Why We Are (And Are Not) In A Startup Bubble

by Matt Straz, Apr 30, 2012, 10:47 AM

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I’m old enough to remember the first Internet bubble, and lately I’ve been having a feeling of déjà vu. While most entrepreneurs and investors seem more disciplined this time around, there are some worrying signs. They include:

Billion-dollar exits. The sale of Instagram to Facebook for a billion dollars when the photo-sharing app had no revenue is being cited as a sign that we are again in a bubble. Others say that Facebook paid only 1% of its market cap to take out a growing competitor. Either way, the deal has changed the expectation of what a great exit looks like.

Pet hotels, car washes and grilled cheese. What do these things have in common? If you said that they are all the basis of a recent startup, you’d be right. It’s a red flag when even crazy ideas get funded. Digiscents -- technology that attempted to make the Internet odiferous -- was a good example of this last time.

Celebrity. Movies, TV shows and websites today are obsessed with entrepreneurs. Gossipy “business” websites build up entrepreneurs and their companies only to tear them down. It makes dot com-era publications like the Silicon Alley Reporter seem quaint by comparison. 

Also, once again the Hollywood elite is investing in startups. And then there are the regular VCs that are trying to become celebrities themselves. Last year, First Round Capital and Foundry Group self produced music videos that may someday serve as examples of the silliness of this era.

Huge early-stage rounds. Remember when Color, the photo-sharing website, raised $41 million dollars last year and then released a product that flopped? Or when AdKeeper raised $42 million so that people could save ads for later? These large, early-stage rounds can create high sky-high expectations and valuations that make it difficult for anyone to make money. Last week Peer39 was sold for half as much money as it raised.

Journalist entrepreneurs. When the most skeptical of our citizens – journalist --catch the startup bug, it’s time to worry. Some former TechCrunch writers have recently been given venture capital to try their hand at being entrepreneurs, including Paul Carr, who wrote about his painful entrepreneurial failures during the last boom in his book “Bringing Nothing to the Party.”

On the other hand, compared to 15 years ago, the startup world has changed for the better. Here are some reasons to believe we may avoid another crash:

Technology is real. In the dot-com days, many businesses failed because technology and consumer behavior wasn’t in place yet to support them. Back then, people got online via dialup modems with computers that had hard drives smaller than today’s removable USB drives. Today, high-speed wireless is the norm, and mobile has finally arrived.

Companies are making money. It’s remarkable how many startups, especially media and ad tech companies, are making $10 million dollars or more in revenue each year. A number have revenue in excess of $100 million. It’s become so common, in fact, that some of these businesses are getting very tame valuations. Back in the dot-com days, companies like US Web would roll up digital agencies at 2.1 times their trailing annual revenues, and other companies would go public with little revenue at all.

B2B is hot. Despite the hoopla surrounding Facebook’s upcoming IPO, the most successful initial public offerings over the past year have been from quieter companies that are focused on the serious work of building solutions for business. LinkedIn, Jive Software and Splunk are all examples of companies that are focused on making business and the economy more efficient.

People remember. The best way to protect from irrational exuberance is to remember how it could all go wrong again. Most veteran entrepreneurs and venture capitalists don’t seem to have forgotten the mistakes they made a decade ago.

How will this economic cycle end? Will we inflate another Internet bubble -- or is everyone still sufficiently chastened from the last go-round to keep things in check?

We’ll find out soon enough.

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