Here’s some evidence that we’re not in the next big tech bubble.
Here’s some evidence that we are.
There’s a lot of white noise out there about whether or not we’re in the next big tech bubble and, if we are, whether or not the bubble is going to burst. People like to point to the massive growth in unicorns — companies that have a $1 billion or greater valuation based on fundraising — and the access to easy money across Silicon Valley as indicators that we are likely in a tech bubble.
Still others like to point to the fact that most of the companies actually making it to unicorn stage are, arguably, creating a lot of value for their customers. These companies aren’t just the-next-petfooddotcom kind of companies. Square’s recent IPO at $3.85 billion, under its last round’s valuation, is evidence to some (like Sam Altman, of Y Combinator fame) that there isn’t a bubble (or, if there is it’s not a big deal).
A “bubble” means a lot of different things to different people. The phrase is often used incorrectly to just describe a lot of stupid, easy money. Important here is the fact that 1. tech experienced a bubble not too long ago; and 2. the contractions that follow bubbles are defined by economic hardship, little access to capital, and generally few opportunities for public offerings.
I have gone back and forth on this topic as I’ve read more into it — the data are convincing that we’re not in a bubble like we were in 1997-2000, but there’s also good evidence across the market that valuations of companies (and things in general) are overinflated.
If you could predict whether or not we are in a bubble and when the bubble is going to burst, you could hypothetically play the market to become immensely wealthy. Most people who do decry bursting bubbles can’t predict when they will burst, so their lamentations really aren’t all that useful. More than that, it’s entirely possible — and likely — that an apparent bubble in tech VC — with companies getting huge valuations and pulling in millions way before they actually have a set of real, paying customers — is more an issue with an inflated capital market in the economy as a whole, a consequence of more than a decade of correction-level rates set by the Federal Reserve. Tech is just a really obvious sector to see this in because the tech companies and their VCs are so intimately connected to media outlets, trying to drum up support for the next big thing.
At the end of the day, though, I’ve come to the conclusion that it really doesn’t matter whether or not we’re in a “bubble” in the formal sense of the word.
Why?
The thing that should make you feel wary about the apparent easy money in the tech space is that it incentivizes fair-weather entrepreneurs to enter the marketplace. These fair-weather entrepreneurs (FWEs) launch projects that they wouldn’t otherwise launch — they see that it is so easy to get an angel round and maybe even a seed round, quit their jobs, move to the Bay Area, and launch a company devoted to sending you paperweights made by Napalese monks for the low, VC-subsidized price of $10/month. “We’re disrupting the Nepalese paperweight market!” “We’re Birchbox for Nepalese paperweights!” They then hire twenty people, with quirky titles who sit on beanbags with their dogs while doing their jobs.
The FWE is somebody who has sat around before thinking to themselves, “I should start a company,” but has never actually gotten further than a few steps down the path before they decide, “well, I need capital before I can do this.”
The FWE is contrasted with the all-weather entrepreneur — a founder who launches their company during a time of relatively tight money. The all-weather entrepreneur might still start a project that is highly capital intensive, but they have other ways of funding it. Perhaps they’re particularly persuasive, the idea is particularly good, or they can self-fund the angel round. Airbnb and Uber were both founded during times of relatively tight capital in the wake of the financial crisis. The Airbnb founders boostrapped much of the operation until they got into Y Combinator. Uber’s founders self-funded the first permutation of the project with money they earned from their last startup.
Beware the Fair-Weather Entrepreneur
The FWE is a particularly dangerous type of founder. This isn’t because they believe anything bad or are actually out to harm anybody, but because they continue to cloud up signals in the marketplace, making it harder for investors to find the people who aren’t FWEs and who just founded their companies during a time of easy money. They’re people who lacked the self-confidence and/or the idea to launch during a time of tight money. When the going gets tough, they’re less likely to stick around, less likely to inspire their employees, and less likely to go down with the ship if it starts to sink. They lose people money, jobs, and opportunities and by the time that most people figure out they were an FWE, it’s too late.
In short, they make it harder for investors, other entrepreneurs, and for employees.
