Last week Sophie and I talked about potential topics for the upcoming blog post. Again, I was the one freaking out, because I had no idea what to write about. Sophie had no topic for me either, but she advised me to read the Economist or something similar. Long story short (as good old Westphal would say 😉 ) : I read through some articles of The Economist, was linked to The Washington Post where I suddenly read something about a dot-com bubble and hence became so eager to finally understand the whole process of it that I spent my Saturday night (!!!) with reading blogs, The New York Times and even WordPress.
Now, let me ask you: Do you know what the dot-com bubble is about? No? Then make sure you continue reading!
Alright, reading the heading, the first two questions that should come to your mind should be:
What is meant by a dot-com bubble? and Why is there probably a new bubble?
In the late 1990s the Western stock market witnessed a tremendous increase due to the Internet and Technology boom. At that time Internet companies, especially those with a dot-com suffix were rated a good investment. With more and more people buying shares, the value of a company was increased, sometimes even overvalued. But the truth was, companies had to face serious losses, since their revenues were utilized in advertising spends. Thus, they invented new obscure measurements like eyeballs (to display the number of people visiting the page) and mindshare (to show how well-known the page was among users) since most of the speculators were interested in how fast the business could expand instead of caring about revenues. Of course all the eyeballs couldn’t substitute for a feasible business model, hence the upshot was the revelation that these businesses truly only had a website-name, without any revenue. After realizing this, the bubble burst, the market went down and lot of companies went out of business.
Now that you (hopefully) understand the basics we can dig deeper, wondering
what is going on right now in the business and stock market world so that economists fear a new bubble?
In his article David Sirota, a journalist, who also hosts a morning show in Colorado, describes the current overvaluation of LinkedIn, a kind of facebook for professionals, as follows: “[LinkedIn] has only about 1,300 employees and generates only about $2 in revenue for every user it claims, but after its stock’s first week of public trading, the company’s ‘market value per employee was almost $7 million and about $87 per user.'”
He then realizes that the company is only as valuable as mass’ purchasing power. Thinking of that one can clearly see that this applies to other businesses, too, like Pandora, another Internet company economists refer to in their argumentations.
Basically they offered 14.7 million shares at $16 each when they got listed in the NASDAQ. Then they opened at $20 but fell back to $17.42 at the end of the day. Nevertheless, according to Michael J. De La Merced , who covered Wall Street and finance for the NYT, Pandora’s value is marked by skepticism, since “the more songs users listen to, the more Pandora pays in royalty fees, prompting some to question whether it will ever turn a profit”. This view seemed to spread, because initial public offering prices went down 16%.
Although LinkedIn and Pandora seem to be good examples for a developing bubble, Scott Sweet, who has been observing initial public offerings (IPOs) for 38 years at IPO Boutique, says: “I’ve seen IPOs up a lot more than LinkedIn and Pandora. It doesn’t mean we’re in a bubble.”
With his opinion he’s not alone; according to the article Another Digital Gold Rush “firms such as LinkedIn […] have proven business models and healthy revenues. Many internet firms that went public in the late 1990s could not say the same. Moreover, the price-earnings multiples at which other public companies in the technology sector are trading are nowhere near as frothy as they were before the last bubble burst in 2000.”
Yet, this article also gives reasons for a bubble by presenting Color, a social-networking and photo-sharing Internet company, which was valued 100 million although the product, which they introduced in an already crowed market, is still untested. Consequently, it is said: “The danger in all this is that investors lose sight of the risks to the value of internet companies.”
In his article David Sirota sees the red lights, too, but complains more about speculators, “who publicly insist these social media companies are truly worth their absurd price-to-sales ratios”. Moreover he stresses that speculators know about gaming the market. Consequently they take their money as soon as they realize the bubble is about to burst, leaving their clients with the risks and losses.
Thus the hype, the underestimation of risks and the overvaluation seem to be big problems, nowadays. A fact David Menlow, president of IPO Financial, also believes in, since LinkedIn and Pandora are currently overvalued. Therefore he states that: “There is a bubble now because the valuations, even though they’re not runaway, at this point, they’re excessive.”
Coming to an end…
…one can clearly see, professionals are split. On the hand they claim there is no bubble and on the other had people are convinced there is a bubble and it’s just a matter of time that it will burst, may it be months or years.
I personally think a bubble is already in progress; growing more and more, since new start-ups enter the market regularly. By the way it is said that facebook will go public in the next year… Thus the million dollar question now is: will that bubble truly burst in the future?
I’m curious, what do you think?