Top of the Cycle, Ma!! Have we peaked?

A tech blogger I know e-mailed this to me...

"We are at the top of the cycle... Its gonna get ugly soon if past is any guide"


Well, that doesn't sound good....   and certainly public market gitters aren't making people feel any better either.

Is this the beginning of the end?

Let's examine the possibilities...

Bearish Case:  It is March of 2000.  This is it.  This is the beginning of the end.  Sell sell sell.

Certainly the public market is starting to hiccup.  We've given back some of the 20% equity gains we saw in the last year and there seems to be a lot of nervousness.  The housing market is slowing down  and the fear is that a slowdown in the housing market is going to ripple through the rest of the economy. 

In the first bubble, much of the overvaluation and overfunding of companies hinged on a liquid and rising public market, so when that dried up, the whole thing came crashing down like a house of cards.  So, what is supporting the current venture market?

There's a lot of acquisition activity, but it seems to come in two flavors... really big deals and really small deals.  On one hand, you have Skype, Webex, YouTube, rumors of Facebook... all in the billion dollar range.  Then, you have, Reddit, Writely, Flickr, MyBlogLog, JumpCut, Rojo...  all supposedly below $40 million.  Doesn't seem like there's too much in the middle... and not a lot of IPOs.  So, there does exist the possibility that 1) There isn't much else out there to buy for a billion and 2) all the little aquisitions, relative to the amount of venture money flying out the door, won't amount to a hill of beans...  hence the potential for collapse.  Or, just imagine that the average entreprenuer sells out for less this time, b/c it was easier to build without a lot of outside capital, and so all the worthwhile companies get bought out way before they have an opportunity to really create much market value, resulting in severe underdelivery of the promise.

On top of that, you have a lot of companies underpinning their business models on the online advertising market, and there's a lady known to blow on some other guy's dice once in a while. 

And, yet another argument that we've peaked is that, frankly, not a lot of these apps have gotten a heck of a lot of traction.  The fact of the matter is that, before it went free, there were still more than ten times as many paying AOL dial-up users as their were users.  Second life rarely gets more than 20k concurrent visitors and RSS hasn't even reached 5% of internet users yet. 

Slightly Bullish Case:  It is 1998.  This is just a blip.  We've still got a few good years left, but let's be careful about where the new dollars go and make sure we get out in time.

No reason to sound the alarm...but let's not get nuts either is what the slightly bearish case would tell you.  Thus far, the public markets haven't crashed yet and economists are pointing to a soft landing, which is generally ok for stocks.   On top of that, while I'm sure there are a lot of companies that shouldn't have gotten funded, there are few examples of really gross overfunding.  VC funds are smaller this time around, and they're funding deals that don't burn a ton of cash, unlike the Webvan's of yesteryear.

Plus, the move to online advertising is more than just an uptick that might come back down, it is a structural shift unlikely to swing back.  Print and TV are going to lose permanent share that has to come to where more consumers are spending more time and more money.  Broadband penetration is still growing, and the original MySpacers are maturing, graduating college, and going to do more and more online.  Granted, advertisers need to see good ROI and they're still not entirely comfortable with UGC, but still, the gravy train has left the station and we're all aboard.  All good signs.

Of course, we still need to be cautious, especially as VCs start picking and choosing who gets B and C rounds.  Keep in mind that VCs tend to fund for 12 months or so, give or take, and we really only started funding this Web 2.0 thing in the middle of 2005.  A handful of companies have gotten second rounds, but that wave is just flowing through, and it is often at the C round where VCs take a look at themselves and say, "This just isn't working as a business."  This is especially the case since most of these Web 2.0 companies are going to get a free pass to the B round, since the technology pretty much works.  When you fund a chip company or biotech company, after the A round, you might discover that the thing just doesn't work, but with Web Apps,  it usually works from day one.  So, what might happen is that, over the next 18 months, we'll see some apps get their plug pulled and that will cause some healthy jitters, but with the ad wind at our backs, and no dramatic housing collapse, we'll be fine.

Unrepentant Bear Case:  It is 1994.  Are you kidding?  This is just the beginning.  We haven't even come close to building all we need to build.  Deals for digital content are going to be the Netscape of Web 2.0 and we've got lots to build around that.

I think there's certainly a case for this.  I mean, frankly, if I have to wait another cycle to get ad supported episodes of the A-Team on my computer on demand, I'm going to get really impatient.  Hopefully, all of the music and tv licensing deals are open and friendly enough that they beget a whole slow of development around them in the same way that the browser opened up the internet to us.   

On top of that, how much longer can US carriers continue to stunt mobile development.  The promise of mobile, if it ever comes to fruition, could spur on a bull market in the startup space all on its own if we ever found a way to break the carrier lock.  Whether its municipal wifi, or government intervention or whatever, you have to imagine this happens sooner rather than later.

So, the case here is that there's so much left to do that there has to be continued optimism.  Online ads are still pretty irrelevant and lack engagement.  Business class web applications to compete with Office still have a way to do... and there's been little web innovation in the finance industry in Web 2.0 and even less in the healthcare information sector.

To me, when you port offline models online, once every offline company has an online presence, that's pretty much the end of innovation... and that's when Web 1.0 sort of finished up... everyone went online and that was, well, pretty much it.  Not a lot for really innovative business models.

When you start taking advantage of networks, metadata, mashups, etc...  you should increase the potential for services and business models exponentially... doing what you couldn't do offline... and now, you can do it so much more cheaply that between these two points, I would naturally expect the Web 2.0 boom to last longer than the 1.0, unless you just say that now we have less patience and more fear after the last cycle.

So where are we in this cycle?  What's your prediction?  Let's get a good conversation going by commenting and linking around.

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