
The Tech Bust of 2015 - runesoerensen
http://blog.samaltman.com/the-tech-bust-of-2015
======
arjunnarayan
This is an excellent post, and I'm in agreement. I particularly like the
counterintuitive point that if NO unicorns go bust in the next 2 years, that's
_more_ indicative of the existence of a tech bubble than if one or two do go
bust [1]. That's contrary to the inevitable media portrayal: I expect that the
first unicorn to blow up will be heralded as the harbinger of end times.

What I would like is for Sam to expand on what he thinks are some of the
pitfalls of this new debt-like financing world. For instance, in the old
equity-only world, it was well known that you could "never do a down round".
This is because down rounds distort incentives to the point where the company
might as well be dead. I suspect[2] that one downside of this "debt-like"
world is that there are "implicit nonzero interest rates"[3] on all these debt
deals. In the old equity-only world, having a flat valuation was bad but not a
disaster. Only the down round was a disaster. I wonder if in this new debt-
like world, the expectations have risen. In this world, even rising valuations
could misalign incentives. I also wonder what those implied interest rates are
at.

[1]: Since NO unicorns going bust means that capital is far too accessible,
when statistically you'd expect at least a couple unicorns to fail.

[2]: I would prefer more expert input because I have low confidence in my
suspicions.

[3]: I put that in quotes because it's somewhat an abuse of terminology.

~~~
vasilipupkin
when you see such high preferences, that is the equivalent of a down round. A
unicorn that is doing very well would not agree to a 2X liquidation preference
at late stage. Which is why I don't think it's a bubble - an indication of a
bubble would be if investors gave a troubled unicorn a bunch of money without
such preferences

~~~
arjunnarayan
I don't think this premise holds:

> A unicorn that is doing very well would not agree to a 2X liquidation
> preference at late stage.

Debt isn't always worse than equity. It is not a last resort source of
funding. For example, if you are bullish, it is better to take debt than
equity. It means you have to share less of the upside. If you believe you're
about to experience a 10x increase in value, it's great to take money with a
2x liquidation preference and a 3x liquidation cap! You get to keep the
remaining 3.33x for yourself. And startup founders are not usually the
pessimistic kind...

I think late stage debt-like investments are copying the leveraged buy-out
model from places like Bain Capital. They do many of these deals on the east
coast: buy a company, load it up with debt, go for aggressive growth. Here is
one example: [http://www.forbes.com/sites/tomiogeron/2013/01/15/sevone-
lan...](http://www.forbes.com/sites/tomiogeron/2013/01/15/sevone-
lands-150-million-from-bain-capital/)

~~~
vasilipupkin
well, sure, but we are talking about late stage. A late stage company
expecting a 10X increase in value without going public? from the perspective
of the investors, they gave up a nearly worthless option on the upside, while
protecting their downside quite a bit, while preserving the positive optics
for the company and employees

~~~
arjunnarayan
Because they are a different class of investor, with a more conservative
outlook. T-Rowe Price doesn't believe in the 10x. It just wants the guaranteed
2x. This is where the "investors are looking for a fixed-income replacement"
part of Sam's thesis comes into play.

~~~
vasilipupkin
perhaps, but T-Rowe Price needs to match a benchmark. So if benchmark rises
10x and they only get 2x, they will suffer quite a bit. More likely, they
expect this company to go public way before hitting the 3x mark.

~~~
vonmoltke
If _benchmarks_ were rising tenfold nobody would want to put money into
startups.

~~~
vasilipupkin
A late stage private co is not really a startup

------
webmasterraj
The major difference between what's going on now and what happened in 2000 is
transparency. Not with what's happening at companies, but what investors are
thinking. That's important, because investor sentiment is the proximate cause
of any bubble bursting.

In 2000, it was easy to gauge investor sentiment – you just had to look at
stock prices, which are real-time, precise indications of how investors as a
whole feel. That meant it was easy to tell when the bubble started to burst
(arguably on March 10, 2000, when the Nasdaq peaked).

What's hard today, and maybe why there's a lot of these "is it a bubble or
not?" stories, is that investors don't know what other investors are thinking.
Sam and YC have consistently been open, but they're more the exception that
proves the rule. The vast mass of investors are holding their cards close to
their chest.

The net effect is to prolong an increasingly unsustainable situation. I think
it's highly likely that most investors already secretly think we're in a
bubble. And that they also believe that other investors haven't realized it
(everyone assumes they're the smart one). So we're stuck in this phase of
"make my last buck before all the other idiots realize what's going on."

~~~
nostrademons
Secrecy actually makes it _more_ likely that terms reflect correct valuations,
as long as each of the firms have independent decision making power and see a
wide variety of deals. See eg. The Wisdom of Crowds, which found that a group
makes better decisions than an individual iff each individual relies on their
own data and comes to their own decision. If one individual unduly influences
others' decision-making (eg. the "YC stamp of approval" which inflates
valuations at demo day), then you get information cascades that can lead to
exaggerated boom/bust cycles. If the parties left in the dark lack decision-
making ability and independent information channels (eg. Theranos), you get
information asymmetry and a market for lemons. But a market where each firm
sees a continuous stream of deals and independently decides on each one
without any regard for its competitors is pretty much the definition of a
competitive market, which implies prices should converge toward accuracy very
quickly. I'd argue that that's much closer to the situation now than it was in
2000.

~~~
webmasterraj
This is a really good point, and explains why later-stage investing seems so
wacky vs early and mid stage. The decisions to invest in later-stage startups,
eg Uber, seem more influenced by other investors and the fear of missing out,
while early to mid stage might steer closer to the independent decision making
model.

------
scottjad
> Companies like Yelp are trading at less than 4 times trailing revenue.

Yelp has a P/E ratio of either 213 or 80, depending on whether Google Finance
or Yahoo Finance have the correct number.

So it's pretty rich of him to use Yelp as his first example of a tech company
that's dramatically undervalued, purposefully ignore the P/E ratio, and then
use P/E ratios for other companies in his next two paragraph to try to claim
that tech is undervalued.

