Storm Clouds

We have enjoyed an amazing run in the web startup and investing space over the past five or six years. In this sector of startupland, company creation is up, investment is up, there are plenty of success stories, and not all of them are based on quick flips and takeouts. There is real revenue flowing through web companies and many web startups formed in the last five or six years are operating profitably. It has been good to be a web entrepreneur and a web VC, and I think it will continue to be for quite some time.

However, there are a few storm coulds out there that we need to be watching. In particular, I think the competition for "hot" deals is making people crazy and I am seeing many more unnatural acts from investors happening. If it were just valuations rising quickly, I'd be a bit less concerned. But we are also seeing large deals ($5mm to $15mm) getting done in a few days with little or no due diligence. Investors are showing up at the first meeting with term sheets. I have never seen phases like this end nicely.

We are also seeing a massive talent war for software engineers going on in Silicon Valley and it is spilling over into other regions. The story by Mike Arrington this morning about a Google engineer is just one example. There are many more examples of poaching by companies driving up salaries, equity packages, and stay and join bonuses.

You might say, "this is good for entrepreneurs and software engineers, they are finally being valued what they are worth." Maybe. But I think both of these situations are unsustainable. And anything that is unsustainable will eventually stop happening. And when it stops happening, there will be a dislocation event that will cause people to change their behavior.

Of course if you are a VC or a HR person in a web company, you don't know when that event will happen and you have to operate your business until then. So we will see this behavior and other troubling things continue to happen for some time to come. When will it stop? Who knows? But be prepared for it to end. And when it does, things will be different. And we should all be prepared for that time.

#VC & Technology

Comments (Archived):

  1. Phil

    I owned a real estate leadgen startup in Dubai before the peak and after eventual total collapse of the real estate market. Until things really went belly up most people didn’t want to believe that things would have to change, even now there are large groups of people in total denial about the current reality.No one ever wants to believe things like this, they will talk about it but never plan for it, often dismissing it totally with non-logical arguments why it will be sustainable “this time”.Might be time to start reflecting on the 90’s tech bubble and subsequent collapse to see if there is anything that can be applied to the current market.

    1. Prokofy

      You’re making me wonder if what we are seeing now isn’t a new tech bubble, but that it is merely an extension of the 2000 crash, that what we saw with all these widgets and apps and whatnot was merely a dead-cat bounce.

  2. RichardF

    Fred is this a general observation you are making from talking to colleagues in the market or are you seeing deals that USV has been looking at being outbid by inflated valuations from the competition? I appreciate that may be sensitive info but thought I’d ask anyway!

    1. fredwilson


  3. kirklove

    As an outsider who casually follows this stuff it sure is starting to smell like 1997 or 1998. Granted not that ludicrous, but certainly getting a little silly. I don’t want to sound like a hater either, yet some ideas getting backed these days also seem, lets just say, thinner and thinner.Secondarily I would surmise from your own experience in the late ’90s you’re keeping your eye on a possible repeat performance. And as the illustrious George W. Bush once said, “Fool me once, shame on — shame on you. Fool me — you can’t get fooled again.”

    1. fredwilson

      i know which companies in our flatiron porffolio survived and which ones did not survivei want to go into the next downturn with a portfolio of survivors

  4. Dave W Baldwin

    Is it the quick flip strategies that have you most worried?

    1. CJ

      My biggest worry, as an outsider, is that services that really take very little to create outside of a good engineer and 72 hours of coding are being funded at higher and higher valuations. I’m not saying that it’s unwarranted all of the time, just that it’s weird that something you built over the weekend that runs on top of something else can be worth millions of dollars even though it would be trivial for the underlying platform to duplicate your product with better integration.There seems to be a trend in funding services rather than businesses, it is reminiscent of the bubble when all you needed was a catchy website and good PR person to get multi-million dollar investments. No business plan required.

      1. Dave W Baldwin

        Doesn’t your wife love your hobbies ;DThe points you bring up are good. I personally think a lot of folks are going to get burned via short term thinking. If an investor has a lot of play around money, they probably won’t care due to their investements in several small quick flips. On the developer side, if it is something you can do over the weekend, you haven’t lost much.Multiply the above and there is going to be a lot of good money chasing bad. Somewhere the teams utilizing creativity and originality will rise to the top. That matched with the increase in collaboration and mergers not requiring the big guys will bump true progress forward.

        1. CJ

          Only when they benefit her! :-)The problem for the entrepreneurial side won’t be failing this time, it’ll be in trying to gain funding the next time after everyone has been burned one too many times.

          1. Dave W Baldwin


      2. SF

        your point on services vs business is an important one. Every business offers a service, not every service can be a business.I have a special bone to gnaw on when it comes to people thinking, remembering, or perceiving the “easy money” during the 90s. But it is not for this forum and most likely it is just me – bitter about not making a 3.5M payday at Google 🙂

    2. fredwilson

      no, i think they pose little harmi worry about sectors and companies getting wildly over funded at unsustainable valuationslook at Gowalla. they raised something like $8mm before it was clear that they could compete with Foursquarethey could not and what happens to that $8mm?up in smokepoof

  5. Scott Barnett

    There has to be more to the story about a Google Engineer being offered millions to stay. That is clearly not sustainable, even with Google’s ability to print cash. There is certainly a talent grab in SV that could easily create a large sucking sound for the rest of us, and that would not be good. I’m personally very excited about the web “renaissance” in the NY Metro area and hope it leaks more into New Jersey, where I live and work.In terms of VC’s giving term sheets with little to no due diligence – there will never be a time where speed beats preparation. The waters will normalize with that type of behavior, but I must admit I’m surprised if it’s really happening, since it hasn’t even been 10 years since the dot-com bust. Those who cannot remember the past are condemned to repeat it.

    1. Philip J. Cortes

      At a baseline I agree with you, Scott. It isn’t sustainable. But one thing that keeps coming back to me is the thought that maybe some engineers ARE worth their weight in gold (or platinum in this case!). The same thing happens in banking – there’s a massive fight over talent, and that benefits individuals. The reason banks are willing to committ so much money to get those individuals, however, is that having the right team in place literally prints money. What caused the banking system to collapse wasn’t the fact that they were “overpaying” their employees, it’s the fact that they made the wrong bets.Perhaps we’re seeing the same thing come about in technology, where real talent is now being identified and paid based on how much the firm estimates that individual can bring in for the firm. I think Google would argue that they will continue to print money so long as they have the right people….I tend to agree with that logic. The question in my mind is how valuable are these teams – can that one individual really produce more than $3.5m of value for the firm? The verdict is still out…he/she might!

      1. Scott Barnett

        As a technologist myself, it was always a fantasy to be treated and paid like a rock star or athlete… so don’t get me wrong, it’s great that strong developers are being recognized. But look at the economics – athletes get paid a ton because they generate a ton of revenue for the owners of their teams. A bank doesn’t pay rock star bankers – they pay those that bring massive returns to their companies. A flaw in that system is it encourages people to take short cuts and big bets that may be good for them personally, but bad for the system overall.In the long run, I don’t think overpaying engineers will be good for the sector – you can’t in general tie one programmers efforts directly to revenue. And if you really want me to get liberal on you, why doesn’t Google take the 10% pay raise for everybody on 1/1/2011 and $3.5M stock grants for one person and give it to educators – the people that got those engineers to where they are! I’ve always said we need to figure out how to turn education into a spectator sport, so they can get sponsors, advertising revenue/etc and then pay teachers like rock stars! They are the ones who deserve it.

        1. fredwilson

          i think both of the price increases i mentioned in my post are essentially the same thingsome software engineers (and product managers) are rock stars and are getting paid like rock stars

          1. Scott Barnett

            Agreed that some Engineers/PM’s are “rock stars” technically, but should they be economically? Do they generate millions of dollars for their employer individually like Roger Waters is doing with his Wall tour? And even if they do, beware the consequences – ticket prices to concerts and ballgames keep going up to cover the high costs of the participants – what choice will Google/Facebook have when they are overpaying most of their staff other than to increase prices? Also, these guys are rock stars in a very small universe, relatively speaking. Outside of our small club, few people know we exist. In other words, very few people (if any) are using Google or Facebook because of these top folks.Again, this is tough for me as I started my career as a software developer then became a PM, but the farther away you are from the *direct* sale of the product the harder it is to gauge how you affect those sales.

          2. fredwilson

            facebook paid 10s of milllions for Bucheit (who is gone now)and almost 10 million for Justin Shaffer and Sam Lessinso we will find outBucheit was certainly worth 10s of millions at Google where his workon gmail was hugenot sure about his contribution to Facebook

          3. Dave W Baldwin

            Remember it is all about ownership. If Google is paying an extraordinary package to the rock star, it is so they can control ownership of he/she. If the rock star knows what his work is truly worth and has the brains/guts to pursue it, they will.Per Waters, remember he wrote 99% of the lyrics. He can have fun doing the big project because his backside is protected. Members of the back up band have money in the bank. Yet, if you are the newcomer, no matter how hot, you may be dropped two shows from now and be left with nothing…but bored friends who hear for the thousandth time you played with Waters.

