The tech-laden Nasdaq index has hit the 5,000 benchmark for the first time in 15 years. Sure—big, round stock market numbers are purely symbolic, but this one carries with it quite a bit more baggage. To call it a generation’s worth wouldn’t be unfair.
Last time it ended badly—very badly. The four scariest words in stocks are, of course, “it’s different this time,” but should investors be wary now?
March of 2000 is the only other month in history the Nasdaq ever laid eyes on 5,000, peaking at 5,135.52. Just five months earlier, the index was valued at half that amount, and by the end of the roller-coaster year it would again be down by half.
But back then, it was more than just smoke and mirrors. It was madness. It was Pets.com and Webvan and $5 trillion of paper wealth just waiting to evaporate. When it rapidly vanished, scores of Silicon Valley office parks were left vacant almost overnight, glutting the market with pool tables, Aeron chairs and kegs of pale ale.
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David Golden, who ran investment banking at Hambrecht & Quist during the bubble years, recalls one particular idiom that encapsulated the mayhem, “If you could fog a mirror, you could go public.”
The end result, when the dust finally settled in October 2002, was Nasdaq 1,108.49.
Fast forward to the present and, to use the most dangerous cliché in finance, things are different this time. The new Nasdaq 5,000 is built on the value of every Google search, Facebook status update, Amazon.com purchase, iPhone app and super high-speed device powered by an Intel or Qualcomm processor.
These aren’t PowerPoint presentations filled with pie-in-the-sky forecasts. These are some of the biggest franchises in the world, and they’ve driven the Nasdaq to 4,924.70 as of Thursday’s close, 1.5 percent shy of 5,000.
Are we in another bubble? It’s certainly possible. But it’s important to see why Nasdaq 5,000 much makes more sense today than it did 15 years ago.
For starters, it’s taken more than three years for the index to double this time around versus a few months in the dot-com days. And when was the last time you saw a business like online supermarket HomeGrocer sell shares to the public?
HomeGrocer was readying its IPO when the Nasdaq first topped 5,000, on March 7, 2000. It debuted on March 10, the day the index peaked. The Kirkland, Washington-based company had $21.6 million in annual revenue and a net loss almost four times that large. The valuation: $1.5 billion.
Sounds crazy right? Not when you consider that Drugstore.com had generated total revenue of $4.2 million by the time of its IPO in July 1999, with a net loss in the previous six months of $30.4 million. Or what about Pets.com, home of the infamous sock puppet mascot featured in the 1999 Macy’s Thanksgiving Day Parade? Try sales of $5.8 million and a loss of $61.8 million.
Growth at any cost was the name of the game.
“Everyone wanted you to need money constantly and do another round and another round,” said Terry Drayton, co-founder of HomeGrocer, which was opening 100,000-square-foot fulfillment centers on a monthly basis to manage local distribution. “You’re just bleeding cash.”
Webvan, which acquired HomeGrocer in June 2000 before plummeting into bankruptcy a year later, was the most troubling of all. The online grocer racked up a nine-month loss ahead of its 1999 IPO of $95.6 million on sales of $4.2 million.
Say what you will about the hefty losses recorded by companies going public today, but most of that cash burn is for building sales and marketing teams to go after the massive transition to mobile and cloud computing. And today’s public companies have a history for investors to assess.The 10 biggest U.S. venture-backed IPOs in the past year were for companies that got started between 2004 and 2008.
“These are not companies going out with a just a promise and not delivering on that promise,” said Jyoti Bansal, chief executive officer of AppDynamics, a San Francisco-based cloud software developer that’s headed for an IPO. AppDynamics said this week that bookings doubled to $150 million in the past year.
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Back in 2000, HomeGrocer was actually sizable relative to its dot-bomb peers. The median annual revenue for a U.S. tech company going public in 2000 was $12.1 million (or $16.8 million adjusted for inflation) versus $90.5 million in 2014, according to data compiled by Jay Ritter, an IPO expert and finance professor at the University of Florida.
Tech companies that sold shares to the public in 2014 were valued at 6.2 times revenue compared with 31.7 in 2000, Ritter’s data show. Since 1980, tech companies have gone public with average price-to-sales ratios of 5.8, so by that measure valuations aren’t out of whack.
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“Investors are much more discerning than at the time of the bubble,” said Benoit Fouilland, chief financial officer of Criteo, a Paris-based online advertising company that went public on the Nasdaq in 2013. “What investors appreciate based on the feedback they’re giving us is the predictability of our model.”
Criteo is now worth $2.67 billion after generating almost $850 million in sales in 2014. Its technology helps brands like Lenovo and BMW target prospective customers online. When clients are happy with the results, they boost their spending.
Still, no conversation about technology today is complete without acknowledging the froth, particularly in the private markets. Unlike in previous cycles, the tech investing market now includes a large and growing base of hedge funds, private equity shops and mutual funds acting as late-stage venture capitalists and writing checks in the hundreds of millions of dollars.
That influx of capital lifted investments in U.S. start-ups 61 percent to $48.4 billion in 2014, the biggest total since $105 billion was invested in 2000, according to the National Venture Capital Association. The Wall Street Journal reported on Thursday that at least 73 private companies around the globe are valued by venture capitalists at $1 billion or more, with 48 of them reaching 10 digits in 2014.
Venture investors including Benchmark’s Bill Gurley (an early HomeGrocer investor) and Icon Ventures’ Joe Horowitz have vocalized their concerns about the current environment, focusing not just on the surge in dollars flooding into start-up-land but the large amounts of capital that companies are burning for expansion.
If the Federal Reserve raises rates, or the economy shows signs of strain, or investors lose their appetite for risk, what happens to all those money-losing businesses that were counting on heavy doses of future financing to keep the lights on? The result will surely be painful, but the prospect of write-downs at hedge funds won’t elicit much sympathy from mainstream America.
“When it corrects, and it will, it’s not going to hurt Uncle Charlie and Aunt Agatha’s retirement account the way Pets.com and Webvan and eToys decimated those accounts when they were wiped out,” said Golden, who is now a managing partner at Revolution Ventures in San Francisco. “The fact that the public market isn’t a repository of that is a good thing.”
HomeGrocer’s Drayton has learned his lesson. Two years ago, he started Storrage, a company that’s developing technology to help storage facilities more efficiently fill their space. Billed as the “Uber of storage,” Drayton’s start-up has only raised seed funding so far and is aiming to bring in an institutional round of about $7 million in the third quarter.
Drayton is building the Seattle-based company with an emphasis on capital efficiency, utilizing existing infrastructure instead of opening up warehouses, and investing rationally in marketing.
“We don’t want to ever get in that mode where we’re so dependent on huge capital rounds,” Drayton said. “We’ll expand, but do it prudently.”
A tech entrepreneur talking about prudence? Maybe this time it really is different.