~~~
steveplace
Using p/e to value growth companies doesn't work too well. The "E" in the
ratio changes too fast.

~~~
Ologn
> Using p/e to value growth companies doesn't work too well. The "E" in the
> ratio changes too fast.

In 1934, Benjamin Graham and David Dodd published "Security Analysis" which
laid out the basis of modern thinking on proper fundamental stock price, both
by academics and by mutual fund managers. What you're saying completely
contradicts that.

Something else is forgotten - the real price is not determined by the p/e
ratio but in something even more concrete - the price/dividend ratio. Enron
might be fudging their books, but nothing fudges the quarterly dividends.
Price/earnings is already an abstraction of what determines the real price -
the price/dividend ratio. You're talking about abstracting things yet further
- it reminds me of the late 1990s when people talked about price as related to
"eyeballs".

It's true that a p/e ratio is meaningless when a company is very small -
before product/market fit and so forth. But P/E has forever been used to value
technological growth companies. Technological growth companies are not a new
thing - there were companies like Cisco in the 1990s and like Polaroid in the
1970s. High growth companies have high p/e ratios. It's already abstracted
from price/dividend to price/earnings.

Then there are companies like Amazon, which are a whole other tangent off
this.

~~~
JoeAltmaier
I've heard this idea that dividends determine a stock value, but I've never
believed it. I guess for some definitions of the word 'value', because the
dividend, if any, has little or nothing to do with the bid or ask prices on
the exchange. When dividend time comes near (for annual dividends) the stock
price ramps up by the expected/announced dividend, then poof! it drops by that
price after. So for most of the year the potential dividend is factored in at
nearly zero$.

Also preferred shares issue dividends, right? So all the rest - what is their
'value' by this strange definition?

Folks can pretend there is some holy, true value of the stock that can be
determined from the history of dividends. But good luck buying or selling your
shares based on that number.

~~~
fredkbloggs
Have you ever heard that price is what you pay, and value is what you get?

The people who understand this look at dividends. The rest buy companies like
Amazon for silly multiples.

P.S. Preferreds may or may not pay dividends. The preferreds that VCs get
almost never do. If you own preferreds that do, you probably value them the
way you value anything else: present value of future payments.

~~~
prostoalex
Dividends is just one way of returning money to shareholders. It's preferred
by investors buying stocks for recurring income, as it allows for a simple
buy-and-hold strategy that kicks back some income on a regular basis.

Stock buybacks is another mechanism, and is preferred by growth investors
buying equities out of taxable accounts, as it gives greater control in
regards to capital gains, tax loss harvesting and various other tax events.

~~~
fredkbloggs
Stock buybacks by definition cannot by themselves reward shareholders. They
are by their nature an enticement to become an ex-shareholder, and a reward to
those ex-shareholders.

The fact that remaining shareholders are, ceteris paribus, "entitled" (but not
really) to a larger share of the company's profits as a result is moot if the
board never distributes the profits to them. In reality, you're entitled only
to what the board decides to give you. For my part, if the board wants to buy
me out, I'm happy to take them up on it. The incentives favor becoming an ex-
shareholder, so ex-shareholder I shall be.

------
nostromo
> No one seems to fervently believe tech valuations are cheap, so it’d be
> somewhat surprising if we were in a bubble.

I'm nitpicking a great post here, but I'm not sure this statement is right.

During the real-estate bubble and the dot-com bubble, seemingly few people
actually thought houses or internet companies were cheap.

I think people felt that they were expensive, but they bought them anyway on
the assumption that they would sell to the greater fool.

~~~
danans
I agree that it's a cryptic statement, but I think he meant that bubbles are
characterized by investors believing _irrationally_ that an asset class is
cheap and buying it. Therefore, investors believing that an asset is not cheap
indicates that there is no bubble.

Another way of saying it is that if people are generally skeptical about the
valuation of an asset class, it can't be in a bubble. That does leave one
wondering why said investors would continue to buy the asset, though.

With many bubbles, the thing that breaks them isn't investor worry about
valuation, but the sudden cascade of failure of mechanisms built on top of the
valuations. In the case of the real estate bubble, this occurred because huge
numbers of bad loans suddenly stopped being paid when interest rates went up.
That broke all the financial instruments built on top of them.

~~~
adevine
The problem with this circular logic is that it is an EXACT symptom of what
happened in the housing bubble "Bubbles can only happen when people believe
the price will only ever go up. Look, there are a bunch of people saying
housing prices are too high. Thus, we can't be in a bubble, so I'm safe buying
this shack for the market value of a million dollars."

~~~
TheM00se
I see what you did there.

------
trader
Good article, and I agree with the main points. However, you have to be very
careful comparing PE ratios between companies with different capital
structures, it is wrong. For example, lets take two companies that are exactly
the same, A and B and lets say they should have an enterprise value of $100
and have the same earnings before interest.