      2. mrcai

        Wonder if it was a Google Me engineer?

      3. FlavioGomes

        If he didn’t produce at least 2x then he’d be out in my opinion.

  6. lushfun

    WOOHOOO! Irrational Exuberance lolBest time to start up or have something going so you could “flip” it to dumbvestors.De ja vu? does this remind you of a something bubble we are still into? alas our collectivememory is short and we must forge ahead. {sarcasm btw}

    1. Philip J. Cortes

      Crimson – I’m not sure that we’re seeing the same environment we had circa 2000. I think what we’re seeing is a flight to quality; Investors wait for a top VC firm to show interest in a deal, and then they all flock to get a piece of it. If anything, this environment may be harder for startups…if they don’t get interest from the top firms, they’re deemed a bad deal, and no other VC will invest in them.

      1. Dave W Baldwin

        Agree with your take. That is why the innovators need to be thinking outside the box a little. That way it is not so important for you to have to have the bigger money now. As long as you have your R&D in place with a product that will mean something in 2013-2015, you can be more selective regarding investors.

        1. Philip J. Cortes

          I agree Dave – bootstrapping may be going from 1) getting a working prototype to show you’re capable, to2) showing you have X number of users, that the second derivative of your growth is increasing, etc.Angels are what VC’s were back in the 1999 days, and VC’s are now true growth capital. Gross generalization, but that’s the general trend I’m finding.

          1. lushfun

            Traction is hard but having it does not imply you will have success / profitability.Having users and growth is what the 1999 was all about. There was no profit link for most companies and the metrics were all about user acquisition, page views, etc… Yes getting someone interested is tough, but if you do, your into that 1999 mentality since you can play everyone against everyone else to get the best possible deal. Bubbles form out of irrational expectations ergo expecting 50% growth out to infinity.

          2. Dave W Baldwin

            Thanks Phillip. You can appreciate the scope of planning things from all sides.

      2. EIC EnviroInvestNet

        A lot of people seem to be reporting this trend as a ‘flight to quality’. In my opinion, should what Fred is saying about turning up with term sheets to first meetings be true, then it is exactly the opposite of a flight to quality. What the phrase means to me is that you move investments into less risky assets. For VC not doing due diligence on any deal is highly risky. Just because a top quartile fund thinks this particular deal is good does not necessarily make it so, and even less for the copycats that are being funded.A real flight to quality within VC, for me, would mean a decrease in the number of deals as more DD is performed to a higher standard. Or maybe I just completely misunderstand the phrase.[Edit] Ignore the twitter link in the name, seems somebody else is logged in on this computer and it didn’t give me the option to change it. Should be @cmcatominey

  7. Ian

    What does it take to reverse the momentum of “hot deal” psychology? A handful of flops where the investors get burned?thx!

    1. William Mougayar

      Great question! I’d like to know. Earlier bubble burst?More alarm sounding like Fred’s?Interesting that a year ago, some were saying there wasn’t enough activity. Now the hurd mentality is emerging.

        1. fredwilson

          That’s bullshit. What if apple had done that? What if Google had donethat? What if Cisco had done that?That’s bad advice for good companies

          1. David Noël

            Not saying I agree with Max here. Actually, I was surprised to see him make such a bold comment without more details.

          2. fredwilson

            me too

    2. fredwilson

      generally it takes some totally outrageous thing that makes everyone wake upas andy and i were talking about above in the commentslike AOL’s “merger” with Time Warneror Blackstone’s IPO

  8. William Mougayar

    2 words: Remember 2000.Some of us do because we have been to that movie before.I am also seeing “feature” companies being funded generously before any traction or even product out.

    1. kagilandam

      The same 2000 has made them hungrily waiting for 10-years on pile of money.Now they are investing like … people who did not see food and water for a week … medically a person eating after a long gap should slowly start and progress to the excess. If he eats like mad dog … sure he is gonna die.

    2. jrh

      A lot of people do remember 2000 and they’re thinking: This time I will cash out with the Nasdaq at 5000.

  9. Mark Essel

    First: soaring prices may be a signal of the deflation of real dollars (deflations observable effects are different by industry)Second: How should we view activities related to the “valuation bubble”:-nailing a product-finding cofounders/early employees-building a prototype-getting early customers-finding early advisors-getting angel funding-raising a seed VC roundThird: Which of these activities are a bad signal if they’re not happening in this environment?-presumably finding angel funding/seed round as well as finding capable cofounders, plus not getting a fantastic tech job at a startup if you’re looking (insult to injury 😉

  10. Philip J. Cortes

    What I’ve noticed is that many venture capitalists are “followers” instead of leaders. Through this recession there has been a massive flight to quality, and many VC’s are simply investing in deals they see other VC’s already interested in.The way this differs from the year 2000 is that a decade ago there was the opposite problem – namely that many companies were being funded with little to no due dilligence or proper evaluation by venture capitalists. Today I think we’re seeing a concentration of capital into “quality” deals (quality being defined by a few top venture firms, the rest competing to be involved).I hear entrepreneurs these days say that the hardest investment to get is your first one – and to expect many venture firms to be interested once you get a single firm to commit or show serious interest.In an ideal world venture investing would meet somewhere between what we have today and what we saw circa 2000.Another issue may be that some VC firms don’t believe in their abilities to source the right deals, and think that the “easiest” money to be made is by following the lead of investors they respect. It’s no secret that the VC asset class is going under dramatic changes, and that L.P.’s are committing less capital due to the lack of returns in the last decade. This dynamic may be forcing VC’s to “de-risk”. They might be concentrating their deals where they think there is the least amount of risk, even if it means reducing the returns they expect – the smaller less known funds may simply be trying to stay afloat by returning decent returns in hopes of being able to raise another fund….

    1. mrcai

      This is a little like ants leaving pheromones on routes to food, causing the rest of the nest to follow that path. Unfortunately this occasionally ends with monumental failure

    2. fredwilson

      great pointssheep get herded and killed

    3. Kate Huyett

      reminscent of hedge funds circa 2006-2007…

  11. andyswan

    “When will it stop? Who knows?”Facebook (or twitter) IPO.

    1. Aviah Laor

      Agreed. A bubble is based on a “new thing”. It was the Internet, then ecommerce, now “social”.The next bubble should be about mobile, but Apple captured so much value in the first place, so it will be harder to do (thank Steve Jobs for that?)

      1. Philip J. Cortes

        I might be bubble crazed…..but I don’t think “social” is a bubble……Search wasn’t a bubble.I think services like Facebook & LinkedIn have aggregated our social data online. The second wave of social will be a plethora of services that leverage the social data captured in these networks for all sorts of cool things – we’re at the tip of the iceberg when it comes to social. It has barely even begun. (These might be my famous last words, haha)

        1. Aviah Laor

          yap. you need some real soap around the air.Remember the 2000’s iceberg? It is still screaming to us: I’m melting. I’m melting.

        2. Dave W Baldwin

          They are not your famous last words. The problem is people not seeing what is to truly come via ‘social’ in all arenas.Those people will try to be too ‘niche’ and find out too late their sweat and labor expended toward a much smaller piece of the pie they envision.

    2. Dan Ramsden

      If you’re suggesting what I think you are, then I agree. (I think you’re suggesting that both of those IPOs would not live up to expectations?)

      1. andyswan

        I’m not speaking to the likely success or failure of the IPO….. I’m more thinking that the distribution of those shares to the general public would be a good mark of the top.Much like the IPO of Blackstone in 2007….

        1. Dan Ramsden

          Yes, I agree with that also. Am thinking though that one of the reasons for the top you describe is that the mystery disappears, and what replaces it is actual financial statements. Can Facebook trade at 20x revenue or whatever for very long? And once that begins to fall, so too all the lesser platforms that will be comped to it.

        2. Dave Pinsen

          Excellent example. Blackstone waited until the tail end of the private equity boom to unload its shares on the public via an IPO.

        3. mike gilfillan

          Or their IPOs mark the beginning, like Netscape.Don’t discount the public’s appetite for wanting to still believe in the American Dream — that if a few can IPO, then there must be more good things to come.

