Web 2.0 Bubble - Now entering Stage Two

Bubbles always burst. It is just a question of when, and who gets hurt when they do burst.

TechCrunch says that Automattic (Wordpress) turned down a $200M offer. Read/Write Web says Plenty of Fish, an online dating site, may be worth $1 Billion. Last week Facebook had an implied value of $15 Billion. Not to be left out of the Web 2.0 frenzy, BEA  turned down a $6.7 Billion offer. And New York Magazine says, it may be a bubble but New Yorkers should embrace it. There are lots of good reasons to turn down acquisition offers, and it doesn't necessarily signal that we are in  bubble, but it should give pause for serious thought.

Entering Stage 2 - Bubbles go through predictable cycles. Bubbles emerge from the ashes of despair. It takes a while to gain momentum but eventually greed overtakes fear and we are off on another bubble adventure. The first stage of a bubble is when most smart money declares we are NOT in a bubble...it is different this time. The second stage is more dangerous. Many people agree that we are in a bubble, but it will last another year or two, and there is still money to be made. The third stage is when the bubble has burst but most people are in denial and think it is a temporary set back. The fourth stage is when everyone agrees the bubble has burst and life will never be the same. My guess is that we are now entering Stage Two of the bubble cycle.

I have written about bubble cycles before. My favorites are; "Bubble or normal failure scenario?", and "I'll trade my two $50K cats for your $100K dog", and of course "Fear is temporary, greed is permanent"

Bubbles are always different and play out on different time lines...but they all end the same way. Where we are in the current cycle is debatable. But as Mike Moritz of Sequoia Capital said at the recent Web 2.0 Conference

“The great news for me about these times of enthusiasm is that inevitably there’s a lot of bedlam, undoubtedly there’ll be carnage, there’ll be all sorts of carcasses strewn across the road. But there will also be a handful of companies that will emerge to become very significant. And that’s what working and living and investing in Silicon Valley has always been about.”

Mike Moritz (Sequoia) and John Doerr (Kleiner Perkins) have been very successful navigating through these cycles. The interesting thing is that smart entrepreneurs and investors can succeed at each stage of the cycle. There are always inefficiencies in the market and unmet needs. That is indeed what makes this business so much fun. Good luck!

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Comments

[Don Jones]

I'm a big fan of what Bob Metcalfe said recently - bubbles are great for technology. The reasoning is that they indicate over-investment in a sector, which attracts more kinds of technology development. When it crashes, the smartest innovators pick through the pieces and re-combine them to form great companies.

Bubbles aren't so good for most investors, though.

[devin]

The $1B valuation of Plenty of Fish was purely hypothetical and just a joke. That valuation was made in reference to how much Facebook makes each year vs. how much POF makes each year compared to FBs valuation after $240M was pumped into FB by Microsoft.

BTW, this is NOT a bubble.

Challenge: Historically, how would you say this is similar to the bubbles of past, not just the sentiment of the bubble of last?

Cheerio :-)

[Don Dodge]

Devin, The Plenty of Fish valuation was certainly a joke in my book, but I'm not sure the author or founder feel it is unreasonable. Bubbles always get started by making comparative valuations to other bubble companies and saying "why not me?". That is why I wrote "I'll trade my two $50K cats for your $100K dog". Both are crazy.

BTW, saying "This is NOT a bubble" is clearly Stage 1 of the bubble phase.

This IS a bubble because we are seeing the following;
1. IPOs for companies with no profit, and in some cases no revenue.
2. Valuations for companies that make no sense on any valuation metric.
3. Companies turning down huge acquisition offers in hopes of an even bigger offer in the frenzy.

I think we are in Stage 2, with a year or so more to go. When Google misses a quarter it will mark Stage 3..and the markets will drop like a rock. It will get ugly. But this time small individual investors will not be hurt. It will be the VCs and hedge funds that get hammered.

[G]

Don:

I agree with your hypothesis on Bubble - Stage 2. I would even suggest you are being kind in your timelines. Stage 2, 3 & 4 usually happen in rapid succession. Stage 5 lasts for quite some time.

Whether it is technology, or something - bubbles have the same basic characteristics - much like the current real-estate bubble - driven by the "insane money" fueling the boom - to end up in a bust.

And you are also right regarding the catalyst for the bubble - it is always the good ones like Google who will set the match to the explosives - either as you put it, with earnings suprises, or with potentially failed acquistions like YouTube. No one cares if the a small company hits Arrington's deadpool. It is the big ones that matters to the market!

[hack]

Here's an interesting hypothetical scenario: Google decides to intentionally pop the bubble early (they could easily engineer a big miss by inverting all the accounting tricks tech companies usually use to beat the numbers), then they use their big cash reserves to buy up everything they want on the cheap. Now that I think about it, they'd be fools not to.