Company A is all equity and has a PE of 10 ($100/$10). Lets say company B is
half equity value and half debt ($50 and $50). Lets also say the company is
paying 4% on its debt. Its earnings are lowered to $8, however the PE ratio is
actually 6.25 ($50/$8).

This company isn't "cheaper" it just has a different capital structure. No
measure is perfect, but at least use EBITDA or Unlevered FCF for comparisons.
This is especially important now with the large number os stock buybacks.

~~~
malchow
Totally agree on using unlevered FCF as the comparator.

------
arca_vorago
I don't think you can lump all technology into the same group anymore. There
is a big difference between materials science technology, robotics technology,
big data and analysis, and your run of the mill internet startup.

To me, I would say the industries closer to STEM are far undervalued, and the
internet companies are generally overvalued, mostly because of one other
industry: advertising. These days it feels like the standard model is to get
as many users as possible, secret sell their data to third parties, eventually
start advertising to them, and finally selling out to some corporate
management husk which will take the company under the same name and run it
into the ground capitalizing on the advertising potential, until it collapses
or, if it's lucky, it gets turned into some sort of monopoly (eg, reddit on
posting, facebook on social, linkedin for business social, google for search
and email and big data, amazon for cloud services, twitter for immediate/short
blurb social, etc)

Maybe it's just me, but it seems like most of the net startups just want to
suckle on the teet of big advertising because they have are still so willing
to give that teet out, and I'm hoping eventually this model collapses because
it corrupts some of the important functions of society (eg, journalism).

~~~
hodwik
Case in point, Tobii -- market leader in pupil tracking tech valued at only
$775m. People have no imagination.

------
StriverGuy
Very few people would agree regarding Yelp. Almost no financial analyst worth
a lick would use trailing revenue (instead of net earnings) as a way towards
finding value in a company.

Maybe I am missing why Sam points Yelp out at all here...

~~~
nostrademons
Trailing revenue makes more sense than net earnings when a company has proven
profitable unit economics but hasn't yet saturated its market. At this point,
it always makes sense for the company to reinvest any profits into additional
sales & marketing rather than bank it, because it earns a predictable return
on capital > the market as a whole. A company in this stage will show zero or
negative earnings during the entire growth phase (see eg. Amazon.com), but
future DCF will increase in proportion to CLV of the whole customer base.
Assuming stable CLV, trailing revenues is a pretty good proxy for this metric.

Yelp seems like a fairly good candidate for a business at this stage; its unit
economics are probably known to Sam, but it's doubtful that it's saturated all
local businesses out there.

~~~
rhino369
I think Wall Street is now learning away from treating Yelp as a high growth
company. The question they are asking themselves is whether Yelp is
reinvesting profits or if Yelp just can't be profitable.

Yelps business is a competitive one. Their main revenue generation is selling
ad space to local businesses. They are a yellow pages of the internet.

User growth is slowing. I'd fear that Yelp just can't grow past any
profitability issues. There is only so much money you can make from
advertising.

------
trjordan
This is a pretty solid argument for why tech isn't out of bounds, at most any
stage.

On the other hand, we've had 7 years of 16% growth in the S&P. At some point,
that will correct, and it will have a real effect on tech. We'll all declare
the bubble "popped" at that point, and totally reasonable investments will
fail, or at least become painfully illiquid for a while.

7 years feels like a long time to have a run like this. Just like every other
time, nobody knows when we'll get that correction.

~~~
arielweisberg
My math going back five years says it hasn't been 16% by a decent margin?

Wouldn't P/E be a better heuristic? Either CAPE or just basic P/E?

~~~
trjordan
I've got some serious end point bias going on, but the bottom was ~700 in
March '09, and it's currently at 2,100. Triple in that time is actually 18%
annualized (6.5th root of 3).

There's definitely better ways of measuring "are we near a top", but "length
of bull market" isn't meaningless. There have been a few longer ones, and only
one ('49 - '61) that was nearly this productive at the 7 year mark.

[http://greenbackd.com/2013/04/17/bull-markets-
since-1871-dur...](http://greenbackd.com/2013/04/17/bull-markets-
since-1871-duration-and-magnitude/)

------
d--b
Sam is right in saying that equity deals are more like debt. But the reason
for this to happen is because the interest rate have been held at 0 for a very
long time, and in an economy that has recovered well.

Because of the low interest rate in a healthy economy, every investor would be
ill-advised to invest their money in safe low-yielding instruments such as
treasury bonds. That is why we have seen a dramatic shift of capital from the
traditionally safe rates market to higher yielding sectors, such as tech and
real estate.

That is especially true since there are enough tech companies to pool
investment together in somewhat diversified portfolios, which give a false
impression of safety (remember the CDOs?).

The BIG question is what is going to happen when the Fed hikes the rates in
the course of next year. And what will happen when the US passes a law to
increase taxes on marginal gains.

It is likely that there will be a significant drain of money from the tech
sector, and when the money starts to withdraw, it tends to do so in a pretty
unorganised manner.

We may not be in a bubble that will burst. But we may very well be at the high
point of a market cycle. The problem is not the high valuations, it is the
high appetite for risky investment.

------
ChuckMcM
Excellent post, and the "investment as debt" theme is spot on, who cares what
the valuation is if you get 2 - 3x your money back right? However you do need
some sort of liquidity event for that and I worry that some Unicorns will
become Ponzi-corns as early investors contribute their shares to be re-sold to
the later investors as a way to cash out their 2X and move on. Then its "last
one in, loses everything". Of course a couple of take out re-capitializations
will probably put a damper on some of that zeal.