          1. ShanaC

            I think it marks the beginning. The IPO window seems to be slowly opening up- and most people by now have heard parts of the facebook story. Plus, more and more people will have access to mobile phones -even those without computers.Very different times

        4. fredwilson

          or the merger of time warner and aol in 2000

  12. Greg Gentschev

    One of the big drivers is that people are extrapolating from a recent series of basically one-off events. Big platforms like Google, Facebook, smart phones, and maybe Twitter have matured in the last few years, and so people have had the opportunity to build good businesses on top of those in record time. Something like Zynga was only possible in the context of the Facebook land grab, although of course strong execution was a must-have. I don’t think people are properly discounting a lot of these outliers, so then run-of-the-mill new companies are perceived with excessive expectations.It’s interesting that all this is happening in the context of a fairly bad overall economy and limited partners that had to pull back after the financial crisis. How do we explain that? I guess there’s still enough money sloshing around for early-stage valuations to peak.

    1. fredwilson

      money chases returnsalways hasalways will

  13. awilensky

    I also think that there is palpable evidence of business models that underpinned with nothing special in the way of technology that will see many cloned models – Groupon, a clever idea, but there is no twist in the technology. And conversely, we are seeing big deals in my sector, where the innovators are bringing tools and science to the market, can’t get a dime, while the behemoths buy up the oldline dominators, like IBM buying Sterling.We also have the giants in my sector buying everything in sight with Private Equity of suspect provenance, and then crushing the grapes of little innovators, and that can only lead to epic anti-trust actions, some criminal cases by Uncle, where no one wins. and any compromise that could have benefitted the evil giant could have helped the innovative small company, is lost in acrimony.Righteousness in deals and the hot sweat in investing gets distorted when capital markets get unbalanced. The price of Gold is whack, currency markets are out of balance.

    1. fredwilson

      money chases ROIbut i agree with you about groupon

  14. Motorcycle Parts

    I noted that venture capitalists are many followers rather than leaders. This recession has been a massive flight to quality, and many are simply investing in VC deals others see VC is already interested in

  15. Rick Bullotta

    Pot, meet kettle. Actually, that’s not fair to USV, as you have some investments with staying power. But in terms of the overall industry, it does remind me of the baseball owners complaining about player salaries at the same time that they’re the ones awarding ludicrous contracts in the first place.Maybe doing more deals with performance-based tranching makes sense. This way, the founders/company do not need to spend valuable time on the next round of financing, but rather, on execution, and the investors have a safety valve if things were not as they seemed during the courtship.Thoughts>

    1. fredwilson

      Performance traunching is not usually a good deal for the companyI think a better approach is raise a good amount of cash, keep burn undercontrol, get revenue flowing, get profitable

  16. Matt A. Myers

    I think this is a solid caution out to all VCs that read Fred’s blog. 😛

  17. Dan Ramsden

    Fred, if I agreed with you any more, my head would begin to spin. My question though has to do with cause:Do you think the phenomenon you describe is an extension of an overbought public market (stocks, bonds, commodities), spilling over into venture capital? Many people feel – myself included – that the markets and the economy are no longer linked by economic fundamentals, but are artificially held up by excess liquidity (even more so recently with QE2). I wonder if this is the same thing happening in VC…

    1. fredwilson

      I am not a student of global monetary economicsHowever I think you may be right

  18. maxniederhofer

    I think we’re on a long wealth-creating trend caused by the invention of the internet (I subsume pretty much everything into that term: the entire application stack from semiconductors and networking equipment to online consumer and mobile apps). But I also believe that this trend has cycles and we’re overdue a mean reversion based on what you outline.300+ web/mobile apps (my estimate) are launching every week. That is a good thing from a societal standpoint, though it sucks from an entrepreneur’s point of view to have to break through that clutter. Many of these apps are getting backing from folks with an unproven (“super angel”) or unsustainable (most VCs) business model. The fundamental problem of the industry (“no exits”) hasn’t been resolved. Indeed, more M&A is happening earlier and earlier. So the funding party is very likely to end.Does that mean that there aren’t still phenomenal things to be built? No. But it does mean that from a seed investor standpoint, I’m packing it in for the time being. And every VC I’m advising to go later. Groupon at $100M+ valuation (Accel) is a good buy. DST in Twitter at $3B would be a good buy. It’s getting harder and harder to discern early-stage success based on the metrics of the last five years (great team, great traction) and every one of those deals is hyper-competitive. For VCs, this is probably a good time to double down on the winners and take the fund horizon view.All the companies I’m invested in I’m advising to sell, sell, sell if there is interest. There’s a glut of good, small-ish companies to buy and leaving money on the table now may mean that they’ll have to wait 3-5 years to be back in the same position.

    1. andyswan

      Excellent summary of your position Max. There is a deflationary vortex resulting from the app rush (… ) that is crushing the actual businesses’ ability to create cash, while investment premiums are simultaneously going through the roof.That disconnect makes for the worst kind of bubble.As a very UNsuper Angel, I shut the spigot off earlier this spring. I’m now 100% focused on rolling up my sleeves and doing whatever I can to get the companies that I’m invested in into one of two camps by the end of Q1 ’11:1) Profitable, growing and “we don’t need no stinkin investment”. Kick cash to shareholders for the next 4-6 years.2) Sold or at least moving into a round that I can sell into (I never stay beyond a B round).I prefer #1 because I think that’s the foundation of a great business anyway….but some of what I’m in won’t get there quickly enough I’m afraid…so #2 isn’t a bad option either, Tadpoles like me can GTFO of Dodge while the sharks are chasing each others’ tails….

      1. Alex Murphy

        Andy and Max,Great comments.Do either of you think that this has more to do with the attitude/method of angel investing rising to the VC level which will create a void of institutional investors in the next 12 to 18 months?What I mean by this is Angels typically back an idea and a person/team. Here is a little bit of money, go see if you can build what you are describing. When the founder comes back with a product, the Angel says, hmm, pretty interesting, let me circle some other Angels and here is a little more money to see if you can acquire customers. Once the founder shows they can acquire customers then you start to move into expand and scale mode because the company is profitable or can be and needs institutional money to grow, which is tied to your point #1 Andy.Today, it seems like more and more institutional money is chasing an idea and a founder/team and putting in more money because they don’t want to miss an opportunity. They seem to be taking a position in the earliest stages because if the Angels prop an idea up to the point where the start up didn’t need any institutional money then the VC would miss out. The outcome may be that these funds will have placed bets on small companies and will run out of money, money that is needed by the startups that do get customers and traction in order to scale. These start ups will be on a run rate expecting to be able to raise another round and will find it much harder, more expensive, or simply impossible to continue.

      2. fredwilson

        We haven’t ‘shut off the spigot’ because we don’t try to time marketsBut we are very much taking the rest of your approach

        1. maxniederhofer

          It’s funny you should say that about market timing. I’ve always thought “timing markets” was a success factor of VC. I guess that’s just my misusing the term: it’s the portfolio companies’ markets that matter, not M&A, funding cycles or public market timing. I think Paul Graham said “the economy is a rounding error” in predicting the success of startups. It’s probably equally true of the tech funding cycle.Part of managing money is to deploy it. So I understand you can’t very well shut off the spigot. You were very counter-cyclical in 03-04. I think there’s ample opportunity for some creative things that will round out USVII.

        2. Dave Pinsen

          I wonder if any of your investors short some publicly traded tech names to offset the market risk. Trying to time the market seems impossible, but taking on market risk during a secular bear market doesn’t seem to make a lot of sense either.Market neutral investing seems like the way to go. I’ve been doing some of that with tech stocks recently (e.g.).

          1. Dave Pinsen

            Another recent example: update on last week’s market neutral trade.

        3. andyswan

          I hear you. I wouldn’t try to time overall markets (except that I would try to time their growth stage) on pvt investments either, but I have to because I have limited capital. That’s the downside of being an UNsuper angel.That, and the only thing I have to pull my investments through is elbow grease. Fortunately, I hate losing money and love winning so much that it can be a pretty effective “put yourself in a corner” situation LOL

      3. ShanaC

        Would you invest in a related sector but not the immediate web tech for consumers? Less tadpoles? Where is the market going next?

    2. aweissman

      great comment Max

    3. Dave Pinsen

      “I think we’re on a long wealth-creating trend caused by the invention of the internet (I subsume pretty much everything into that term: the entire application stack from semiconductors and networking equipment to online consumer and mobile apps).”This reminds me of something a mutual fund manager at a firm where I worked at the time said in response to an investor’s question back in ’98 or ’99. The question was how long the boom would last, and the fund manager said that the late ’90s boom was the result of a few trends decades in the making — one being the creation of the Internet and the semiconductor business, with roots in the ’60s; another being the defeat of inflation (which seemed permanent, at the time), which went back to Volcker at the Fed in the ’70s, and I forget the third trend. Maybe it was the tax reform going back to the ’80s. In any case, the fund manager’s point was that, since the trends that led to the economic boom took a long time to develop, the boom itself would be long-lasting too. Unlike you, though, he neglected to mention anything about mean reversion.

