Why does the high tech industry seem so bubble-prone?

Great Debates
1

With the massive billion dollar IPO for Linked, people are now eagerly awaiting similar performances from social networking giants Facebook, Twitter, Groupon and Zynga. Some would even say we are getting ready to see a dot.com bubble 2.0.

Of course, it seem like just yesterday (it was really 1999) I was sitting in class in busines school listening to some idiot alumnis talk about the difficult decision to finish school or go out and start your own internet business while seeing that stupid Pets.com sockpuppet everywhere.

So my question is what is it about technology companies that seems to lend itself to people overspending vast amounts of money on companies with questionable business models run by inexperienced charletans and egomaniacs?

I’ve worked for several over the years and these are my theories:

Prior to Bill Gates and Steve Jobs from Microsoft and Apple, computers were mostly a sort of arcane industry for MIT engineer types. Only schools, businesses and hobbiests really used computers at all. The expansion of the personal PC in the 90s brought high tech to the forefront and the vast wealth of people like Gates, Jobs, Michael Dell and others planted the idea that this was a field where huge money could be made.

A certain almost religeous mythos has been created where high tech is fundamentally different from other industries. People and companies get rich overnight, they don’t toil at it for decades. Staying at a job for more than a few years is way too long. Startups are “fun” and “exciting” and “have trampolines and fooseball tables”. Their products “change the fundamental way we blah blah blah”. “You can’t apply the normal valuations”. So it creates an air of where people (and investors) don’t REALLY understand what the company is doing and the normal rules for evaluating it don’t apply.

E*Trade. There’s no coincidence that one of the first consumer online stock trading sites had their IPO in 1996. IMHO, the ability for the average person to buy and sell stocks rapidly online contributed to the speculative bubble of the 90s and will contribute to the next one.

Startups and tech companies are mostly peopled by…well…nerds. Nerds tend to be smart. At least academically, on paper so the average layperson thinks they must be smart. They also tend to have an irrational enthusiasm for whatever they are devoting themselves into. By most objective standards, a job where you have to work 100 hours a week to get some half-built product to run is a crappy job. Nerds love that shit.

Most startups are run by two guys. The MIT technologist and the Harvard professional entrepreneur (or CalTech/Stanford if you are West Coast). The technologist is the guy who dabbles in building the products but has little concern or understanding for anything outside of technology. The entrepreneur markets the shit out of the company and gathers venture capital funding. At some point, one usually forces the other out and you end up with either a company that doesn’t produce anything or really cool technology that runs out of funding or doesn’t address the customer’s need.
A lot of that is from my own experiences working at those sort of companies, so I would be curious as to what others think.

2

Also, high tech is still a very new business, with a lot of the value being speculative. They are still working out the kinks and details.
Boom and bust cycles were common in most industries until the government learned how to regulate them enough to take the edges off. We have not yet gotten a good enough handle on this computer Interweb stuff to have an effective oversight standard.

3

I would also say that compared to something like, say…automobile manufacturing or steelmaking, it requires low startup capital and there are fewer barriers to entry.

4

Interesting. The idea that we were inside another tech bubble was floated on the business subreddit last week in response to this story. $100 million for a Facebook clone that looks like it’s straight out of the mid 1990s.

5

It is a very monopoly prone business, with a lot of future growth. The future growth is that increasingly, everything is done online. Monopoly prone because everyone has access to the site, and the more users you have the cheaper/better you can offer things. What competitors are there out there for Facebook, Twitter, Windows, Amazon, LinkedIn, Youtube, etc? So there’s always the possibility of becoming a monopoly provider and generating ridiculous profits.

6

Go back to 2008 and you had AOL paying $850 million for Bebo, a social networking site that was already dying when they bought it. They sold it in 2010 for something like $10 million. I’m not sure by then it was even worth that.

7

Social networking sites tend to be natural monopolies driven by network externalities. People go to the social networking site that everyone else goes to because you need other people to network with. For media driven sites like Amazon and Youtube, people can switch around to whatever site cators to their specific media interests - Hulu, Rhapsody, Pandora, iTunes, NetFlix, etc.

But those monopolies only last until the next big thing comes out. So I think it creates this aura of racing to get there first.

The problem (and why a lot of these business ultimately fail), is that it doesn’t matter if you get there first with a piece of shit tool nobody likes. And I think that constant firedrill mentality tends to blind people to real organizational and infrastructure problems that ultimately limit growth.

8

Tech businesses can become huge extremely quickly, and it seems a little random which ones rise and which ones fall. Why did Facebook win over MySpace and LiveJournal? Why do people use LinkedIn and not the billion sites that do the same thing?

Of course you can come up with reasons, but at the time it would have been hard to pinpoint what was critical. It is hard to look at a online business and immediately see if it will catch on our not. There are countless absolutely brilliant sites nobody uses, and other sites that make it huge with pictures of cats.

Added to that, success seems to come not from being the first, but being the first to do something right. To make a smart investment, you’d have to invest in something that failed or reached moderate success before, and somehow know your guy is the guy who can make it tip.

9

None of these sites really directly compete with each other. Youtube is basically the only place people upload their own video. From the department of pulling things out of my ass, I’d say at least 95% of user created videos are uploaded to Youtube.

Who competes with Netflix’s DVD delivery service?