Mostly the people being screwed here are employees with 100% common stock.
That argues that high value employees should be negotiating for preferred
stock grants rather than common stock ISOs. That will come with a bigger tax
bill but has a better chance of providing a return on their sweat investment.

~~~
steven2012
The only "last ones in" will be the retail investor when they eventually go
IPO. That's always been the case, just like with GroupOn, Zynga, etc. The VCs
and IBs will hype up the company, and then they get their mutual fund buddies
with huge piles of cash to pay up for the IPO in exchange for early access to
the next awesome company, and these crappy companies get unloaded to the
retail suckers.

That's how the industry works, but no one seems to care, because there are no
consequences, and the incentives are such that no one cares if the retail
investors lose a bit of money, and VCs and IBs get massively wealthy.

~~~
ChuckMcM
Except that the future of Unicorns is not an IPO, its being sold to BigCo for
a fraction of their Valuation which pays off some of the investors but fails
to trickle down to the common stock. Or like with companies like SilverSpring
there is a massive reverse split to get the the number of Common Stock shares
down to a number that represents what the current market might pay leaving
employees with pre-IPO stock options where the strike price is _above_ the IPO
price. How is that not a ponzi scheme?

~~~
steven2012
Reverse split happened to Hortonworks as well. Lots of employees got
completely screwed by this because the sheer number of their options were cut
in half.

------
mikeyouse
> I saw terms recently that had a 2x liquidation preference (i.e. the
> investors got the first 2x their money out of the company when it exited)
> and a 3x liquidation cap (i.e. after they made 3x their money, they didn’t
> get any more of the proceeds).

But doesn't the 3x liquidation cap only come into play if the total exit is
less than 3x? In my understanding, if the exit is greater than 3x the invested
value, they then convert their preferred shares to common shares and receive
their >3x proportional share in common stock thus retaining the upside of the
investment.

~~~
sama
No, that's when the 2x comes into play. In this scenario, the investor gets
the first 2x, and then after 3x doesn't make any more money.

~~~
mikeyouse
Oh wow, that _is_ unique and very debt-like. My experience was closer to a 3x
participating preferred.. Thanks for the clarification.

------
quickpost
I feel like the lofty valuations of very early-stage companies these days
really creates an unfair dynamic for early employees. I've seen people
claiming $5MM valuations for fancy powerpoint slides and no product, which
seems really high to me.

The founders then recruit people and give out equity based on these sky-high
valuations despite no product or real offerings. Early employees end up
sacrificing significant pay in exchange for equity that is priced far higher
than it actually should be.

------
awwstn
> "No one seems to fervently believe tech valuations are cheap, so it’d be
> somewhat surprising if we were in a bubble."

Is this true? I know that high valuations are getting tons of press and shock
in the public, but it seems like VCs, Wall Street, and the general population
are racing to get their money into startups _despite_ the high valuations
everyone is talking about. So to me, that would indicate that many people do
fervently believe tech valuations are cheap.

I think where we put our money is probably a better indicator of what we
believe about a market than what we say, and I get the sense that many of the
people who are saying valuations are high are the same ones pumping millions
of dollars into every startup they can.

------
snomad
> 2015 has seen the lowest level of tech IPOs as a percentage of all IPOs in
> seven years.

Healthcare and finance are leading the IPO percentage. That seems to reflect
new opportunities created by legal changes (ACA + Dodd-Frank). I'm not sure
you can draw much of a conclusion about tech bubble status because regulatory
changes have fostered growth in other industries.

> The S&P Tech P/E is lower than the overall S&P P/E. Neither of these facts
> seems suggestive of a tech bubble.

Overall tech P/E may be low, but the recent names are filled with companies
that are not making profit, and don't appear on a path to do so over the next
few years. Examples: Pandora (-0.65 eps), LinkedIn (-1.15 eps) and Twitter
(-0.86 eps), Zynga (-0.20 eps), Trulia (-1.82 eps) and Zillow Group (-2.47
eps), Box (-1.66 eps), Etsy (-1.02 eps) and Shopify (-0.23 eps).

(To be fair, there are "winners" Facebook, Kayak, GoPro, Fitbit).

I'm not sure you can draw a conclusion about a tech bubble by looking at
entire sector. Recent names seem to justify the "unicorn" meme.

------
DigitalSea
Call me a cynic, but is it not in the best interests of Sam to tell us
everything is alright? Obviously any kind of tech bubble would affect Y
Combinator and some of the startups they have invested in.

When was the last time a bank was honest with customers and told them that
things were bad? Bad news causes panic and panic makes things worse.

------
rl3
I wonder what the thinking is behind deals like that (2x liquidation
preference/3x liquidation cap).

On one hand, it strikes me as incredibly beneficial for the founders if the
company is a runaway success.

On the other hand, the VCs are essentially throwing away their unlimited
upside potential, and in doing so signalling they don't particularly believe
in the company.

There's also the fact that the terms are very unfavorable for founders if they
exit at anything below a stellar valuation, though one could argue the entire
point of the game is to achieve an incredible exit.

Still, when incentives aren't aligned it's disconcerting.

~~~
tyre
These are specifically in late-stage deals, like Uber's recent rounds.

The investors aren't traditional VCs, but companies like Fidelity. They don't
want a 5% chance at a 100x return; they would much rather a near-guarantee of
2-3x with downside protection. That's why Sam compares them with fixed income.

~~~
vasilipupkin
it's not clear why Fidelity would want a cap on the upside, since it needs to
beat an index. Most likely, it doesn't think it's giving up any upside.