    4. Prokofy

      The wealth-creation cycle was only about wealth for a few people. For many, it meant the loss of their jobs. The Internet has not become accessible to wealth for more people yet because it doesn’t have a good simple reliable micropayments system, but worse, web 1.0 and web 2.0 were run by open source zealots who don’t believe in paying for anything.When they’re ready to change that, or get OBE’d, then the Internet will get better, retain more value and pay out more. It’s really about psychology and culture.

      1. ea cpe

        Definitely agree with your post. I think it takes a lucky/particular/specific kind of person to be able to take advantage of wealth-creation on the internet. More than just psychology and culture, it’s about personality as well.

  19. jonathanmendez

    Fred – is there any correlation that investor interest/valuations are higher because over the last few years we have gone through an amazing paradigm shift where there is basically no technology risk anymore for start-ups and the capital costs for infrastructure i.e. bandwidth, storage, processing, serving are now marginal?

    1. fredwilson

      yes, that is most certainly one of the driving forces behind what we are seeing

  20. Alex Murphy

    Fred, Great post. You are calling out the fact that making decisions/investments without all of the necessary information will likely result in failed investments and ultimately cost those investors a lot of money. This is so important. This rush to judgement is what creates bubbles of all forms because it results in decisions/investments being made in ways they shouldn’t be made.I remember reading a Washington Post article in 2005 about how 30%+ of all home sales were being purchased with 100% loans. That was a tell-tale. In the start up world, some % of deals are getting done without doing due diligence.I think that this is because a lot of investors feel that they need to rush in order to get the deal done. In some cases (for a $30k investment with someone you know) you probably don’t. For a $500k investment you should. For a $2MM investment you definitely should. Perhaps investors are rushing into these deals because they think that is the only way to do it. Perhaps more coaching and guidance should be given about what the best practices are. So, to that end, have you considered doing a series of posts about the steps for investing? Something similar to your MBA Mondays.

  21. RJ Johnston

    Too much money sitting on the sidelines for too long. It is a good thing money is back to work.

  22. inthewoods

    I think a tell-tale sign is that we’ve got Instagram and Picplz both getting funding for what looks like about 10 days of programming effort.

  23. thrill

    I’m not so sure that taking a $10MM flyer on little more than a ‘good idea’ is necessarily a bad idea at the moment. We’re devaluing our money daily, and discussing tremendous devaluations to come. We have a decreasing pool of young talent to create wealth, and an increasing pool of older talent that sees their own nickel will not go as far. We expect our manufacturing base to at least not increase, and that which remains is going to be more specialized and inflexible, meaning the interest in whatever invest-ables remains is that much higher. What young talent we do have is starting off in ever greater debt due to an artificial influence of placing ever more inadequately prepared youth into educational institutions with ever greater overhead. Our investment environment is becoming less predictable, i.e. more chaotic. When money does meet concept, there is a stronger desire for the marriage to be made quickly to gain position.

  24. ShanaC

    What is incredibly interesting about the 90s is that the big firms that managed to survive are still with us today (for the most part). There are even elements of netscape around, sitting in Mozilla.Big powerful Storms create two things- water and electricity. So what if a few weak trees get burned by the lightening- the bigger trees/companies survive and thrive post rain.The question is what are those trees. I don’t think we have a full clue yet. It is still way too early on in the cycle (not the engineering part, but what are they supposed to build part). I think we’re still exploring how to interact with what we are interacting with now (phones, kinect like devices, video, to some extent social activities). I also think largely you are not seeing how all of this newish stuff filters back into the business world yet.It’s a big wait and see. Though I agree with your general sentement- get to your own money asap….Though I got to admit, Even I am a tad nervous about the fact that I have seen StubHub ads on tv. That is one of the few things I remember about the boom- tv commercials for websites. You need to get more eyes to either do business or to support your advertising. Hence TV commercials, both then and now…still doesn’t make it any less disturbing.

  25. David Semeria

    The only froth in Europe is to be found atop our cappuccinos.

    1. Andrew Greene

      Exactly. I don’t quite agree with the notion of dark clouds coming over American startups, but I think if there were any bubble in VC, then it must effect only American VC. Most economists predict slow American GDP growth, but much faster GDP growth in Emerging Markets.I think it’s brilliant that Dave McClure is going to China to invest. Who else is daring enough to go frontier markets and invest in startups? The riskiest of the riskiest of markets!

      1. fredwilson

        it is brilliant to invest outside of the US in the web sectorbut i’d argue that you need to be “on the ground” in those markets to be able to do it well

        1. Andrew Greene

          I agree. It seems like he has some help there, but I could be wrong.When you are taking concentrated risk in such esoteric and risky markets, I would definitely want someone on the ground. Do you think you need someone native, or can an outsider learn enough?

  26. Senith

    I missed the Mike Arrington article! Am amazed!

  27. Nobodyfromnowhere

    I’d make a distinction between trends in funding and trends in talent compensation.Current funding trends are probably unsustainable and thus will stop sooner or later.In re: talent compensation, it’s a little murkier: the only reason the old compensation levels were what they were seems to be due to the kind of price-fixing and collusion we already have laws against.Given that, it seems more than a little questionable to consider the status quo ante as somehow indicative of talent’s true price.

  28. Sooperdupe

    I think the vast majority of these folks have lost the “venture” in Venture Capital, and have become bandwagon jumpers… investing largely in companies beyond the need stage. And yet, in most cases, they expect the same egregious terms. There’s little such thing as pre-launch funding these days.. and the notion that all has been amazing over the past five years is perplexing at best. I think this tiny spat of quick investing, irrational or not, is a good thing overall because perhaps it will help get us all out of this development rut. And if you don’t want to participate, then so be it.

  29. jon

    well said, Fred. From afar, big chunks of the startup world certainly seem to be showing some classic signs of a pumped-up bubble. Not to mix metaphors or anything, but let’s just hope there’s not to much shrapnel when it pops.At the same time I also think this highlights the value of diversity in today’s climate. Virtually all of the bubble stuff going on is guys funding guys. So the best opportunities out there now are likely to revolve around women — and blacks and Latinos and all the other groups that are largely excluded from the system today.

  30. ErikSchwartz

    What’s troubling is how low the aspirations of some of these companies are. You don’t see many startups saying:”damn, if we nail this it fundamentally changes everything…”That’s the attitude that built amazon, google, apple, and twitter. Stuff like instagram is cute and all but if they nail it how is the world different or better?

    1. Kyle Pearson

      This is where i think the bubble is. Great companies like Facebook or Zynga with real revenue and solid models don’t get hurt by bubbles. Its the little companies with products that don’t change much in a person’s life, but still get super high valuations, that the bubble shows itself in.somebody mentioned “Search wasn’t a bubble”. Well, Google wasn’t a bubble. I don’t know what the other thousand search sites that went bust think…

      1. inthewoods

        They get hurt, short term, by bubbles because they have to spend more money to hire to grow. Popped bubbles are actually their best opportunity to grab talent and marketshare.

    2. Hutch Carpenter

      I’ll disagree with you on that Erik. Plenty of companies think that way. My company does (in the enterprise space). But I also look at someone like Twitter. If you go back to the inception of Twitter, do you really they were talking about fundamentally changing everything? It was an interesting concept at that time. Of course they do talk about changing the world now, with tens of millions of users and real usage to back that up.Referencing Instagram as an example of low expectations is *way* too broad a brush to use. And who knows, maybe Instagram will leverage its success to pivot to some bigger purpose that changes the world.

      1. ErikSchwartz

        There were a lot of qualifiers in my argument that you seem to be ignoring.SOME companies raising money at stupid valuations have low aspirations. Not all.Yes I do believe that Jack et al believed that Twitter could “change everything” if they nailed it. The key qualifier there is IF they nailed it (they have).As for instagram, they’re a feature my sony mavica had in 1996. Covering for Apple’s minimalist design esthetic is not a business model.

        1. fredwilson

          instagram is not a feature in your sony mavicai assure you of that

          1. ErikSchwartz

            Let elaborate, and start off by saying I was a bit too flip.My late 90s mavica had a set of built in filters. They were fun. I’ve got a bunch of hawaii pictures shot that way. But after a few months you get bored with them. You stop using them. Eventually the feature goes away if no one uses it. If camera manufacturers want to bring it back, it’s easy to do.Right now Apple has one of the biggest (maybe the biggest) selling point and shoot cameras in the world running on iOS. Apple also has a very minimalist design esthetic when it comes to features, so there are lots of features these cameras lack. One of those missing features is fun filters. Instagram is patching that hole.If instagram sustains their strong growth curve moving forward then apple will build the functionality into the camera software and compete directly against instagram, if they don’t continue to grow strongly then instagram will prove themselves as another short lived demographic fad.It’s like companies building products on features twitter has not yet implemented. It was you who a few months back said something along the lines of these companies need to aim higher than patching temporary holes in the twitter product plan

          2. fredwilson

            but instagram will be cross platform and it will be a networkapple can’t kill it on either basis

          3. Firebrand

            A network of what?Unless I am missing something this is still a feature. Who cares if it’s cross platform, it’s not something that I’m going to use on more than one device, and what does it do that flickr and others don’t already?This is a bubble buy. Good luck with that investment, to me you are buying into a widget and not a company. Your hope is that someone come along and buys said widget before you have to reup the money into the company. Ie; there is no business here, just a cool thing that you hope enough people use so you keep ahead of the grim reaper. But I speculate that the grim reaper will find this company before the widget buyer comes along, because they will see this and go, hmm I can do that on my own.Seriously? Help me understand the comment and why someone would pay huge for a widget?Wake up and Smell the Coffee…

          4. fredwilson

            I didn’t we made an investment in this category. We haven’t and probablywon’tBut I disagree with your analysis and don’t like your tone either On Nov 14, 2010 9:15 PM, “Disqus” <>

          5. Firebrand

            Oh, check out okimok it was done before instagram and I think at least as good.

