Even if you've never heard the story of the bearish economist who predicted eight of the last three economic downturns, the point is, eventually he was right.
Although venture capitalist Bill Gurley is no economist, the respected Silicon Valley dealmaker has been saying for some time that we're on the verge of a collapsing tech bubble. And his latest comments, at the South by Southwest Interactive festival in Austin, lent a bit more specificity to his pronouncements. Namely, trouble with some of the so-called unicorns, or startups valued at the frothy level of $1 billion, will spread to the rest of Silicon Valley and could potentially evaporate the trumped up values of so many other young companies.
Just how soon is anyone's guess, however. Certainly the tech-heavy Nasdaq rose above 5,000 two weeks ago for the first time since the dot-com bubble. Meanwhile, other indexes are trading near historic highs--and that should give everyone pause, some financial analysts suggest.
"There is no fear in Silicon Valley right now," Gurley told an audience at SxSW on Sunday. "A complete absence of fear." As a partner at Benchmark Capital, in Menlo Park, California, and a former Compaq Computer engineer, Gurley is saying essentially that risk has been priced out of the market with over-the-top valuations.
He's far from alone. Mark Cuban has slammed private investors for creating a bubble that he says is as bad or worse than what we saw in 2000. Union Square Ventures' Fred Wilson and Andreessen Horowitz's Marc Andreessen have also warned about the high burn rates of tech startups, which they say is somewhat reminiscent of the terminal phase of the 1990s tech bubble, when companies incinerated venture financing dollars to stay afloat shortly before flaming out altogether during the crash.
Certainly tech startups are raising staggering amounts of money, at astronomical valuations. In the past two years, according to venture capital research firm CB Insights, 50 startups have achieved valuations of a $1 billion or more. And some of those companies, such as car-share service Uber, social-messaging app Snapchat, and social-media site Pinterest have gone much further, notching record valuations of $40 billion, $19 billion, and $11 billion, respectively. (Gurley has invested in both Uber and Snapchat.)
A Litmus Test
But there's a kind of litmus test to gauge these valuations, CB Insights suggests in a recent blog post, and that's the public markets. Once a fabulously valued startup goes public, it's subject to the scrutiny of public investors, who may bid the company's value down.
Privately held cloud-storage company Dropbox had a value of $10 billion when it raised $350 million of capital last February. With revenue between $300 million and $400 million*, Dropbox's valuation is about 25 times earnings, CB Insights postulates. By comparison, competitor Box, which went public in January, had a valuation of around $2.4 billion, and a multiple of 13 times sales when it raised its final VC money of $150 million last July.
By the time Box went public, however, its valuation had dropped more than $700 million to $1.7 billion, with shares pricing on the low end, at $14. And since that time, its shares have dropped a further 18 percent.
A number of recent tech IPOs have faced this test in recent months. Alternative finance lending site OnDeck, for example, has fallen 41 percent since its opening day. And cross-platform video branding service Tremor Video is down 71 percent. OnDeck had a valuation of about $1.3 billion at the time of its IPO, while Tremor had a valuation of roughly $500 million.
All About Exits
It's company exits--public offerings and mergers and acquisitions--that should help bring valuations back down to earth, says Drew Nordlicht, partner and managing director of Hightower Advisors, San Diego. The firm manages $25 billion in assets for venture capitalists, private equity fund managers, chief executives, and entrepreneurs who founded companies that went public or received private equity funding.
"Everyone identifying a bubble is trying to apply the lens of 2000 on 2015 and being too narrow with that application," says Nordlicht. He adds that as valuations for private companies get stretched, often without revenues or profits to back things up, the number of corporate buyers will drop off. The IPO market is likely to face a similar bottleneck, particularly as newly public companies face competition from other public companies with cheaper valuations.
Where Gurley might be correct, Nordlicht says, is that momentum could change swiftly, either with the collapse of a unicorn or some other event that signals there aren't buyers left for privately held, high-priced companies.
"At some point, we are going to see the momentum of investing dollars move against these high valuation private companies," Nordlicht says.
*An earlier version of this story incorrectly stated Dropbox's estimated revenue for 2014 in billions of dollars. The estimate is in millions of dollars.