terms of valuations but there is no way it is a bubble. The key to a bubble is that very few people spot it coming. When people are all writing about it then it surely isn’t one

http://www.simplyzesty.com/technology/its-not-a-social-media-bubble-but-there-is-trouble-ahead-for-some/
http://www.facebook.com/paul.sutter Paul Sutter

Great articulation of where we stand, especially your dream vs numbers distinction.

The binary term “bubble” may be the source of the polarization, since the only two possible answers (yes or no) are plainly wrong. Maybe it’s better to ask -how- exuberant things are getting.

As for Instagram, note that Facebook is essentially a photo site when you look at raw internet traffic. Most of us still believe the dream to value Facebook rather than the numbers.

http://www.cdixon.org chris dixon

Thanks. Yes, I think reasonable people could argue about Facebook’s valuation. The $100B number probably assumes a new, not-yet-launched line of business. That said, I wouldn’t bet against them.
http://nabeelhyatt.com nabeel

Thanks for making this point Paul. This is where I have a problem with the core of any “bubble” argument – people are trying to have a meritous argument about something entirely subjective.

Absolutely everyone would agree that valuations are going up and there is more cash going in — so this is all about degrees.

If we wanted to be constructive about it, versus just filling pages with point/counterpoint, then we would first talk about what we collectively want to define as a tech bubble. Then resolve to something akin to the way we have a definition for a recession.

http://twitter.com/tubbo Tom

Are all venture capitalists as ideal as the one you describe in #7? We will have a problem if more people are coming into it for the wrong reasons than the right ones. VCs have an obligation to help startups change the world, but those coming in with the idea of just trying to make a buck off a billion dollar business (like they would with, say, oil or other commodities trading) could cause a problem. Right?

http://www.cdixon.org chris dixon

Not all, but the good ones want to build real businesses.

http://is.linkedin.com/in/balakamallakharan Bala

Total Market Cap455.2bP/E TTM53.648Return on Equity, TTM15.86%Dividend Yield (Last 4 Quarters)2.46%Long Term Debt/Equity (Most Recent Quarter, Annualized)-5.310Price/Tangible Book (Most Recent Quarter)5.763Dividend Growth Rate (Current vs. Prior Year)23.76%EPS Growth (Last Qrtr vs. Same Qrtr Prior Year)44.41
http://arnoldwaldstein.com/ awaldstein

#7 speaks to me personally.

I’ve been asked about exits for every company I’ve ever been involved with. The actions day to day of good management are no different whether you have an acquisition or a long term play in your mind.

You just get up every day and work to create value. Market opportunities determine which way you end up down the road.
http://www.triplepointpr.com Richard Kain

There is another class of equities that is, in my opinion, clearly in a bubble: recent tech IPOs. These companies like Pandora and Groupon — by their own confession — have valuations predicated on stories instead of numbers as you say in #6. These receive disproportionate attention because of both the novelty to public investors and the story. But the decisive overall argument against a bubble is the fact that the large tech companies are largely not putting their cash to work, and those that do, like Microsoft purchasing Skype and pursuing Yahoo, are largely criticized for it.

http://www.cdixon.org chris dixon

I definitely agree certain recently IPO’d tech companies are overvalued.

Anonymous

When valuations are going over 10x pre-tax cash flow, yes I believe it is right to start wondering if a bubble is happening.

On the other hand the right valuation for a company is based on what people are ready to pay for it. I guess Facebook is more than happy with their acquisition of Instagram. They prefer to own it now for a billion dollar than to see it keep on growing and being acquired by Tweeter or Google.

http://www.cdixon.org chris dixon

I think you can make a case for some tech stocks being overvalued. And indeed many hedge funds are short e.g. Groupon which is why it is very expensive to borrow (I’ve heard 40% interest rate).

http://twitter.com/tisal Tricia Salinero

Thanks for a thoughtful look here. After 2 downturns in 10 years I really believe that there is a pent-up demand for good times in tech. The public markets are really open now, and despite some lofty valuations, most companies are being valued on by fundamentals (access to users, ability to monetize, and in some cases, gasp, profitability). I’d be happy with some stability in the markets, since that promotes M&A as an outsourced IP tool.
http://abdallahalhakim.tumblr.com/ Abdallah Al-Hakim

Chris,

very good post and hopefully will start to change the conversations about Tech bubble.

