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Startups and giants: what hides the current technological boom?

From the end of the century, scientific and technical progress, sung in the 20th century, turned into a different direction. The vector of development of technology has shifted from “heavy” to “light” – the priority is no longer plants and nuclear-powered icebreakers, but gadgets for hipsters and “office plankton.” Together with Vox and the Economist, we find out what lies behind these changes.

California success

In Silicon Valley – a boom. Investors are investing billions of dollars in fresh technology start-ups; young engineers make incredible fortunes with equally incredible technologies. And to many economists, this is reminiscent of the last days of the dot-com bubble of the 1990s.

What is this about? “The dotcom bubble” is an economic phenomenon that existed in Silicon Valley from 1995 to 2001. The reason for the formation of a bubble was the rise in stocks of predominantly American Internet companies and the emergence of a large number of new Internet companies, as well as the reorientation of old monsters of the market to the Internet. Shares of companies that offered to use the Internet for profit, soared in price. Economists have argued that the arrival of the “new economy” has come, but in fact the business models that have emerged have simply proved ineffective, which ultimately led to a wave of bankruptcies, a fall in the NASDAQ index, and a collapse in prices for server computers.

Indeed, there is a superficial similarity between the current technological boom and the “bubble”, but at the same time, there are many differences. Now the Internet is more than 10 times larger than 16 years ago, moreover, during this time the network began to occupy a much more important place in people’s lives, and, consequently, in the economy. In 1999, large and profitable Internet companies could exist only in theory, but now you just need to look at Facebook and Google to understand that this has become a reality.

To find out if the “bubble” will repeat, one should not look at the extravagant marketing of Silicon Valley companies, but simply calculate whether there is a financial potential for a huge number of modern startups. It is not easy to do, because we simply do not know whether at least a small part of these enterprises will succeed in the future, but one thing is clear – not a single investor is immune from the loss of investments.

At the same time, the value of companies is still growing more slowly than their revenues. And if the cost of any company, which is told in the media, plunges you into shock by its scale, it’s likely that this amount is simply too high.

How to evaluate an Internet company?

Without a doubt, the value of Internet companies has increased significantly over the past few years, both in price and in practical application. But you should not firmly link this growth with the repetition of the bubble 16 years ago. For example, the acquisition of shares of any company is the purchase of its future profits. The “bubble” arises when the value of the company does not bring the expected income.

A convenient way to find out if there are reasons for the emergence of a “bubble” is to compare the price of the company’s shares and its profits. If this ratio grows, then the chances of “budding” are high. In the graph below, compiled by Andreessen Horowitz, you can see how this ratio has changed over the years:

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The gray line shows that the stock price of large IT companies has increased significantly over the past five years. It can be seen that in the 1990s, shares of technology companies grew much faster than the company’s profits. Now, on the contrary, the rise in stock prices simply reflects the growth in profitability in the high-tech sector.

Unfortunately, it is difficult to fully assess trends in the entire IT industry. This would make it possible to close the dispute about the “bubble” once and for all, but everything is complicated by the fact that the necessary data on the shares are not publicly available. The exceptions are the shares of such giants as Microsoft, Facebook and Google, since the Securities and Exchange Commission requires them to publish profit data. But many technology companies, including Uber, Airbnb, and hundreds of smaller startups, are private. We do not know how much profit they received, or whether they got it at all, so we cannot calculate for them the necessary ratio of stock value and profit.

The problems in trying to analyze grow like a snowball. Even if we had information about the profits of relatively small private companies, it would still be impossible to make an accurate forecast, because there are no investors’ forecasts for future profits. For large companies like Apple and Google, past profit information makes it easy to calculate the value of future ones.

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