~~~
caseyf7
They give up the upside because they have protection from the downside (they
get their money back first).

~~~
vasilipupkin
I understand, I'm saying I don't think they believe they are giving up much
upside at all

------
Patient0
"I saw terms recently that had a 2x liquidation preference (i.e. the investors
got the first 2x their money out of the company when it exited) and a 3x
liquidation cap (i.e. after they made 3x their money, they didn’t get any more
of the proceeds)." Can someone explain mechanically what this means? i.e. What
is the payoff under each scenario?

Edit: this link seems to explain it well [http://www.businessinsider.com/how-
liquidation-preferences-w...](http://www.businessinsider.com/how-liquidation-
preferences-work-2014-3?IR=T)

------
memossy
This is a very good piece, particularly: "In a world of 0 percent interest
rates, people become pretty focused on finding new sources for fixed income"

The amount of money coming to pay up for growth/quasi fixed-income is almost
certain to increase as there are a lot of investors who need to hit 7-8%
nominal returns in a 0% rate world: [http://www.ecstrat.com/research/why-
large-funds-are-piling-i...](http://www.ecstrat.com/research/why-large-funds-
are-piling-into-pe-vc/)

------
dionidium
_And I think that the entire public market is likely to go down—perhaps
substantially—when interest rates materially move up, though that may be a
long time away._

Can someone EL5 this? Arguments that seem plausible (to me):

1) higher interest rates make borrowing more expensive

2) higher interest rates make less risky investments more attractive

3) something hand-wavy about inflation and the role higher-interest rates play
in combating it (or, more precisely, the signal that sends to the market)

~~~
cmpxchg
The conventional wisdom is your #2. The idea is that for the past 6 years,
interest rates have been close to zero, and as a result, people who would
traditionally want to park their money in bonds have been forced into equities
just to get _any_ (non-zero) return. This is particularly true for investors
like pension funds that need to show a certain return each year or else the
manager gets fired or does not receive a bonus.

The other issue is that Fed monetary policy tends to work with a lag of ~18
months. In other words, once the Fed starts a cycle of raising rates,
recession or slow growth are the expected outcome -- not immediately but
within 1-2 years following the rate increases. (Why? The reason is because
borrowing costs increase for businesses -> they hire fewer workers -> more
unemployment -> recession, etc.)

These are general rules of thumb, not hard rules, obviously. Also, the
conventional wisdom that reigned supreme between the 1960s - 2009 may or may
not hold in the future. Monetary policy has changed dramatically in recent
years, and I think it's safe to say that no one is quite sure what will happen
when the Fed raises rates. Some question whether they even _can_ influence
market interest rates anymore [1].

[1] [http://www.nytimes.com/2015/09/13/business/economy/the-
feds-...](http://www.nytimes.com/2015/09/13/business/economy/the-feds-policy-
mechanics-retool-for-a-rise-in-interest-rates.html)

------
vasilipupkin
if people aren't buying the late stage common stock at high valuations, then
how can it be a bubble in late stage valuations ?

it sounds more like a bubble in tech press reporting of valuations ?

------
herdrick
"There is a massive disconnect in late-stage preferred stock, because if
you’re using it to synthesize debt it doesn’t matter what the price is."

Actually, price is crucial with this weird 'debt' since you're betting on the
cumulative probabilities of hitting your liquidity preference and liquidity
cap numbers. (Really it's an integral over that range, but whatever.) Whereas
in equity venture investing the power law distribution of returns dominates
linear optimizations of price.

Thanks for reporting on this. I don't think many people knew about this insane
liquidation straddle instrument. I sure didn't.

------
gizi
Tech companies, no matter how large, are so incredibly founder-dependent. You
are not buying into Facebook but into Mark Zuckerberg. You are not buying into
Google but into Sergey Brin or Larry Page. With Steve Jobs gone, you are
buying into a total lack of vision, called Apple. There are no tech bubbles or
tech busts. The type of persons mentioned are entirely oblivious to them.
Bursts or bubbles do not affect their vision or their ability to execute in
the least. Avoid investing in a weak personality at the top, and then you can
ignore the entire market.

~~~
yuhong
To be honest, Apple was able to make a profit before the iMac:
[http://investor.apple.com/secfiling.cfm?filingid=320193-98-1...](http://investor.apple.com/secfiling.cfm?filingid=320193-98-1&cik=320193)
(and yes I think most of the listed stuff was doable under Amelio)

------
the_watcher
The equity structured so that it's effectively a debt point is a really good
one to make. "Valuations" and "venture rounds" are often not really comparable
between companies.

------
birbal
This is a bit of shameless plug but i think quite aligned with Sam's post but
makes a slightly different argument. [https://www.linkedin.com/pulse/we-have-
been-bigger-tech-bubb...](https://www.linkedin.com/pulse/we-have-been-bigger-
tech-bubble-than-now-another-obligatory-ganti?trk=prof-post)

Would love to get critiqued by this uber smart and opinionated crowd here.

~~~
nl
_I’d argue on-premise software, as a category, was a bigger bubble than what
we have today in tech. It delivered little value to the end-user but the
companies that sold them were commanding huge valuations for years because of
the huge margins that they were able to charge._

Wow. Well that's a pretty strong claim. I'd really like to see some kind of
proof.

Unless I misunderstand you, you are claiming that companies like Microsoft,
Oracle and SAP were (are?) overvalued.

You are also claiming that their software delivered little value.