The valuations are still the one area that I can’t get my head around and some of the metrics used such as ‘mindshare’ are just too objective to results in real numbers. I guess in the instagram example it was a matter of how much of a threat Facebook viewed it and how much they were willing to pay. It helped that Mark Zuckerberg didn’t have to go the board first to get the deal done!!
http://about.me/adriansanders Adrian Sanders

Hey Chris,
great thoughts as always.

I think one thing that stands out to me is the thinking that “internet companies” are some sort of magical homogeneous group.

I feel like you’ve argued this point before (and maybe I’ve just internalized it) but I really don’t understand the belief that Kickstarter and Instagram are closer in relation than Ford and Kraft because they’re “from the internet.”

cheers
http://twitter.com/sardire Steve Ardire

Although don’t agree with all facets of Nick Bilton’s post Start-Ups Keep Revenue at Zero to Cash In on Acquisition http://nyti.ms/IBWFve his best points were these

> Getting acquired while producing no revenue is like performing a card trick without the deck of cards: the magician simply explains how magical the trick is, never actually showing it. (And we are supposed to step back in sheer awe.)Brillant snark !> The term often used behind closed doors with this no-revenue formula is mark-to-mystery. This is a play on the common term for a more logical investment practice called mark-to-market, which is used to create a realistic appraisal of a company’s financial assets.and Paul Kedrosky weighed in here with “V.C.’s can create this mark-to-mystery valuation because as long as there are no numbers, I can have whatever mark I want for an external valuation of a start-up”

Spot on !

http://www.cdixon.org chris dixon

I’ve been in the industry for a while and have never heard the phrase “mark to mystery”. Having been acquired twice I also think the view that M&A is easy is incredibly naive.

http://twitter.com/sardire Steve Ardire

then perhaps you should debate Paul Kedrosky who weighed in here with “V.C.’s can create this mark-to-mystery valuation because as long as there are no numbers, I can have whatever mark I want for an external valuation of a start-up”

http://www.cdixon.org chris dixon

Paul is very smart and well informed. I’m just saying I’ve never heard it and have been pretty involved in the industry so either the phrase happened to evade me or it isn’t as widespread as suggested.

http://exosphe.re/ Skinner Layne

The prevalence of bad decisions in business does not mean there is a widespread asset bubble, which tends to mean that most, if not all of the assets in the industry/sector are substantially over-valued. Because the Tech Start-Up is about the only good thing going on in the US economy and because it is producing new and exciting products the average person is now using, it is no wonder that it gets as much wider press attention as it does. That level of attention leads a lot of people to think there is too much hype, and they conflate hype with an asset bubble.

Two of the following three things would need to change for a 90s style tech bubble to be possible: Rapidly increasing M3 (money supply), change in the accredited investor requirement for the secondary markets, massive barrage of early stage companies doing an IPO on their hype. As long as things stay in privately held structures and as long as it is primarily equity capital (rather than leverage) driving acquisitions and capitalizations, “bubble” isn’t the right word. Foolishness on the part of some equity investors from time to time, yes. Bubble, no.
JamesHRH

I think we are in the golden age of Internet.

Some companies are building massive businesses; some are not.

A mixed bag that requires analysis, not a bubble. With the possible exception of seed – their are people investing there who know not what they do!
http://twitter.com/sahilz79 Mohamed S. Ali

Aren’t #3 and #5 above somewhat related? Isn’t what’s potentially driving a lot of non-traditional early stage tech investors into this market, is that at a macro-level there doesn’t to seem to be an asset class that can potentially deliver similar value? If the macro picture gets more optimistic, then we could see diversity away from tech and into other asset classes.

Compared to how a lot of the frontier and emerging markets were valued even recently, and safety commodity valuation (i.e. gold, which I’m not sure how anyone really knows how to value) valuations in tech, even early stage tech dont seem that crazy. Further if you ascribe to a certain train of thought, particularly if you buy into Marc Andreessen’s software will eat everything theory, the valuations actually seem ok.

http://www.cdixon.org chris dixon

Yeah, I think most people would agree that near zero interest causes investors to “chase returns” and tech seems to be one of the few places they are happening.

Guilherme Manika

Someone would do it at some point: http://areweinatechbubble.com/

http://www.cdixon.org chris dixon

lol

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http://jasonkotenko.com Jason Kotenko

Very reasonable article, but the P/E ratios are heavily cherry-picked. Amazon has a P/E of 189, instance.

Also, by the same logic that a P/E of 17 is reasonable, Facebook definitely wouldn’t be worth the 100bn that you cite above. Now that of course means that Instagram would be worth less than 1bn, but given that 25% of the transaction was cash, if FB turns out to be worth 25bn, Instagram will still have cost them $435mn in cash and equity.

