U.S. Tech Funding – What’s Going On?

Prediction markets are so vastly powerful, both as a financial tool (hedging) and an information tool, that people would be screaming bloody murder if we already had them and then they were taken away.

it might be that what stands behind Enron and other bubbles is a decrease in the rates of profit : and so it goes that people put stuff into more and more risky schemes in order to maintain expected growth targets; in order to do so they have to hack/find ways around existing regulations, but we know that you can hack any system of rules ;-)

All that might also be true for internet businesses : we had a big growth in tech business over the previous decades, but now it might get increasingly difficult to achieve the same rates of return (or not).

Done on a small scale, this would be fraud and would be illegal. But remember, it is illegal because it does work. On the large scale, you just have to wine and dine enough pension fund managers who are in way over their head.

But the idea that private investors' valuation is not "real" somehow sounds silly to me. The companies are still getting sold. The companies/investors that buy them have real value and expect to generate enough revenue from the acquisitions amounting at least to the acquired value.

The question then (and I think is a good one), is why private investment is getting more prevalent if public markets have more efficient valuation mechanisms. I think the answer is that private investors are more willing to 'kickstart' so to speak the early stages of startups, and from then have grown to dominate the investment market to their great benefit.

I think that public companies can reveal true market value quicker than private investments.

For example, VCs invest in company xyz at a valuation of $100m, they don't actually know if that valuation is "real" until the company sells. Until then, it's made up numbers. That gap between investment and sell date might be 5-10 years and until then then there's no market proving of that valuation. We've seen it time and time again that private companies can exist with no revenue or at least no profit for years or until their private fund runs dry, but can still claim a "valuation" in huge numbers, even while the market provable "value" of the company is $0.

Public stock markets tend to suss out valuation much quicker, a company might be "valued" on the market with a market cap of $100m, but miss a couple quarters or some big sales and stock holders will dump and run and the market cap can drop quickly over even a matter of days or weeks. Public investors eventually start to want the fundamentals of their companies to be good even if they start as fantasies. Reportable revenue, eventual profit (or continued revenue growth that's quickly convertible to profit in the even of market saturation)...eventually these things all have to exist, and I'd wager that an analysis of stock market prices on a company over the long run has a strong correlation to these fundamentals. I can't go and buy 1 share of Tesla at $500 and suddenly claim the company is "valued" at $60b.

But you can do that with private companies because of the information asymmetry available to private companies. There's all kinds of wonderful ways to game "valuation", but that's fundamentally different than market "value".

There's an idea that publicly traded, but unprofitable, fast-growth companies, like Tesla, with big inflated stock prices are the same as overvalued privately funded companies, but there's some fundamental differences in those valuations. If Tesla's revenue growth curve turned downwards next quarter or two, their stock price would plummet and their valuation/marketcap would arithmetic its way downward as a consequence. But a private company's "valuation" would stay the same until the next funding round/corporate sales activity, a lag time that could be years away. Thus a private valuation is more likely to be divorced from any business fundamentals than a public one, and that's simply because private company valuations are more closely tied to investor activity not business activity.

Which, by the way, is the entire point of the Fed reducing interest rates - to stimulate growth by encouraging increased spending (including investment) of cheaply-borrowed money.

Credibility and providing liquidity for investors and shareholders are certainly important reasons why companies decide to go public. But there are also downsides to going public -- most notably the myopic time horizon of the public markets, which is a huge barrier to the kind of long-term product and user acquisition investments pursued by tech companies in particular.

You can weigh these factors against one another, but ultimately the fundamental reason a company IPOs is to raise a large sum of money at an attractive valuation. Given that investors are lining up to help private companies meet this goal, the ancillary drivers you mention just aren't enough to push companies over the edge into the public markets.

The ones that are borrowing the money are private investors.

Why is that?

It's substantial. If VCs get a 1x liquidation preference, then it's (effectively) a no-downside investment since Uber is worth (worst-case) $500M+. If they get >1x and are the last investor (most-preferred), then they are virtually guaranteed solid return. Late stage VCs know what they're doing and valuation is still only half the equation.

As for private firms and high net worth individuals.... that's an entirely different issue; I'm certainly not a fan of accredited investor regulation. I'm also not a huge fan of my retirement (401k funds) being invested into the startup ecosystem without any say in the matter either.

Alternately, the small retail investor isn't getting the chance to make life changing amounts of money by putting 1k into Microsoft or Amazon.

I suspect I (and lots of other people) would have been willing to invest in Facebook when it was a 1 billion company. That would be a 270x return from now. If you bought at IPO you'd be a little more than 2x now. Alternately, if you bought at the absolute bottom it's ever been you'd be at 4x.

Certainly 2x and 4x are nice, but they don't make you wealthy in the way 270x does.

The good news - from an economic mobility standpoint - is that technological change is rapid enough that peoples' purchasing habits change all the time. The bad news is that it's often pretty unpredictable which product or service they will land on.

They are showing that there is in fact no tech bubble which I agree with. But that doesn't mean there isn't a bubble far more problematic inside the tech sector. There are a bunch of companies that get a lot of attention for their valuation but without any real proven path to ever honor it.

Uber doesn't have a monopoly on smart people. Pretty soon each and every significant market in the world will have a local competitor who'll know how to play the local system better than Uber and not to piss off civic stakeholders to this extent. There's nothing to stop the competition either. Drivers already on the road with Uber can be easily persuaded to install a second app with a small financial incentive. It's absolutely a commodity play for them. Same for consumers. It's a classic race to the bottom competitive situation, great for consumers and perhaps even the drivers but not necessarily for the company.