Those are some pretty bold claims, and I don't think you've made the case well
enough for them to stand up.

I think that you point about usage being a good indicator of future revenue is
somewhat correct, but the really valuable analysis would be to show the types
of services where usage is a good indicator of future value and ones where it
isn't.

Eg:

Free file sharing? Not a good indicator

Social platform? Good indicator

~~~
birbal
I think my points are made at a macro level and not at a specific company
level. There is no fool-proof proof to any business/economic hypothesis.
Oracle, MSFT and SAP aren't the only companies that make up on-prem software.
But even with these companies shelf-ware is rampant. It took large internet
companies to come up with competitive stacks to break these virtual
monopolies. Having said that your point on making a stronger case is well
taken. My bigger point is that the the current trend is less of a bubble than
the era of on-prem software - this is a macro level observation. There were
company level bubbles then and there are now. I am not commenting on specific
companies here at least.

~~~
nl
A business model that has been overtaken by technology changes isn't a bubble.

------
sjg007
1\. JP Morgan will allow retail investors to buy at the IPO price on deals
they lead. 2\. Big mutual funds etc.. are buying in at later stage private
financing rounds. 3\. Many tech stocks are off their IPO price. 4\. There is
preferred stock, ratchets and lots of other ways to get a specific return at a
specific IPO price or to even support an IPO. 5\. In regards to #1 one has to
think about who the greater fool is.

------
anigbrowl
_2015 has seen the lowest level of tech IPOs as a percentage of all IPOs in
seven years_

I'm thinking back to the _Economist_ article of a few weeks ago about the
future of corporations, discussing how much easier it is to raise capital and
stay private these days, so there's not that much incentive to IPO and have to
deal with all those quarterly earnings calls and so on.

------
hack_mmmm
I think we are going to witness harder times for unicorns, in general, in the
up-coming years. I agree with Sam with most of his points, but I do think
there are few startup valuations that seem crazy at this moment. Those
valuations will be self corrected in the course of few years or so.

------
siquick
> Many of the small cap public tech companies have taken a beating this year.
> Companies like Yelp are trading at less than 4 times trailing revenue.

Could someone explain what this means please? Is Sam saying that the stock
price of Yelp is lower than what is actually should be (based upon revenues)?

------
hackguru
True. I am cautious to say this, but if one of these over valued unicorns like
Uber dies then I think the psychological effect would be similar to a bubble
burst. It would tight up the capital flow to a great extent even for solid
companies

~~~
prostoalex
Any time you see Fidelity, Morgan Stanley, Coatue or T. Rowe Price names in
the funding rounds, 1x liqudation preference is usually a bare minimum for
those guys to get involved. Their investors will get their money back, and
even if after all is said and done it's 1x, hey, we're in a low-rate
environment.

Funds tout access, investors have downside protection with a potential of
upside surprise, few people that do get nasty surprises are employees of those
companies finding themselves staring at the ever-increasing number of newly
minted shares to satisfy ratchet conditions and subsequent dilution of
everyone else (case study on this is NYSE:BOX).

------
cdnsteve
Maybe the problem isn't the companies or industry but the markets themselves.
Going public isn't needed anymore. So why bother? Using publicly traded
companies as a market radar is flawed.

------
dthal
The point about the late-stage investments being not-really-equity is a great
point. So my question is: why do financial journalists just about always miss
it when they write about tech unicorns?

------
WalterBright
I've ridden two tech bubbles up, down, then up again. I wish I was able to
time the market, but alas, I am not and so settle for patient long term
investing.

------
lmm
I might want my wealth in tech stocks. But I sure as hell wouldn't want my
wealth in advertising-funded stocks. How many tech companies have any other
revenue stream? What does the landscape look like if 2016 is the year that
Twitter finally runs out of other people's money?

If you'd invested on demo day you'd be happy with current valuations, sure.
But that just means the valuations are as high now as they are then. How many
unicorns have repaid their investors in terms of dividends?

Altman is right that there's been a cooling off in 2015, and right that it's a
positive sign - we may yet avoid a dramatic crash. But that doesn't mean there
isn't a further contraction to come. We could just be seeing stagflation
finally catching up to the tech industry.

~~~
tptacek
This is a weird thing to say. Look at the Fortune "Unicorn list" (the first
Google hit I get for [unicorn list]):

1\. Uber (not ad-funded)

2\. Xiaomi (not ad-funded)

3\. Airbnb (not ad-funded)

4\. Palantir (not ad-funded)

5\. Snapchat (ad-funded)

6\. Didi Kuaidi (not ad-funded)

7\. Flipkart (not ad-funded)

8\. SpaceX (not ad-funded)

9\. Pinterest (ad-funded)

10\. Dropbox (not ad-funded)

11\. WeWork (not ad-funded)

12\. Lufax (not ad-funded)

13\. Theranos (not ad-funded)

14\. Spotify (not ad-funded)

15\. DJI (not ad-funded)

16\. Zhong An (not ad-funded)

17\. Meituan (ad-funded)

18\. Square (not ad-funded)

19\. Snapdeal (ad-funded)

20\. Stripe (not ad-funded)