Does this say anything about whether we are in a bubble? Maybe, maybe not. But if FB comes on the market, balloons up to 100bn valuation, and then misses earnings targets… well, that’s exactly when the entire tech sector finds out the real answer. FB could cause irrational exuberance, driving the share price of major tech stocks up, and then when none of them perform to expectations: Pop.

http://www.cdixon.org/ chris dixon

Yes, I cited reasonable P/Es but I think the fact that the mkt-cap weight average P/E is 17 backs my overall argument up. And I agree certain tech companies might be overvalued.

Agree FB valuation is the big question.The 100B number seems dependent on as-yet-unlaunched revenue streams. That said, I wouldn’t bet against FB. Frankly, given how “retail” FB is I think there is a real possibility the stock pops far beyond 100B, which might not be a good thing.

Anonymous

We are not in a ‘tech bubble’ – but we are in a social-media bubble. Look at the multiple of Facebook and you can see that.

Only so many eyeballs, only so much attention a user can spare. The revenue streams can not continue to grow at the rates they are, in order to justify the multiple. Companies like Amazon, Zynga, etc – that are producing real revenue and have a multiple on valuation that makes sense is a different story.

http://www.facebook.com/profile.php?id=1522297420 Charles Deutsch

Completely agree.

The “Tech Bubble” conversation encompasses two very different types of companies out there right now; ones that have defined, tangible business models (airbnb, dropbox, zynga) and industry comps (hotels, storage, EA sports) and ones that really don’t either a defined model OR a comp (Instagram, Twitter to a degree.)

In my opinion, this conversation should be focused on how people are actually valuing the later type of company and how we are going to value peoples undivided attention (because it’s very valuable.. but for how long?)

The (potential) flaw in with valuing companies like Instagram is there is no formula for estimating how long people will actually use it (see Myspace) and assuming it will be used in perpetuity is why many these companies get valued at such insane prices – history has proven this is not the case.

http://www.cdixon.org/ chris dixon

I think that’s a great point and agree we should distinguish companies with existing business models from companies with speculative ones. The history of the internet suggests new business models will emerge but the companies that depend on this possibility should have valuations discounted accordingly.

Rob K

It’s a really good point. Many of the companies with high valuations but unclear business models also have strong network effects that may produce exponential growth in users. I have to believe that the investment thesis for these companies is 1) the companies will figure out how to monetize and 2) the user base will be 3-50x larger with limited marketing expense.

http://www.cdixon.org/ chris dixon

I think that’s possible, although I’d want to see FB’s public market valuation to decide for sure.

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http://ARMdevices.net/ Charbax

You do all those P/E and other advanced stock market calculations, those don’t hold up if Apple’s main source of profits is the iPhone and if the iPhone can pretty much instantly be out-disrupted by much cheaper and better Android choices.

You can’t trust those P/E and other calculations when companies like Apple amassed their incredible valuations and profit margins only over a couple years, or 5 years. Those companies can collapse again just as fast. Once investors learn the signals of a threatened iPhone profit margin, and they figure out that the iPhone represents over 70% of Apple profits, that is when investors panic and it’s then only a snowball effect, the AAPL stock can get halved quickly. A loss of $250 Billion in Apple stock valuation is going to be immensely devastating for the tech market and can also bring down a range of other over-valued tech stocks.

I can’t tell you if Google’s stock will go up, but I think Google is going to be the only tech company standing at the end of the day. Only Google has a business model that relies on the whole Internet as source of growth and income. Google’s wealth isn’t determined by a piece of gadget made in China like Apple. Google’s wealth isn’t determined by a piece of proprietary OS software like Microsoft, Google’s wealth isn’t determined by a pretty much useless and worthless piece of php script for social networking like Facebook. Google grows and can make more money the more people use the Internet worldwide and the more businesses worldwide want to sell more stuff using the Internet. Google’s position is very strong. Everyone else is overvalued and most likely are going to collapse.

http://www.cdixon.org/ chris dixon

I don’t think P/E is a very advanced calculation. Pretty simple and the foundation of any asset’s valuation.

http://ARMdevices.net/ Charbax

A P/E can be anywhere from 1 to 50. It really cannot be used as any indicator of an impending tech crash or not. Apple was pretty much worthless 10 years ago. Apple made its fortune only on iPhone 2002-2006, only on the iPhone 2007-2012. The Mac and iPad represent less than 10% each of Apple’s current profits. And all 3 product categories have a very strong potential of earnings and profit margins to rapidly decline simply due to the absolutely massive competition attacking Apple from every angle worldwide.

