The latest craze in prices of private companies suggest a small group of investors can and are manipulating the market. And, that could portend dangerous times ahead. While many say this time is very different from the bubble years. A look back shows there's actually some similarities too.
Recently, my son Marcus was organizing old books and reports in our garage. As he cleaned out the garage, I noticed two boxes that were pretty dusty. I called them my "Bubble" boxes. In them were stacks of research reports from during the Internet bubble, including one from Morgan Stanley, titled: "The Internet Company Handbook."
Mary Meeker, now a partner at Kleiner Perkins, authored that report, along with her team. At the time, Mary was referred to as Queen of the Net (Yes, 'Net' was our shorthand for these hot stocks, which sounds so outdated today. And I still have that Barron's issue with her on the front cover! Yes, I'm a pack rat.)
I'd been meaning to dust off this report ever since LinkedIn went public to an eye-popping $10 billion or so. After all, LinkedIn's performance was the first time those who experienced the bubble circa 2000 felt a bit of deja vu. I know I did.
Most supporters of the current valuations would argue that today's companies are far more profitable and generate far more revenue. They say there's actual businesses here with actual people engaging and consuming content and services daily. Indeed, in that Morgan Stanley report, Pointcast was the No. 1 Internet site with 288 million pageviews per month. I saw recently that Facebook is generating 770 billion pages a month.
I even argued in support of LinkedIn's valuation in, "Why LinkedIn's value may not be so crazy."
But there are some similarities between the top Internet darlings a little over a decade ago and the top social networking darlings of 2011.
The above figures are from the Internet handbook. These were the top 10 Internet companies, based on market cap. Notice how America Online was $100 billion-plus. Interestingly enough, we believed America Online (it hadn't changed its name to AOL yet) would rule Internet world. We also believed Amazon was the least likely to have upside. And, today, Amazon is worth nearly $100 billion.
The average market cap figure for those companies, excluding America Online, was $14 billion. The average revenue was $316 million and the multiple (including America Online) was 64 times. More notably, many of these companies were profitable.
But if you look at today's social-networking startups, they're sporting very similar figures. What's most interesting is the revenue that some of those companies were generating. The average revenue for these companies, excluding Facebook, is $461 million. And, we're missing a lot of data here since many of these companies are private.
The market caps and the revenue multiples are also not that far off.
One could say, well, "There were about 250 Internet stocks that went public, with little or no revenue at all." Indeed, there were many of those companies. Paul Martino of Bullpen wrote a blog that pointed to a great paragraph from an old Forbes article that illustrates that point.
“On last year’s Market Value list, 59 companies had valuations over $5 billion but revenues under $100 million. The most egregious example: InterTrust Technologies, which boasted a capitalization of $6.9 billion but had only $2 million in sales.”
But fortunately, you could look at those numbers and evaluate. They were public. Today, most of these trades (if I can call them that) are happening privately. And, while the valuations assigned may not be egregiously rich, they are expensive. There is some semblance of the brain detaching itself from reality. Or as Mark Suster, LA-based venture capitalist at GRP Partners, put it in a recent articlet: "I believe some VCs have entered the early-stage market as simply an option on future financing rounds. I doubt this will end well for those VCs or for the entrepreneurs they back. I don't think purely option-based investing in startups suits the long-term brand of the investor... It feels more opportunistic than an investment strategy... And, of course, hedge funds and growth-equity funds can't resist trying to get earlier-stage exposure again... In a bull market, many players see drift in their activities."
Indeed, recently Tiger Global Management invested side-by-side Kleiner Perkins for the $100 million round in Square. Those are not typical syndication partnerships.
Not only are roles being shifted around, increasingly, many of the trades will happen in secondary markets, which brings the kind of risk people are willing to take to a whole new level.
As a friend of mine said: "it shows an entirely new level of risk taking when people are not only willing to pay crazy revenue multiples for companies, but also willing to get caught holding illiquid stock since private markets are a lot more illiquid than public ones."
And, we're also just getting started.
(Tonight Vator and Bullpen will be holding its first-ever evening gathering, called Venture Shift. It will gather top VCs, angels and entrepreneurs to discuss how the venture landscape is changing, and what to do about it. Join Peter Thiel (Founders Fund), Randy Komisar (Kleiner Perkins), Dave McClure (500 Startups), Jeff Clavier (SoftTech VC) and many more from August Capital, AngelPad, First Round, etc. Check out our standing-room only event here.)