          6. ErikSchwartz

            I already have a great network for my pictures, in fact I have two (FB and Flickr).It’s far more likely and far easier for those two to successfully add filters (instagram’s product differentiator) than it is that instagram build another mainstream photo network.

          7. kdbaumann

            Instagram is cute. I will happily await the day that do something game changing. Cute sells and gets used, but cute gets boring. MySpace was cute, it’s now dying and they changed the world, after all without that thinking others would not have jumped in.But for me I will take 10,000 cute companies, they just need to become part of our developer program so that their cute becomes useful across more than themselves. 🙂 Get out of the S3 Stovepipes and into a real cloud. That’s game changing. Think of someone taking an instagram, storing it someplace that they can then use other application to be cute with, share it out to their friends, and see it on TV / Android / iOS / Roku / etc…That’s game changing. Unlease all of that creativity and data that is trapped in stovepipes on the net. That’s the true potential of the internet, and what will allow cute little apps like instagram to become more. But stay in a useless stovepipe and it’s just a cute app.As to valuations. Come out to the east coast, there are almost no angels willing to touch the internet (NYC being an exception), so the values are not that high. This is the reason you see so many startups moving out to the valley from places like Boston and DC. So cast your net wider, be willing to jump on a plane to have a board meeting, use the technology that you are betting on and video conference in (skype is wonderful).But whinny about valuations when you are in control of that situation is silly.Meantime get your startups out of the S3 Stovepipe and into a real cloud. If that’s interesting talk to me. But do it before I move to the valley and my valuation goes up.

      2. fredwilson

        agreed Hutchthat’s a diss on entrepreneurs that i don’t buy into

      3. Rodolfo Rosini

        Actually when I saw the business plan of Jaiku (Twitter competitor acquired by Google) I recognized immediately as a game changer. They had not even 1.0 out that I thought it was gonna change the world. Then Google came and now we still do not have rich presence on our phones.

    3. fredwilson

      i disagree ErikInstagram could change everything. i don’t really know how, but they couldmany of the most game changing companies did not start out trying to change the world

      1. Fred T

        A picture says a thousand words.I believe that’s what Instagram does: aggregate words into a concise yet meaningful message. It could make life much more convenient for some.

    4. Mike

      they had no idea what they were building with Twitter…learn your history!

      1. ErikSchwartz

        I know my history. I was using twitter when it was twttr. This was something jack had been thinking about for years.

  31. Ted Carroll

    Words of wisdom indeed.We’ve done traditional growth and buyout investing in a specific non technical sector for about 25 years now but in 2000-2001 I got roped into helping arrange investor introductions for a start up optical switching enterprise. I did my part and got it rolling but soon found that a key valuation metric in the “space” was becoming the number of highly trained photonic scientists that could be recruited a start up. To wit: each senior photonics scientist who joined added $1M to the pre money value of a project. This, I thought, was absurd but others who had by then become so called “specialists” in the segment took it as gospel truth.The “storm” as you call it eventually arrived but by then I was back doing our traditional business. The heavens opened, the money spigots closed and a lot of LP capital just vaporized.

  32. Mike Hart

    If you are seeing it then it probably is so. My concern is that these cycles can spill over to different industries. Biotech investing has never been the same since the internet bubble. There the IPO market was the primary means of liquidity for VCs. Social media investing is of a much lower magnitude, but as valuations rise liquidity concerns go with them. Who will provide the liquidity?

  33. LIAD

    this kind of stuff is beyond my pay grade.however – to the VC’s walking into first meetings with term sheets….my door is open.

    1. Michael Tupper

      Ditto that…

  34. hanna11

    Fred–Any insight on the attributes of the deals that are getting Term Sheets dropped at first meeting? Is it a particular segment/market or is it team, location or something else?

    1. fredwilson

      web stuff broadly and mobile, social, commerce in particular

  35. John Ball

    Fred, characteristically, I agree with your concern, if not necessarily the “cause and effect.”I assert that the 2000 “bubble” had more to do with the ability to move risk from the portfolio of private capital to the public markets; call that appetite. Even without sustainable/extensible business models, opportunistic profit taking took place at one or two points along the ‘profit taking curve.’Today, so many “lean startups” permeate the landscape deploying a “strategy” whereby the “adoption” of their product takes place as beta-level solution hoisted upon markets, which are entirely too receptive, often out of fear of being left out of the loop. In short, rapidly evolving, and often untested products are more easily reaching markets and eager investors are too easily lured into the potential for profit (unrealized in alternative investments), to accept that too few of these new ideas have any demonstrated ability to scale to become ‘real companies.’The hard reality will arrive and it may very well be described as another “bubble.”(yes, probably too many quotation marks, but I languished for a way to catalogue “facts” from opine 😉

  36. Dhaval Garg

    Fred, Any advice for entrepreneurs who’re starting business in this enivronment so that they:1. Can raise quality capital2. Don’t crash and burn if the market goes downThanks

    1. fredwilson

      get your money raised now and keep your burn low and figure out how you will make money soon

    2. Rodolfo Rosini

      Unless there is a global recession there are other places to raise money than Silicon Valley. When the “good times” were over I have raised rounds from investors outside Europe and US with ease. the only issue is that these are not early stage but anything from B is palatable to them.

  37. Roy Nallapeta

    Fred a great warning post, a one without scaring us and talking about the reality. As you say “And anything that is unsustainable will eventually stop happening” is the most important statement. The whole idea of apprising things without any consideration to value derived is simply unpardonable. This activity further leads to bloated expectations and bad results.

  38. goldwerger

    The current climate reminds me of many of the symptoms I remember from 1999: sentiment-based decision making, exacerbation of herd phenomenon, some illogical proxies of value, and (to me, mostly) increasing use of catch phrases and buzz words.When entrepreneurs pitching investments start to say “social media”, “gaming”, “location-based advertising” and “cloud” all in one-breath and loosely-related to their business, I am reminded off “eyeballs”, “the 3 Cs”, “online marketplace”, “click and mortar”, and other…When there is an inflation in buzz-based companies, better be a revenue-based one, bide your time, and win the day when all the dust settles. Real companies won post the .com bubble, and will win after this one.Investors should just keep their heads on their shoulders, and not in the “cloud” (pun irresistible…;)

    1. Donna Brewington White

      Your words are insightful and wise.I re-entered the business world and recruiting in 1998 after a stint in the (non-business-oriented) nonprofit world. So, quickly trying to re-engage and catch up, I thought the 1999 world you described is what the business world had become. Learned the hard way. But, I DID learn. Hope others have too.How many hard lessons do we need?

      1. Guest

        Hopefully not too many… but since bubbles have been around for centuries (Tulips, anyone?;), I think as a species we have a poor collective memory (put differently, history repeats itself in different variations of the same themes).The only real memories are individual. Muscle memory has it’s way of working itself into one’s pattern recognition. I know that I remember the last bubble as I experienced it personally, as well as a kid remembers the first burn and the avoids the flame the next time.These blogs posts and comments, and personal mentorships, are as close as we get to transfer knowledge.But I am pretty sure we will see some familiar patterns coming up. Shortly.

        1. Kate Huyett

          One pattern I’m seeing that’s got me thinking is HBS grads going into tech…at highest level in years. I wrote about it here:

          1. fredwilson

            that’s a good indicator that it’s time to sell not buy

      2. goldwerger

        Hopefully not too many… but since bubbles have been around for centuries (Tulips, anyone?;), I think as a species we have a poor collective memory (put differently, history repeats itself in different variations of the same themes).The only real memories are individual. Muscle memory has it’s way of working itself into one’s pattern recognition. I know that I remember the last bubble as I experienced it personally, as well as a kid remembers the first burn and the avoids the flame the next time.These blogs posts and comments, and personal mentorships, are as close as we get to transfer knowledge.But I am pretty sure we will see some familiar patterns coming up. Shortly.