You can’t just do some P/E thing here and there and then sit back and think the stocks are fine. 2 years ago, Apple was worth less than half. Ergo Apple valuation can just as well be halved in 2 years and even less. I believe Apple valuation can be halved in less than 1 year. The starting point happens as soon as investors understand the threat of the cheaper and better Android competition on Apple’s main source of current profits, which are at the level of 80% represented by iOS devices, near 90% of which is only the iPhone.

http://www.cdixon.org/ chris dixon

Actually P/Es can go much higher – see Amazon or Groupon. Sure, earnings of tech companies can swing wildly. But I think it would be hard to find bubbles where assets were yielding 6% (roughly 1/15 == 15 P/E) annually.

http://ARMdevices.net/ Charbax

Amazon is the worlds biggest platform for products online, Amazon is the king of e-commerce. That is something significant that can’t just be disrupted easily. On the other hand, 95% of Apple’s profits comes from mostly iPhone, a little the iPad and Mac, all that are made by China. Tomorrow, China can decide to prioritize the production and export of own Chinese smartphone/tablet/laptop brands and Apple can overnight be in a huge trouble. Apple is at the mercy of China. It didn’t take much for China to block out Google and Facebook for web stuff, it wouldn’t take much more for China to decide to block out Apple’s idea of massively exploiting Chinese labor and exporting insultingly large amounts of profits outside of China.

Anonymous

Apple and China have a symbiotic relationship, like Apple and Samsung have a symbiotic relationship.

I suppose China could try to slow Apple in order to benefit ZTE or Huawei, but there’s no guarantee that their efforts wouldn’t help Samsung instead. Also, since slowing Apple means possibly hurting the 200k+ employees at Foxconn tasked in making Apple products, that’s not good for China either, not to mention all those other supply chain companies that employee Chinese workers.

Apple doesn’t exploit Chinese workers, China exploits Chinese workers. If anything, Apple thru Foxconn is causing inflation in China as wages are rising rapidly, labor shortages are worsening. That should be good for workers.

http://ARMdevices.net/ Charbax

You think there is, but that is not true. Neither Foxconn nor the Chinese workers in the factory profit from Apple. In fact, by the Chinese Government simply instead deciding to focus all that workforce on making Huawei phones only, they can produce more phones, and they get to keep all the profits in China, which in turn can pay higher salaries to the factory workers and ask them to work legal 40-hour work weeks instead of the 80-hour work weeks they are forced to do for Apple. All the while, the high-end Huawei D Quad and P1 phones can be sold worldwide at $199 unlocked and perform better than $650 iPhones, that basically makes it easy for the Chinese brands to totally dominate the worldwide smartphone market. So yes, Chinese interests and workers can make more money, they can dominate sales while selling worldwide for much less expensive.

Anonymous

You just keep telling yourself that. I see you haven’t changed!

http://ARMdevices.net/ Charbax

Foxconn quarterly profits are out, Foxconn makes 22 times less profits than Apple all the while Foxconn makes all the work for Apple, it only takes one minute for them to decide to stop being insulted by the American exploiter.

Anonymous

Noone is forcing them to sign contracts. If they’d like to idle parts of their factory and let a couple hundred workers go, then I suppose they can. Somehow I don’t think Terry Gou will be taking business advice from Charbax.
http://ARMdevices.net/ Charbax

Foxconn can produce for Huawei, Huawei keeps all the profits in China. Selling the phones 3x cheaper than Apple, they can still afford to pay Foxconn 2x more for the same amount of work. Ergo workers can be less exploited and they can be be paid more producing cheaper Huawei phones than Apple.
http://ARMdevices.net/ Charbax

Foxconn can produce for Huawei, Huawei keeps all the profits in China. Selling the phones 3x cheaper than Apple, they can still afford to pay Foxconn 2x more for the same amount of work. Ergo workers can be less exploited and they can be be paid more producing cheaper Huawei phones than Apple.

David Kveragas Is A Swell Guy

1 to 50? Come now, let’s do some basic math.
Even if your P/E ratio is 1 million, at least you’re still doing better than break-even. Back in the 1999 bubble most of the new IPO dot-coms had negative P/E ratios.

The basic value of a company is the time-discounted value of future earnings plus assets minus debts. Pretty simple. P/E is a fun stat but not useful without considering growth. It’s a lagging indicator while price is the prediction for the future.

