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Is the tech bubble set to burst?

ByBrice Simon-Letcher

Nov 18, 2015

Over the past few years, concern has risen over whether the technology sector may have been growing completely out of proportion. The possibility that we are experiencing a ‘tech bubble’, and whether that bubble is ever likely to burst, is worrying investors and tech companies alike.

When Facebook made its debut on the stock market in May 2012, in what is referred to as a ‘flotation’, it closed at $38.00 a share, which put the company’s price tag at $108 billion. Today, it sells for over $100 a share and is valued at a cool $300 billion. But how much of this reflects real value?

Before it went public, Zuckerberg’s company was one of the first to become a member of the ‘Unicorn Club’, a list of private companies whose net worth based on fundraising exceeds $1 billion.

The term, coined by blogger Aileen Lee in 2013, was initially a reference to the rarity and extravagance of these companies. But today, there are over 138 ‘unicorns’ listed by Fortune magazine – and the reason the name is sticking may well be because the valuation of these companies, much like the existence of unicorns, is severely in doubt.

Household names like Snapchat, Pinterest, Dropbox, and BuzzFeed have also all been valued at over $1 billion by venture capitalists, even though they generate only a fraction of this in revenue. The software companies’ valuations are so great due to their enormous user databases – but their potential is being converted into capital investment faster than the companies themselves are generating actual wealth.

Yet other ‘unicorns’, like Elon Musk’s SpaceX or Chinese consumer electronics company Xiaomi, have business models that rely on selling physical, tangible products – such as space rockets and smartphones. As American newsgroup CNBC put it, these “unicorns that don’t need buzzy apps to earn their billions”, and they seem at a much smaller risk of over-valuation.

One way of approaching the issue is by looking back at the dot-com bubble of the late 1990s. Back then, the introduction of the Internet in most households prompted a gigantic expansion of online start-ups. Simply adding the prefix ‘e-’ before a company’s name almost guaranteed it several millions of dollars of added value. Companies like Pets.com and Broadcast.com reached billions in market value – but when the bubble burst in March 2000, they collapsed and became worthless almost overnight.

This time though, there are reasons to be more optimistic. Amazon was just taking shape at the turn of the millennium, but when the dot-com bubble popped, they crashed from $100 a share to a $7 low point in March 2000. The company survived the storm and its stock has steadily climbed back to reach approximately $650 a share today. This shows that it is possible for companies with certain business models to rise above the effects of a crash.

Yet, when it comes to more novel business models, the uncertainty is far greater. Uber, the transportation app, and Airbnb, the accommodation provider, are colliding with the taxi and hotel industries full-on. Their current competitiveness may be short-lived if individuals decide to forgo their services, or perhaps if the traditional professions they are looking to displace succeed in fending them off. These uncertainties highlight the excessiveness of Uber’s $40 billion valuation (which makes it larger than 75 per cent of the Fortune 500 companies).

Whether the tech bubble will burst or simply deflate as it re-adjusts from excessively optimistic investment is still unknown. After all, many economists refuse to label a bubble as a bubble until after it has popped – that is, if it ever does.

Image: Sebastian Pichler

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