All of the sites you mentioned have one thing in common. They rely on the media companies permission to operate. Obviously, it’s in the media companies interests to prevent monopolies, and they do that.

Maybe, maybe not. Windows and Amazon, for example, have been going strong for 15+ years without serious competition. Besides, even if one company falls and another replaces it, the new company is likely going to be a monopoly.

Yes, but if you do get there first with a tool people like, you are going to make bank.

10

There’s also the perception that high-tech companies produce ideas, rather than products. This isn’t true, but I’m not sure investors know that - which is why they’re always willing of giving countless millions to the next genius with a great idea.

11

I don’t think sites like EBay, Youtube, Amazon, IMDB, etc are ever going to be dethroned. For some things being the first is enough.

12

but this is not a myth–it really is true. There is no other industry where one person can contact billions of customers.
The problem is that a religious mythos has grown up where people believe that billions of customers will buy their product because , well, it’s high-tech, so it has to be good.

13

I don’t know if they were technically the “first”. I feel like there may have been some little-known failed initial attempts to create similar businesses. Remember, sometimes the pioneers are the ones who end up dying of dysentary.

It doesn’t matter who saw her first. It’s the guy who goes home with her at the end of the night that wins. Of course a lot of people in tech wouldn’t know that.:smiley:

14

Arthur C. Clarke famously said that any sufficiently-advanced technology is indistinguishable from magic. What he didn’t mention is that our technology is sufficiently advanced. To most people nowadays, computers and the Internet are magic.

“I’ve got an idea for a great website: We’ll give away a car for free! We’ll make oodles of money from all the ads we’ll be selling to all of the other companies with websites that are giving away other things for free. And they’ll make the money they’re paying us for ads by selling ads of their own.”
“But that won’t work-- Where will all the money come from ultimately?”
“In the old world, you’d be right. But now, thanks to the magic of the Internet, it’ll work!”
“OK, then, you’ve sold me on it!”

15

The thing that’s hard to understand is that eventually all these profits will be driven to near zero.

Craigslist is the prefect example of what I’m talking about. Classified ads used to be a huge cash cow for newspapers. Then along comes Craigslist which provides the same service for free. And Craigslist makes very little profit compared to how much all those newspapers used to get for their classifieds.

But if Craigslist tried to charge, or monetize their service in some annoying way, people would just switch to some other free service. You can’t compete with free.

So none of this is sustainable. You can make a godzillion dollars in high tech, but for how long? The economics of software distribution really is different from other industries because the marginal cost of another unit of software is zero. Yeah, it takes a lot of work to develop the software and infrastructure. But it costs nothing to add another user. Which means the incentive to go to free is huge. Or what really happens is that the latest and greatest costs a bit, but what if you don’t care about the latest and greatest?

16

Craigslist does charge, but only for certain things.

17

I think your idea that E*Trade and online stock trading in general had a huge effect in the first dot.com bubble. The general investment world has always been more than a little iffy about what they claim to be doing versus what they really are doing. However, it used to take highly paid stock brokers that you had to contact deliberately to buy and sell stocks with significant thought and time to think involved into the whole process. Once it became a point and click game open to anyone, it became even more like short-term gambling rather than a hard thought out business decision based on real numbers. During the first dot.com bubble, you didn’t need to worry about long-term business success. You just tried to guess where everyone else was going and see a large enough gain to dump it, take your pyramid scheme like profit, and forget about it.

The difference now is that many fewer people have the free cash or the optimism to play such a game. Many of the early ones weren’t good at it to begin with so they got turned off by big losses during more exuberant times compared to today. There are still enough of them around wanting to see a partial repeat however to make some of the current most hyped IPO’s seem like they were from 1998.

18

I think a lot of what we’re seeing is the result of two things:

  1. The industry (and even the underlying technology) is pretty new. Even though TCP/IP has been around for 40 or more years, the actual World Wide Web dates from the early 1990s for the most part, and a lot of the first real commercial applications started being built in the mid-late 1990s. 10-15 years isn’t a long time; look at what the automotive industry looked like in the 1920s and 1930s, which were 30-40 years after the invention of the automobile. Even with today’s faster turnaround times, internet business is still pretty much immature in most ways.

  2. The barriers to entry and funding requirements are really small relative to more capital and labor intensive industries, which means that starting a new internet business doesn’t take as much money to start or run as businesses used to, which means that anyone with a new online idea can literally give it a shot, unlike old-time inventors who had to actually find someone willing to fund an invention to a greater extent than what’s required for an internet business.

19

In Tech, new ideas supplant old ones. They rarely exist at the same time. A better or faster program will kill the old one dead leaving its investors hanging.

20

Two reasons.

First, since people with money don’t really get this stuff, they can’t tell the difference between a genius with a great idea, a genius with a terrible idea, and a nitwit with an absolutely lousy idea. It is the emperor’s new stock, in a sense - some people don’t want to buck the trend.

Second, some of these companies have made it, and have made a fortune. There were doubters - lots of people in 2002 thought Amazon was going belly up. But those people who missed out on big thing 1 really want to get in on big thing 2, but they usually actually get into big flop 2.

The problem, by the way, isn’t products. All these companies have products. What they don’t have is a business model or a way of monetizing their product. What is less sticky than a search engine? (Joke anticipation: especially when you go to certain sites.) Google makes money because they know they are an advertising agency with a search engine, not a search engine looking to get some ads.