Welcome to Tech Bubble 2.0: So When’s the Bust?

Recent IPOs for Zynga and LinkedIn coupled with Facebook’s $100 billion valuation have many investors feeling like it’s 1999

People want to know: Are we in a tech bubble?

From LinkedIn to Groupon to Facebook, technology companies are taking their social media know-how public — and they’re hitting the markets with dizzying valuations.

This thirst for high tech has left many venture capitalists and analysts worrying that the markets are partying like it’s 1999. Investors who were around the last time Wall Street got punch drunk on the Internet remember all too well how that one ended.

Also read: MySpace’s New Owner, ‘Timberlake Has Too Many Good Ideas to Be at Facebook’

“I give this between six months to one year, and that’s being optimistic,” Vivek Wadhwa, a visiting scholar at U.C. Berkeley’s School of Information and an advisor to startups, told TheWrap. “It can’t last. It doesn’t make sense. It’s a mad rush to go public, and they’re rushing out as fast as they can, because they know that before the bubble pops they might as well go make their big money.”

So far, at least, the markets disagree.

Facebook’s valuation is flirting with $100 billion; Twitter’s is kissing $8 billion. Resume-sharing giant LinkedIn hit the New York Stock Exchange last May with a $10 billion market cap, while music sharing hub Pandora made its public debut with a $2 billion value despite the fact it loses money. Waiting in the wings: $1 billion Zynga and $750 million Groupon IPOs.

And unlike the last go round, the businesses that are driving investors wild are coming to market with real track records, not just cool ideas, power-point presentations  and get-rich-quick schemes.

Gone, investors hope, are the days of Pets.com, which raised and lost more than $300 million at the height of the last bubble and became a textbook example of irrational exuberance.

Also read: The Problem for MySpace, Hulu, Facebook: How to Sustain Value?

This time, many of the companies going public are in the black. Some, such as Facebook and its rumored $1 billion in profits, are true success stories. Others aren’t profitable yet. But while the likes of LinkedIn and Groupon aren’t making money, they have seen big jumps in revenues, rising from about $78 million in 2008 to roughly $243 million in 2010 at LinkedIn and from $94 million in 2008 to $713 million in 2010  over at Groupon.

“I would not characterize it as a bubble like 2000 or 2001 simply because  if you look at the companies that have gone public, they have substantial businesses which are market leaders with revenue growth in the double digits,” Eric Hippeau, the former CEO of the Huffington Post and a partner at Lerer Ventures, told TheWrap. “We’ve been in a desert for IPOs, so it’s normal people would flock to Internet companies that are going out now.”

Frank Quattrone, who presided over the last tech bubble and helped companies like Netscape and Amazon go public, cautioned at a Fortune tech conference on Wednesday:
“I don’t think we’re close to a bubble if you’re talking about companies without value…  But funds are being formed with the specific purpose  of investing in these hot things. And unless these companies perform quite well for number of years, some of these valuations might not hold up.”

There is clearly money to be made in today’s hothouse technology climate. Be warned, however, because in some respects the brand recognition and relative strength of this generation of social networking and gaming companies is preventing investors from looking at whether these heady valuations are sustainable.

“Generally, companies have revenues, which is better and worse,” Paul Kedrosky, an investor and contributing editor for Bloomberg, told TheWrap. “It is better in that the companies are more real, but it is worse in that in being more real, it attracts many more people who feel more justified in their beliefs.”

There are enormous opportunities for growth to be found in any of these businesses, but keeping the money coming is dependent on either subscription fees or ad revenues. As legacy publications such as the New York Times have demonstrated with their web efforts, that can be a dicey recipe for success.

Digital ads still sell at a steep discount and there’s always something new and free to win away online audiences. The problem is that while the technology behind companies such as Facebook or Pandora is revolutionary, the business model is decidedly not.

In the rapidly shifting digital space, even a proven record of success is no indication that a tech titan can retain its gigantitude for long. The recent sale of MySpace for pennies on the digital dollar shows just how fleeting that kind of popularity can be.

“Investors forget that popularity does not mean profit,” Michael Yoshikami, the CEO and Chairman of YCMNET Advisors, told TheWrap. “ Something may have lots of users, but it can’t figure out how to monetize them.

“A business model hasn’t been established yet, so nobody can say what a reasonable amount of money it is to pay for something like LinkedIn or Pandora,” Yoshikami added. “There are no rules at this point. It’s all based on sentiment and hope.”

True, Facebook and its nearly 700 million members seems impenetrable now, but when News Corp. plunked down $580 million for MySpace six years ago, it was at the top of the social networking heap. After MySpace was sold off last month to a group of investors that includes Justin Timberlake, it had turned into a digital ghost town with 70 million mostly uninspired members.

Need more signs that even Facebook’s dominance could be short lived?

The company’s foreign growth has continued to be robust, but it lost 6 million subscribers domestically in May. That’s worrisome, particularly at a time when the launch of Google+ has generated a lot of enthusiasm among users already worried about Facebook’s lack of privacy guards. When those kind of concerns get factored in, Facebook looks like a much less secure investment than, say, Amazon, whose $97 billion valuation it tops.

Another attribute of this new tech bubble is that many tech companies are playing in a rarified secondary market.

These investment opportunities are limited only to big-time players such as Goldman Sachs and top venture capitalists like Peter Thiel, so that means that the bulk of whatever wealth creation is happening in the technology space is being siphoned off by the elite.

“The upside for the average investor is limited, because companies are arriving already pumped up from secondary transactions,” Paul Saffo, Managing Director of Foresight at investment firm Discern Analytics, told TheWrap. “It’s more and more a casino of the gods. If the last bubble was Las Vegas where anybody could play the game, now it is more like an exclusive baccarat game in Monte Carlo where they don’t want winnebagos in town.”

If the bubble does burst, that means the damage could be more contained than it was during the early-aughts meltdown, but it also limits investors’ ability to ride the meteoric rise of a Twitter as they once did Apple or Amazon.

“No matter what these valuations are, there’s no question that we have seen a fundamental shift and complete disruption of how media is consumed,” Hippeau told TheWrap. “You can argue that we’re just at the beginning of this. Consumption is moving more rapidly than people are ready for, and this disruption creates enormous opportunities for wealth creation.”

It has already created big profits for a privileged few, but if the dam breaks, it could be the rest of us who get swept away.

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