INVESTORS: Investors should beware the FWE because it is the job of investors and their lackeys to find the good deals amongst all the noise and mayhem of new companies. Sometimes really good companies are founded by all-weather entrepreneurs during times of easy money. This doesn’t make them bad deals — it makes them great finds in the sand of awful ideas, teams, and founders. The problem is that most investors are motivated by a Fear Of Missing Out and founders know this. Every company suddenly becomes the next big thing. It’s not just a good company that can employ a good number of people, it’s the next unicorn and you better get on the train or you’re gonna be kicking yourself. This early in the process, it’s hard to tell what is really the next big thing and what isn’t. Investors jump on to a lot of bad ships that end up sinking. That’s the nature of the game, but FWEs increase the number of sinking ships.
OTHER ENTREPRENEURS: The flip side of the investor coin is where other entrepreneurs sit. Maybe you are an all-weather entrepreneur who just happened to found your company during a time of easy money. You have a truly groundbreaking idea, the team to make it happen, and the grit and resolve to inspire the team to success. You go to raise money, get close to closing a deal, only to have the VC go to fund the guy with the Nepalese paperweight delivery startup.
The danger is double if you’re an entrepreneur running a company that serves other companies. If a good chunk of your client base are FWEs, then you sit in a dangerous place. What happens when they fold? This is one of the things that made the dot-com bubble so dangerous — so many companies on the NASDAQ and looking to join its ranks were B2B. Once a few started to fold, it created a domino effect that made others come tumbling after it. Thankfully, the current space isn’t really stacked in this way.
It also makes it harder for hiring. It’s a seller’s market for talent in the Bay Area right now because there are more companies with money hiring for developer positions than there are people to fill these roles. If you’re bootstrapping a successful enterprise as an all-weather entrepreneur, it’s going to be hard to attract the best talent away from the well-funded company run by the FWE with the sexy office space and beer tap in the kitchen. They eat up talent at the cost of your growth.
EMPLOYEES: You’re out on the job hunt for your first job and you land an interview at a cool new startup that just closed its seed round. They’re looking to add a team of developers and “customer love representatives.” You interview, fall in love with the work environment, and land the job. Congratulations! You’re now a customer love rep for the Nepalese paperweight company. After a year, Birchbox moves into the Napalese paperweight market, your founder, who extolled the virtues of grit and of how you will be acquired by Birchbox at some point, folds, and you’re out of a job.
Entrepreneurship is really, Really hard
More than anything else, the FWE makes us lose sight of the fact that entrepreneurship is really, really, really hard. Entrepreneurs are on the forefront of finding marginal improvements on the ways we do things by a number of mechanisms. Maybe they combine tech from one sector with the vendors from another. Maybe they invent an entirely new way of doing things. Maybe they’re able to squeeze a little bit more out of a process through a new management process. At the end of the day, though, if it were easy, somebody else would have successfully done it.
Even when the economy isn’t inundated by FWEs, most companies fail. The dangers in the FWEs are exacerbated by the fact that we rarely hear about their failures. The firms that funded them and the employees that worked with them don’t want to talk about the failed company — why would you advertise the failure of something that you helped build? The survivorship bias of the startup world only grows stronger.
And keep in mind that raising money isn’t necessarily an indicator of success. Just because a company raised $X million doesn’t mean that they’re successful in any way outside of fundraising. I know a handful of companies that are just bad ideas with shoddy execution that stay afloat only because the founder is an amazing salesperson and fundraiser.
Raising a lot of money can be hard (especially outside of Silicon Valley), but it’s really just the beginning of an even harder process. You set goals to raise money. You give the VCs and the angels metrics to meet in order to get the money. If you don’t meet them, they won’t believe a single thing you say. They essentially become your bosses. You go from starting a company and being an entrepreneur — your own boss, the determiner of your fate — to working to impress an I-banker and his boss somewhere at a firm down the road.
It doesn’t really matter whether or not we’re in a “bubble” in any formal sense of the word. It doesn’t really matter whether or not we’ll have a major correction soon. What matters is that the easy money flooding the startup world infects it with the wrong kinds of people to starting businesses, eating up capital, and sucking talent out of the marketplace.