It just keeps going like this. These aren't even ad-ecosystem companies. I'm
not sure how far down the list you'd have to go to find an adtech firm.

~~~
pen2l
Meituan is not ad-funded. Spotify - eh, that's one's a 50/50\. I think more
people use the free version of Spotify with ads than people who pay for it.

Also, I love uselessly speculating! So, here's the list with speculation as to
whether the unicorn will last in the next 5 years or wither away:

    
    
         1. Uber         -     will be alive and be doing extremely well
         2. Xiaomi       -     will be alive and doing moderately well
         3. Airbnb       -     will stay,  regulations will put a damp on its operations
         4. Palantir     -     will downsize; other companies will emerge and compete with it
         5. Snapchat     - (ad-funded) will fail to find a sustainable monetization model
         6. Didi Kuaidi  -     (Chinese 'Uber' clone) will be alive and well
         7. Flipkart     -     (Indian e-commerce site) will be alive and well
         8. SpaceX       -     will fail
         9. Pinterest    - (ad-funded) will stay just barely, will downsize
        10. Dropbox      -     will fail
        11. WeWork       -     (home:AirBnB::office space:WeWork) will be alive and well
        12. Lufax        -     (Chinese finance marketplace) will be alive well
        13. Theranos     -     will fail
        14. Spotify      - (~ad-funded) will fail
        15. DJI          -     (Chinese company that creates unmanned aerial vehicles) will downsize
        16. Zhong An     -     (Chinese online insurance firm) will be alive and well
        17. Meituan      -     (Chinese retail service site) will stay but not strongly
        18. Square       -     will fail
        19. Snapdeal     -     (India's shopping site) will be alive and well
        20. Stripe       -     will be alive and be doing extremely well
    

edit: formatting

~~~
LoSboccacc
Dunno Dropbox has really low friction in usage and a premium tier that's
actually being paid by professionals.

Maybe will downsize, but competition doesn't look as good. Will not go away
until people have a better featured, less costly replacement.

~~~
jmnicolas
Dunno too : why would you pay for Dropbox when you have OneDrive if you're on
MS ecosystem, iCloud when you're on Apple ecosystem and GDrive when you're on
Google ecosystem. They all offer more than Dropbox (better integration, Office
suite etc).

~~~
LoSboccacc
I know designer use it because it's dead easy to collaborate, whether with
other designers (mac on mac) or clients (which may or may not be on macs)

but that's one use case I'm biased toward coz I see them every day using it
that way.

------
roymurdock
_On the whole, it seems harder than any time in the past four years to raise
mid-stage rounds. This is also not suggestive of a bubble._

It's suggestive of the end of a bubble, when the music stops and the last
investors who have not yet exited are left without a chair. If any part of the
path to exit breaks down, the whole system will start to fail.

 _There are real problems with these distorted "valuations". Employees these
companies hire often think of them as real valuations. It also often makes the
company think of itself as much bigger than it is, and do the wrong things for
its actual stage. Finally, too much cheap money lets companies operate with
bad unit economics and cover up all sorts of internal problems. So I think
many companies are hurting themselves with access to easy capital._

Sounds like Sam has (unwittingly) become an Austrian. Friedrich Von Hayek on
inflation (1970): "The initial general stimulus which an increase of the
quantity of money provides is chiefly due to the fact that prices and
therefore profits turn out to be higher than expected. Every venture succeeds,
including even some which ought to fail. But this can last only so long as the
continuous rise of prices is not generally expected. Once people learn to
count on it, even a continued rise of prices at the same rate will no longer
exert the stimulus that it gave at first." [1]

Sounds a little bit like QE stimulus which has been channeled into the private
financial markets. I wonder why it hasn't translated into higher salaries.

 _But no matter what happens in the short- and medium-term, I continue to
believe technology is the future, and I still can’t think of an asset I’d
rather own and not think about for a decade or two than a basket of public or
private tech stocks._

I'd rather own real estate than a basket of private tech stocks, especially if
that basket includes Facebook, Twitter, Snapchat, or really any company where
user growth rates and advertising revenues are heavily informing valuations.

Users can and will migrate between tech platforms pretty easily - homes,
offices, businesses - not so much. Plus, the government has been very pro-
landlord lately, soaking up trillions in mortgage debt at the federal level
and allowing insane housing bubbles like SF and NY to continue to grow
unabated at the state level. Looking for fixed, usury income in a ZIRP and QE-
infinity world? Look no further.

The only consolation one can take in this situation is the fact that less and
less people are even able to play the investing game anymore. Only 26% of
individuals under 30 are investing in the stock market, as compared with 58%
between the ages of 50 and 64 [2]. So now the SEC wants to make crowdfunded
equity the new way to channel middle and lower class money into risky ventures
[3].

What's a poor young guy to do?

[1] [http://www.marketwatch.com/story/why-most-millennials-
dont-i...](http://www.marketwatch.com/story/why-most-millennials-dont-invest-
in-the-stock-market-2015-04-09)

[2] [https://mises.org/library/denationalisation-money-
argument-r...](https://mises.org/library/denationalisation-money-
argument-r..).

[3] [http://www.nytimes.com/2015/10/31/business/dealbook/sec-
give...](http://www.nytimes.com/2015/10/31/business/dealbook/sec-gives-small-
investors-access-to-equity-crowdfunding.html)

~~~
yarou
There is a country that is the poster child of fast and loose monetary policy
- Japan.

No matter how many rounds of QE, the Japanese economy has yet to grow in real
terms. [1]

This is further exacerbated by the fact that the younger generation are not
marrying and having children, which leads to a demographic nightmare.

Overall, the USA's future is looking a lot like Japan's present day situation.

The solution is to return to the original Bretton-Woods system, where
countries had a fixed interest rate regime tied to gold (or cryptocurrency,
whatever commodity works best in this modern era) instead of the dirty float
systems that are routinely used around the world.

[1]
[http://data.worldbank.org/indicator/NY.GDP.MKTP.KD.ZG](http://data.worldbank.org/indicator/NY.GDP.MKTP.KD.ZG)

~~~
wbl
That's just not true. Japan had extremely low inflation for 20 years, showing
that the central bank wasn't expanding the money supply anywhere near fast
enough. If the central bank really was increasing the money supply, but not
real GDP, there would have to be inflation due to the velocity-of-money
equation.

