Facebook worth $76 billion, more than Boeing ($57.9 billion) or Ford ($57.8 billion)? LinkedIn, a Facebook for professionals, worth $3.3 billion, 200 times 2010 profit? Microsoft pays 400 times operating profit for Skype, where only a tiny minority of registered users pay anything. What’s wrong with this picture? Does this remind you of anything?
How about the dot.com bubble, which peaked roughly when the guys with pocket protectors (AOL) bought Time-Warner, deal that in retrospect destroyed more nominal value than any in human history.
But it is different this time, say the World Wide Web 2.0 bulls. And they have a point. Facebook and LinkedIn have millions of registrants and generate growing revenue. In the dot-com bubble, money was thrown at any entrepreneuer with an idea who could fog a mirror.
Another difference, as the Economist notes in its leader (editorial essay) in the issue cover-dated May 14, is that the bubble for the most part is occurring in private markets. That’s because these new dot.coms prefer to stay private, partly to avoid the filing requirements and other red tape associated with public ownership, partly because money is avaiable in private markets, partly because founders prefer to keep their stakes undiluted while valuations are still rising.
But as the Economist reminds us, the boom-and-bust cycle has not disappeared.
Facebook may turn out to be the next Google, and LinkedIn has a fairly solid revenue plan. But they will be followed by less robust outfits—the Facebook and LinkedIn wannabes—with prices that have been dangerously inflated by the [private angel investors’] antics.
One of the trouble with bubbles is that until they burst, people who act rationally look like fools. Those who don’t drink the Kool Aid can look like fools for a long time. A famous financial axiom has it right: Any market can remain irrational longer than you can remain solvent. As the Economist says:
Irrational exuberance rarely gives way to rational scepticism quickly. So some bets on start-ups now will pay off. But investors should take a great deal of care when it comes to picking firms to back: they cannot just rely on somebody else paying even more later.