  39. markslater

    one of my first jobs after college in the late 90’s was at CMGi – If term sheets are appearing that quick then this is a sure sign of choppy waters.On the other side with almost a guarantee of a jobless pergatory / recovery continuing – you dont have the backdrop of irrational exuberance that swamped the capital markets as joe public wanted a piece of any IPO they could get their hands on.You have an industry or sector specific bubble – i think its limited to just that.

    1. fredwilson

      totally agreedid you know my former partner Jerry Colonna when he was at CMGi?

      1. markslater

        i think Jerry was over at @ Ventures – i was an analyst on the owner operated side where we bought companies and tried to glue them all together.

  40. Andy Rosenberg

    Fred,I definitely agree, but how do young web companies combat this?From the perspective of a PR professional working in this space, I feel many startups/web companies lack effective long term communications strategies and are receiving attention from VCs and press at the wrong time. Riding on a wave of instant “buzz” when your product is in a premature state (in beta, not ready to scale and keep up with rapid user adoption for example) plagues some of the younger stars in this field.While it is great (and necessary) to receive VC/press attention at early stages in product development, perhaps some of these unnatural valuations are the result of “keeping us with the Joneses” within the VC community. “I read that X project received X amount of funding on ______, so either I need to invest in them (or in their competitor) to stay on top of the industry.

    1. fredwilson

      pair up with an experienced VC with a lot of domain experienceand let them invest at a non bubble valuation:)

  41. Peter Mullen

    This is how bubbles get started. We’ve seen it before. The problem is how to avoid the same traps we’ve suffered before. If anyone knows how, please speak up post haste!

    1. fredwilson

      eliminate financing risk in your portfolio and your company

      1. Peter Mullen

        Cute Fred. However, I was referring to the valuations being paid, not for companies, but for talent. But I think you knew that….

        1. fredwilson

          No I misunderstood you. Sorry about that

  42. Bob

    Preparing for war is the scenario. There is a certain lift off of with tech at the moment in multiple verticals and a very undecided future. The larger companies seem to be quite rightly so making talent purchases too prep the pool for future trends esp mobile.The top talent needs to be recruited and fast. They pay dollars and the warchest is vast , so let the scramble commence. It’s going to be brutal.

  43. Harry DeMott

    Price is a dynamic function of supply and demand.With the ever growing number of angel investors coming out of the woodwork (can’t make any more money in your bond portfolio! Equities have been a tough business for a decade!) the demand side has increased dramatically.The supply side has increased as well – with new companies starting up all the time and more and more people giving it a shot. Charlie O’Donnell had a great piece on this yesterday: http://www.thisisgoingtobeb…However, the supply of money has greatly outstripped the new ideas – lean start-up has won the debate – but the price of victory is a flood of new money chasing fewer capital needs.So more start-ups – similar capital needs than in the past (but the past companies took more money) coupled with a large increase in funds chasing deals = higher prices.AKA a feeding frenzy.The other factor that I see is the question of where people source deals.If you are just following the crowd – of course there will be a frenzy. More and more people chase the same idea.If you just invest in what Angel List serves up then you will likely get caught in the vortex.If you follow Dave McClure or one of the many super angels you are in the center of the vortex.The real question as in investor is whether you have a edge in a certain area – be it an expertise in the space – or contacts that would quickly jump start the new venture – or whether you have a specific thesis that you believe will play out (and are ultimately correct). You may end up in the vortex and you may not – but I think if you stick to your circle of competence you can still remain active and pick your way through the madness.Founders might really jump at the chance to get a $10M valuation after no due diligence versus a $5M valuation after a proctological exam – but the smart founders out there will realize that it is far more important who your partners are than what they paid in an initial round.$1M on a $9M pre sounds great when faced with $1M on a $4M pre – but think about it long term. If you fail, you fail – and it doesn’t matter what anybody paid. However, if you succeed, how much dilution will you suffer until you don’t need any financing. Can you give up more earlier on to get to that point quicker? Will it be worthwhile? Differentiating on price might work with the inexperienced – but that’s not where you want to be as an investor anyway I think.

    1. fredwilson

      so much wisdom in that comment Harryyou are in JLM territory my friend

    2. Rodolfo Rosini

      Err no.Pre is important.My previous startup might is not the next Google but it’s headed towards an exit with a nice valuation. I raised money in Silicon Valley and London and in the end decided to go for an investor with a relevant background to my industry for a lower valuation in the UK. Don’t think his expertise made a difference but certainly my exit will be affected.Granted, if you fail, you fail. But if you fail to negotiate your terms you might fail as well while your company might not.

      1. Harry DeMott

        If you truly believe that your investor in the UK made no difference to yourbusiness – then you did yourself a disservice by taking the lower valuation.The question that this brings up in my mind is how then can you getguaranteed differentiation between investors as a founder? How can you makesure that the additional dilution will have been worthwhile? How do you makesure you end up with the “right” financial partner for your business.

  44. Morgan Warstler

    Well, I’m glad I read this at the end of the day… super expensive programmers are the canary in the coal mine. Also, Cisco scares me to death.The best solution for us is to feed the beast: we need GOV2.0 to outsource and privatize government functions, our public sector is broke and needs lots of start ups offering to keep $1 for every $5 they save.Which also means it’s time to Napsterize Education, that’s 50-60% of state budgets.We should realistically look to cut Public Employee Compensation from $1.7T to $1.2T – save $500B a year, and put $100B into our pockets. Right now Public Employees receive more than Medicare and Social Security combined.That we’re arguing about NN, instead of saving our country from the fat bloated beast is incredibly short sighted.

    1. fredwilson

      yupi agree with both of your ideasif i had political ambitions, and i don’t, i would run in 2012 on that exact platformthe cost of education and government can be reduced by orders of magnitudeonly problem is we’ll have millions of unemployed as a resultbut the technology revolution is a bitch and there is going to be a lot of dislocation as a resultdoesn’t mean we can postpone it though

  45. Paul Kedrosky

    My ego’s big enough that I don’t need validation, but … I feel validated for my “super-seed crash” post last summer.

    1. fredwilson

      i think the problem is broader than the super seed marketand i am not sure we are headed for a crashwe can avoid it if we all just take a time out and stop being stupid

  46. Prokofy

    Well as my grandmother used to say, “Pride goeth before a fall, and a haughty spirit before destruction.”Why should only some of us feel the pain of the recession, Fred?I think they will come to find that engineering — meh, it’s not everything.On Twitter, I told the people at the new Google Ideas thing that they need to hire me as a dissident, but my phone hasn’t rung yet. I’m willing to make them a website, too, they don’t have one.Meanwhile, I have good ideas for apps.

    1. fredwilson

      i think apps that focus on energy efficiency are greatthere is so much we can do to reduce our reliance on foreign oil and lower our bills with technology

  47. brant cooper

    Is part of the problem, perhaps that money is flowing to the same regions, which serves to inflate prices and exacerbate the problem of scarce resources? Money needs to flow to startups in under served markets where the ecosystem is “old school,” yet ironically immature.

    1. Len Feldman

      Silicon Valley is definitely overfunded. New York is a bit frothy, but not to the same extent. However, there are lots of excellent startups that are growing all across the U.S, as well as Europe and Asia, and by comparison, most of them struggle to find funding. If investors broaden their geographic scope, it effectively increases the pool of potential investments and helps to decrease competition for deals.Broadening geographic scope will also help control the stupidity that companies like Google are engaging in to keep engineers. For far too long, companies have been encouraged to move to Silicon Valley, to the point that their funding was dependent on making the move. That concentrates talent in one of the most expensive places to live in the country, increases operating costs and (when things are good) magnifies competition for talent. Why not encourage startups to locate in other areas with lower costs of living, lower operating costs and less competition for talent?

      1. brant cooper

        Thanks for your thoughts. Only thing I’d add is that startups don’t need to locate in other areas, they already exist. The ecosystems, however, are not mature enough to help get them institutional capital. This is changing, but takes awhile to get established. The “frothiness” (naturally) occurs in the areas where the ecosystem is strongest.

        1. fredwilson

          totally agreethere is opportunity for VCs in those marketsbig opportunity

      2. fredwilson

        i agree Lenwe have stepped up our investing in europe in the past year and a halfi think 40% of our investments have been sourced there in that periodi think eastern europe, india, and asia is also interesting but that is too far for our firmsomeone will build an Index or USV in those marketthey may have already for all i know. i just am not active in those markets

        1. Venugopal Sathya

          Fred,I couldn’t agree more with you on this.There are some very interesting companies coming out of India for sure.There is still room for Index or USV like funds to fully emerge here.Would like to understand what would kindle your interests in these market…Cheers,VenugopalVengo Ventures.