Japan's real problem has been a failure to deregulate the economy. It's
essentially trapped in the 1970's, but without the inflationary crisis and
political moment that produced the Thatcher and Reagan era reforms.

(Source of inflation data [http://inflationdata.com/articles/historical-
inflation-rates...](http://inflationdata.com/articles/historical-inflation-
rates-japan-1971-2014/))

~~~
yarou
I may not have been clear in my earlier reply, but I am not really talking
about inflation.

Rather, I am providing an example that demonstrates the futility of
expansionary monetary policy when an economy hits the liquidity trap.

I agree that Japan's economy is not deregulated in the sense that there is a
high degree of nepotism between politically-connected families (especially
those that have ties to organized crime or right-wing nationalist groups) and
elected officials.

------
pbreit
Does anyone know what the common stock valuations (or 409a valuations) even
are for the big, later stage companies?

------
ThomPete
Tech companies in general are underated.

One of the things that is going on IMO is that the media in constant need for
something to write about started honing in on startups because their growth is
much more steep and create a lot of notable events they can write about.

And so when we hear about companies being overvalued it's a specific group of
companies who give us that impression.

------
chris123
The post comes across as biased (and wrong).

------
gesman
Excellent post. Confirms my original vision.

------
marincounty
Whenever I see a Top Dog defending their industry--I worry.

I don't know if it's a bubble. I'm so bad at predicting the financial future,
I looked onto something called a Contrarian Investor. If I had money to
invest, I think I would do the ablosute opposite of what the experts advise.
While I terrible about predicting bubbles; I, along with most people predicted
the last tech bubble. I know certain tech companies are very different today.

I don't want to argue with anyone. I'm a nobody. These are just my
uneducated/novice inner thoughts. I do know the people around me are
underemployed, and too many just stopped looking for work. They haven't
benefitted from this recovery. They didn't benefit from low interest rates.
The low interest rates just hurt guy's like me. The bank charges me for
everything. Rent is always going up. Fines, and fees go up, while my salary
stays stagnant. I make nothing on my savings account. I am greatful we don't
have much inflation though. I am greatful for health care, but it's not what I
thought it would be. I'm not knocking Obamacare, just the enetites that are
exploiting it. I couldn't imagine being in a state where the governor declined
funds from Obamacare.

Yes, tech is booming, and I hope it stays booming. Being in the Bay Area, I
see the amount of money tech is bring in. I see rents skyrocketing. I see
houses being bought up for outrageous amounts. (I'm not claiming tech is the
only reason housing is going up in cost. I see REIT's and foreigners buying
residential properties with a phone call.)

I just don't know. It's Monday, and I don't feel great. If it is a bubble, I
pray it leaks, and doesn't burst. Sorry, about this post. I'm all alone today,
and this is my port hole to others. I know--I'm pathetic.

------
venomsnake
Can't we both be in bubble and bust? They are not mutually exclusive. We have
just too much money and excess capital chasing limited investment
opportunities - so this creates bubbles.

On the other hand the increased inequality and concentration of capital in
fewer hands means that a lot of financing strategies are performing worse and
capital is less efficiently allocated.

For example - if the optimal allocation of $1B USD is 1000 investments of $1M
- we could have that outcome if the capital is split between 300 people each
having 3.33 million.

But a single billionaire will prefer to make 10 100M investments, because the
cognitive overhead of taking so much decisions will wear him down.

~~~
nostrademons
An individual doesn't have to be rational for the system as a whole to be.

In your example, that billionaire's 10 $100M investments will underperform.
Meanwhile, some of the 300 people who each invested $1M will overperform. As a
result, in the _next_ round of capital allocation, the billionaire is no
longer a billionaire while some of those single-digit millionaires are now
billionaires.

This is actually not all that far off from how things are actually working
right now - a number of people from humble middle-class backgrounds are
getting phenomenally rich because they understand tech and make smart capital
allocation decisions, while a number of rich billionaires who can't be
bothered to update their mental models are riding their companies all the way
down.

All of this is capitalism working as intended. It's only a "bubble" if
_everybody_ is a winner; it's only a "bust" if _everybody_ is a loser. Normal
operation in capitalism is for there to be both winners and losers.

------
denniskane
"No one seems to fervently believe tech valuations are _cheap_ , so it’d be
somewhat surprising if we were in a bubble."

Is this a typo?

s/cheap/expensive/ would make more sense, no?

~~~
CyrusL
The implication is that bubbles require optimistic groupthink. I.e., if
everyone thinks it's a good time to buy, then it's a bubble.

Sama's point is that because so many people are saying tech stocks are
expensive then there isn't the mass delusion required for a bubble.

~~~
denniskane
Wow, okay... the first sentence reads so straightforwardly and the following
one is like some kind of reverse judo takedown maneuver. The essential point
is to correctly interpret who exactly the "no one" in question is referring
to.

~~~
nailer
Literally nobody. Sam is saying most people think tech valuations are
expensive, i.e., they are overpriced.

------
idibidiart
The market has some sort of bipolar disorder.