Apple’s P/E is low because their growth is predicted to be low (but with a high beta). It’s already baked into the price. The scenario you propose is a possibility, but nearly as likely is that Apple continues growing at its current rate. If you don’t explore or acknowledge the continuum of possibilities, you are either a tout or an amateur investor.

http://ARMdevices.net/ Charbax

Of course considering growth is the most important thing. That is why I find it ridiculous to do calculations on P/E etc when the core of the issue is that 70% of Apple’s current profits comes exclusively from the iPhone, and that the iPhone quite simply cannot continue to be as profitable, not realistically as much better and cheaper Android alternatives are to absolutely dominate the market, regardless of theories on carrier subsidies, that business model worked for a few years, now it’s imminently going to be over. Ergo Apple’s decline is inevitable. I’m not going to be able to tell you exactly when the peak is reached and exactly how fast the decline is going to happen, my guess is within 1 year the peak is reached and within 1 year after that Apple’s stock worth is halved.

http://www.facebook.com/serkan Serkan Piantino

I agree, though I think there are two subtle ways the current environment may lead to disappointment

- We’re creating businesses that service other startups, meaning one company’s investor dollars quickly become “real” revenue for another business. This means sneaky correlation and misreading of what’s working

- There may be a bubble in people’s expectations of their own outcomes as entrepreneurs. In other words, even if we’re not misallocating capital, maybe we’re misallocating people.

http://www.cdixon.org/ chris dixon

I think the selling (mainly) to startups risk now but from, what I’ve seen, dependency on revenue from startups is pretty limited, especially compared to 90s where some companies had almost all their revenue coming from other startups.

Re entrepreneurs: I agree there will be a lot of failed startups and disappointed founders. But I also tend to think spending, say, 2 years after college getting an intense education in startups on someone else’s money is a pretty good gig. I think I would have liked to have done that after college if the opportunity was there. I’d expect most of those founders to have more chances to do interesting things in the tech world.

FAKE GRIMLOCK

FAIL FOR 2 YEARS MAKING PINTEREST CLONE MAYBE GOOD FOR PERSON.

NOT VERY GOOD FOR WORLD.

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http://twitter.com/dollarsandpence Shagarie

We are in a bubble… a cash bubble. A lot of cash has sat on the fences for 2+ years and it is now seeking a home where it is sheltered from rising inflation and can receive a healthy return. Bright spots -ex: tech and multi-family real estate- offer the opportunity to do both; they are being chased by cash thus the premiums. As the economy regains its footing and more opportunities evolve, there will be a correction of sorts as money will flow to other sectors. It will not, however, be the cash exodus seen in the late 90s.
In closing it must be noted that technology is causing a paradigm shift and its impact is legit. The companies that add to the value chain will remain and continue to flourish for years to come. There will be some missteps and cash suiside along the way but that is to be expected: fools and their money always part!
Rob K

Chris- Great post. I think there a elements of truth in the “tech bubble” crowd but the sweeping characterization is false. The elements of truth resemble the last bubble, namely that lots of users (“eyeballs”) will eventually be monetized by companies that have yet to figure out their business model (Instagram, Twitter in the early days, Pinterest, etc.)

However, the blanket statement that many are making that it’s similar to ’99/2000 is intellectually lazy. Even if one doesn’t like their business model or their valuation, all of the Internet and SaaS IPOs from the last 2 years have multi-hundred million dollars of revenue and real cash flow (or at least are on a believable path toward cash flow).

Many of the private companies (that you and Fred and other invest in) have strong network effects that make them inherently different than the sock puppet companies from 12 years ago.
http://www.tracecohen.me/ Trace Cohen

From my understanding, a “bubble” has nothing to do with valuations but who is investing in the companies. Most people think investors make money when in fact most of them don’t. Right now it’s still the rich who are putting money into companies, so if they lose it they will be ok. It’s when people who can’t afford to lose money, lose money that we should be worried about. I think the JOBS act will begin to put us down that slippery slope.
Anonymous

so sad y’all call it “tech bubble”…i think the bubble is somewhere else, folks calling those companies “tech companies”…building mobile apps doesnt make you a tech company.

http://www.facebook.com/people/William-Wagner/28900774 William Wagner

McDonalds is a Fast Food Company – but its job isn’t eating the burgers

Anonymous

It’s also not a real estate company because it manages so many real estate around the world. Tech companies are companies who invent, build, and sell technology. most of the “tech” startups today are not technology companies. that i think is overrated and inflated without any proportions.

I do love instragram, but with all the respect, it’s not a tech company. let’s be honest to ourselves.

Chris Dixon