          1. fredwilson

            we can’t service those markets from NYC and my partners and I want tolive and work in NYC and we don’t want to add new partnersso we are not going to invest in these marketsbut others can and will

  48. Dag

    Something to think about Fred.I almost always enjoy your blog but it is occasionally self-serving. Can you point me to a post where you posit that valuations are too low? Or when a founder selling their company for a few hundred million was the right thing to do? (as opposed to pointing to Google and Facebook and wondering what would have happened if they did that)It’s subtle but frequent enough to see the bias. It’s just slightly taints credibility every once in a while.

    1. RichardF

      Fred’s a VC, the clue’s in the title to his blog.

    2. fredwilson

      look at all my posts in Oct, Nov, and Dec 2008 when i was saying the market had over reacted and it was time to buy when there is blood in the streetsi went as far as to recommend public stocks and tell my readers exactly what i was buying and how muchthose buys are up something like 3x right now

  49. William Mougayar

    One difference between 2010 and 1999 is that the public markets for startups aren’t participating in the bubble growth now. So that’s a bit of good news, as long what Fred has described stops happening. As an entrepreneur, I wouldn’t want my company to be valued at an inflated premium because it’s an artificial bump, and if I don’t grow like a rocket, I will go down quickly after the bubble bursts.

  50. howardlindzon

    Amazingly Jim Cramer who you backed way back in your teen years is telling listeners to put 20 percent of their portfolio’s in GOLD. This is after a 10 year rally that has gold up 800 percent.You are urging caution and he is recommmending reckless investment practices.Interesting times

    1. fredwilson

      i said my piece on gold a few months backit makes no sense to me

  51. Scott Allison

    Just a comment on due diligence. Warren Buffett spends billions buying companies with little or no due diligence, and Berkshire Hathaway is a public company! His main criteria is to do business with people he likes, trusts and admires. Now if VCs did that more than just chasing the latest trend this froth may not have come about?

    1. fredwilson

      knowing someone is due diligence of the finest form

  52. sigmaalgebra

    This thread seems to be concerned with, for some telling examples,fredwilson, “storm coulds” (clouds),goldwerger, “herd phenomenon”,fredwilson, “sheep get herded and killed”,inthewoods, “froth in the market”,Harry DeMott, “a feeding frenzy”,Phil, “bubble and subsequent collapse”,Scott Barnett, programmers “treated and paid like a rock star”,SF, “a 3.5M payday at Google”,Malcolm Lloyd, “trivial for the underlying platform to duplicate your product”,fredwilson, “defensibility”.Come on, guys: A “rock star” can get $3.5 million from one tour or maybe just one CD. The “3.5M payday at Google” might be just a rare exception or even just a rumor. Even if it happened as reported, $3.5 million is often just “chump change” in some parts of the economy, especially hedge funds. Besides, how far will the $3.5 million, after tax in California, go in the real estate market near Google HQ?”The house prices are so high NO ONE can pay for them”? Nope: The prices are so high just because enough people CAN pay for them although likely few Google programmers who didn’t get Google stock early on.It does appear that this thread has a lot of anxiety and uncertainty about the current ‘information technology business startup environment’ and considerable confusion about what to do.Let’s try to replace some of the confused angst with some comforting clarity.First, though, let’s feel better quickly:…Still, there are points in this thread that are solid:fredwilson, “get revenue flowing, get profitable”goldwerger, “When there is an inflation in buzz-based companies, better be a revenue-based one, bide your time, and win the day when all the dust settles.”Making money by working through a case of soapy WonderBubble is possible but uncertain. Let’s see: The self-directed IRA accounts have had 10 years to get plump again. Time to drain them again? Is that the best way to make money? I don’t think so. And the LPs, tired of losing money for several years on their ‘alternative investment sector’, are likely also skeptical.Let’s try to reduce the uncertainty:Since we are all talking about essentially only the field of ‘information technology’, we can with some objectivity consider an analogy from biomedical technology: There pick a common, incurable disease and find one pill that is safe and effective. Yes, the difficult part is how to find that pill.So, to generalize, the ‘approach to business’ illustrated by such a pill is to pick a big problem where a good solution will be valuable and find such a solution, not easy to find, and, thus, with “defensibility”, one much better than anything else.Q. But, is that what Facebook did?A. While I haven’t seen the movie, I don’t think so.If we can find such a pair of problem and solution, then we get to worry very little about ‘buzz’, ‘herds’, ‘froth’, ‘bubbles’, ‘product-market fit’, ‘customer acquisition’, ‘customer adoption’, many “engaged users”, “customers and traction”, etc. because all such things are either irrelevant or are automatically ‘handled’ by the importance of the problem and the value of the solution.There are many large, unsolved problems: The key is finding a pill for such a problem.In information technology we implement the pill in software. Maybe given the pill, the software is routine.Software that does not implement such a pill and is routine, say, written in “72 hours”, does not have much “defensibility” and is not a good candidate for a valuable ‘pill’.So, let’s get motivated: We can see the challenge, struggle against long odds, and the joy, satisfaction, and security of victory in…The challenge is inevitable, and the victory, what we want, but with care we can avoid the struggle against long odds.So, how do we find the coveted pills?So, let’s get more serious:…and still more serious:…Okay, thusly prepared, we’re not nearly the first to ask how to find powerful and valuable solutions to difficult problems. And, thanks to some relatively well allocated US tax dollars, we have a few dozen research universities funded essentially just for finding such solutions.Curiously, the techniques and tools illustrated there are so far neglected, eschewed, by nearly all of the software parts, especially the more recently popular parts, of information technology entrepreneurship.Uh, curiously, for such applications of ‘computing’, the ‘good stuff’ is almost never in the computer science departments. For people who assume otherwise, sorry ’bout that! Yes, to some people this point a surprise and a challenge, but the ‘flip side’ is an opportunity.Is everything in the research universities good for such solutions? Definitely not! The best parts of such universities are like a mountain stream — cold, wet, and uncomfortable, with mostly just mud and gravel, but also one of the very best places to find gold.If the universities have such good stuff, why is it so neglected? People can find many reasons to neglect something cold, wet, and uncomfortable!But, we have to keep in mind: Since so far big successes are very rare, in looking for them we need more than just empirical patterns from history. For the approach suggested here, we need solid ways to look for ‘pills’ and solid means of knowing when we have found one. These means are right there, for free or nearly so, in selected places in selected US research universities.”Whatever you are doing, you can be sure that many others are doing the exact same thing.”Uh, there are not many people from off campus, or on, in the QA section of the library! Try it sometime!

  53. andyidsinga

    Does engineers leaving google say more about pay & benefits or more about their hacker culture in decline?It seems to me big companies have a problem with keeping engineers and hackers mainly due to their lack of hacker culture.Big companies seem to do well attracting engineers because they can position a job as “you’ll be working on bleeding edge technologies with the best tools” which is great for hackers until they go through the process of learning, and becoming frustrated with, how incredibly hard it is to ship a product out the door at a big company.For small companies trying to attract engineering talent from big companies, it seems that focusing on the “you’ll be shipping product out the door to customers and be responsible for making everything required to do that” can be effective.When I read posts that touch on employee retention, these essays by Paul Graham come to mind:”What Happened to Yahoo”:…”Great Hackers” :…I’ve been wondering for a while now if google is entering a phase of being a “big company” in the sense of a decline in hacker culture.

  54. paramendra

    I think we are living the first year of an almost 10 year run, maybe 8, maybe 7. The storm clouds you see I think are mini storm clouds. As for the shortage of tech talent, it is very real. And I am glad. The hunger is a good one.

  55. Robert Hokin

    I definitely don’t see this investor behaviour happening in the UK! And there’s a lot of well qualified, prequalified dealflow here. So send your investors over!It’s a different, tougher, environment with fewer tax reliefs and grants due to big government cutbacks. So, lot’s of talent, lot’s of good teams, and good IP chasing smaller numbers of pots for funding.ecoConnect, a not-for-profit cleantech support platform runs something called Greenbackers ( It’s a bit of a investors “dating-agency-meets-dealflow-in-a-boardroom” experience. Invitation only. Both investors and entrepreneurs are pre-qualified in an attempt to mitigate some of the risk. It seems to work pretty well.Ok so it’s cleantech which, in some instances, can be more capital intensive with longer exits then web plays on the startup side. But if you want to know where the market’s heading think areas like Smartgrid (a bit like the internet for energy management), think web apps which enable other cleantech businesses, such as mobile apps for tracking electric vehicle recharge points (called juicepoints over here). Web plays which focus on enabling green industry have some big opportunities for growth.The UK technology base is very strong and a good stepping stone into the EU. So next time you investors and investors you know consider a holiday, why not make it a working one, and check it out? Best place to start is in London.

  56. Olin Hyde

    Interesting perspective considering that VC’s have few exits (as measured by IPOs) and there is general sentiment that now is one of the most difficult time for entrepreneurial capital formation (as evidenced by placement statistics).The major issue for many entrepreneurs (like myself) is not a shortage of talent, ideas or great business models — it is the illiquid capital markets.Blame Wall Street: It is far easier for an investment banker to sit in his office and cook up an algorithm that back tests against historical equity trades than it is to go out and find the next big thing. Finding and funding entrepreneurs is hard work: Most startups suck and will never make money. And VCs are not nearly as smart as they think they are (or else they would have a success rate far higher than 3 to 5%).Fred: I’d like to see some data supporting your claims. Seems a bit Polly Ann-ish from my lowly perspective as a startup grunt searching for capital.

  57. Donna Brewington White

    Interesting Arrington post. Didn’t comment over at TechCrunch because…well, you know why.As the 191th commenter here, there is not a lot for me to add, but, as always, appreciate your prophetic voice, Fred.However, once again, I am struck by the coincidence of your posting something that is relevant to what I happened to be thinking about. I missed this post the other day because I was tied up in a small recruiting-oriented workshop in San Jose. Hard not to feel Google’s presence there and of course these recent pay actions by Google were top of mind for some of us.My colleagues and I were interpreting what these actions portend for the war for talent. What’s happening with (or better yet what is indicated by) engineer recruiting and compensation will have a ripple effect beyond engineers (and even hiring and recruiting for that matter).Nevertheless, hanging onto engineers and other talent is going to require more than pay increases and bonuses, or even equity. Companies need to be paying close attention to the environment and culture they are creating. I can’t give details for sake of confidentiality, but I just recruited someone out of an enormously successful tech company who took a significant pay decrease and left behind options and RSUs for a more rewarding work environment. Money has its limits in retaining top talent!!!

  58. mathaix

    Rich Google/Facebook Engineers become Angels/Entrepreneurs. and result in more startups.The more of them them better.

  59. Steven Kane

    Storm clouds, yes.And a very loud thunderclap and lightning when no less than John Doerr dresses up in a hoodie, t-shirt and jeans for a publicity stunt:😉

  60. JS Cournoyer

    Hi Fred,Great post. I agree with you that the madness at the growth stage will eventually stop. I believe it is fueled by venture funds attempting “hail mary passes” to save their firms. As most of those end their investment periods over the next 2 years, we should see a more balance marketplace. On the other hand, I’d argue that the lack of talent supply, or excess demand for talent is likely to get worse over the coming years because of other non-traditional companies getting into the fray to remain competitive. The web is now at the core of many other industries. I’ve attempted to make sense of the implications in my last post, would welcome your feedback.,JS

  61. David Beyer

    Is it possible that the appearance of a bubble in angel/seed investing is explainable by the professionalization of angel investing over the last decade? This professionalization has poured a lot of capital into the game. And if you combine that with the low capital costs of launching a business, VCs now must compete on a new playing field (i.e., incubators, Angel List, and the rest of the democratization of early stage investing). So of course you’ll see prices increase. But this doesn’t necessarily entail a bubble, just the presence of a new class of investors.

  62. Himanshu Khanna

    I think as entrepreneurs or rather, web entrepreneurs, we have the power to control the situation and bring it to a saner system. I see this post and a huge bunch of comments, as a good first step to that.

  63. Alex Murphy


  64. inthewoods

    Comparing apples and oranges – Starbucks has retail locations that require investment so simply saying “making coffee” isn’t a fair comparison. Bringing the latte to mainstream America isn’t a simple product either in terms of scale.And my point isn’t just that the programming skill required is low, but that you have too many people chasing the same idea (with no differentiation – unlike, again Starbucks) and VCs piling money into them regardless.

  65. fredwilson

    yup, that is what critics like inthewoods miss

  66. Peter Wang

    No, the point about the programming effort being trivial is a statement about the barrier to entry of competition.Sure, Starbucks sells a customer experience, makes people feel all hip, etc. etc., but they also have a huge barrier to entry on competition: the hundreds of retail locations. If you come up with a slightly better coffeeshop experience than Starbucks, you still have to put a brick & mortar shop on every third corner.Software is not this way. Web apps are especially vulnerable. The barrier to someone typing another destination into their address bar or clicking a URL is virtually nil. Unless you have some sort of lock on the customer, your excellent user experience is worth nothing if someone else can rip it off and execute better or faster. Sure, if you get there first you can start building up brand recognition and such, but the value of that is way overvalued in the Valley culture. (Outside of northern California, the vast teeming masses on the internet know a few of the top 10 companies. Maybe a fraction of 1% know about Foursquare, and I’d be shocked if it were even that high.)So, Inthewoods’ point was that these companies are way overvalued because they have no lock on a market, and have a trivially easy-to-clone product.

  67. inthewoods

    I think the answer is you need both apples and oranges – undifferentiated iPhone apps with lots of VC money behind them strike me as apples without the oranges. Multiple VCs investing in apples without oranges = froth in the market, just as it did in 2000.

  68. Dave Pinsen

    Starbucks actually didn’t prey on locals at all. On the contrary, it expanded the market for premium coffee and coffee houses. Starbucks doesn’t try to under-sell anyone, and where there are well-run local shops and chains, they tend to beat out Starbucks in higher-end market (e.g., Joe in New York; Philz in San Francisco).

  69. CJ

    I miss the y2K run-up, made sooooo much money in the 18 months prior to that. Overtime was authorized for everything, every company needed extra help. THAT was the American Dream.

  70. Martin Wawrusch

    You might be able to clone the product, but you have a hard time cloning the user base.The companies mentioned have demonstrated the ability to create traction, e.g. attract an active user base. Combine that with social, a public api and widgets for syndication and you achieve both network effect and user lock in and establish a very high barrier of entry for anyone else. It is a winner takes most of it scenario, which kind of reminds me of the late nineties, without the superbowl ads.So in my opinion to be successful as a company in 2010/11 you need to employ a lean startup approach, which means easy to create and easy to use single purpose products that users understand and want. No more Word-style products please. I am glad that minimalism gets funded these days, and we have to thank all the Angels and Super Angels for that.

  71. fredwilson

    web apps have little defensibilitylarge networks of engaged users have enormous defensibilitythe move is to get from web/mobile app to large networki’ve just given you our entire investment strategy

  72. fredwilson

    i agree that there are a lot of “me toos” in the mobile photo sharing marketbut there were a bunch of “checkin wanabees” tooand foursquare emerged the winnerinstagram or picplz could emerge in their marketthose services are pretty powerful even if they didn’t take much time to code upjust to be clear, we are not invested in that market and don’t plan to be

  73. fredwilson


  74. Liz

    Which is why it is baffling to me that Twitter continues to identify itself as an “information distribution system” and not a “social network”. It is easy to find a better, faster, more relevant information distribution system, that’s just a tool that can be tinkered with and improved upon endlessly. However, social networks (the links between followers & following) are not easily portable. I don’t know if Twitter dismisses the social network label because they think there will be Facebook comparisons but they are not taking full advantage of one of the biggest strengths that exists between users. Network loyalty.Sorry for the digression but your investment strategy hit upon a frustration I have with Twitter, from a sociologist’s point of view. As for the “information distribution system” statements, I’m just going by interviews I’ve seen in the press and online with the founders over the past 18 months.

  75. fredwilson

    i don’t want to say much publicly about this but i share your opinions

  76. fredwilson

    capital is just capital when you only need one infusionbut if you need multiple infusions for a single project, then yourcapital partner is not a commodity

  77. Harry DeMott

    The interesting thing that is going on now (or at leas I perceive it isgoing on now) is that JLM is more and more correct.By chasing after every deal and doing no diligence – capital is becoming acommodity.It used to be that if you could grab $ from Sequoia or KP you took itdespite an inferior valuation because of the “social proof” of having themas investors – or because of the perceived value they brought.However, when you are doing 500 investments – you can’t spend much time onany of them – so your investment is a passive commodity. Knowing that,founders are asking more tougher and tougher terms and getting them – andwhy not.I think a smart angel, super angel or VC would look at this going on anddifferentiate by only investing where they have expertise, have contacts toget the company moving in the right direction quicker, and are willing toroll up their sleeves and get to work on behalf of the company by being anactive board member and helping out with anything they can. That’s bringingin another founder and not a commodity.

  78. Liz

    I understand & appreciate your response. It’ll be interesting to see where they go next.

  79. Greg Tarr

    Excellent Comments Harry. I was recruited as an Independent Board Member to several companies based on my startup track record and ability to jump on planes for customer meetings I can set up, recruiting and capital raising, there are very few VC’s that can or will put in the timeAnother note as I embark on a new role as Corporate Venture Capitalist is to look closely to see if your VC Candidates actually have any Zero to $10m Startup Experience as a VP, how can VC’s add a lot of strategic insight to Founders when they are not battle tested in a similar role ?