Monday, June 6, 2011

How You Can Prepare for the Coming Social Media Bubble Burst

In late 1999, I traveled 1,300 miles to give a presentation about e-business at a conference in the San Antonio Hilton (which, ironically, is now just a half mile from where I live).  During the Q&A, one of the attendees said, "Since you know so much about the Internet, you must've made quite a bit investing in Internet stocks."  I vividly recall my answer: "No. I was a Finance major and am incapable of investing in companies with no plan for profits."

I'd like to say the reason I recall that story is because I was proven prescient once the dot-com bubble burst six months later, but if I'm being honest, the reason that moment resonates was that I was racked with doubt and projecting a false sense of confidence. I'd been an early adopter and evangelist of the Internet, but while the pages of Wired magazine were full of young dot-com millionaires, all I had to show for my vision was a good job as an exec at a small agency.  And the weekend before my trip to San Antonio, a friend of my mother-in-law regaled us with the tale of her 22-year-old day-trading son, who was worth more than $2 million. Had I been too conservative?  Did I possess the knowledge and vision yet somehow failed to answer the door when opportunity came knocking?

The dot-com crash of 2000 was devastating.  Even now, eleven years later, the NASDAQ Composite is just a hair over half of where it stood in March 2000.  The crash caused the loss of $5 trillion in market value, huge numbers of people lost their jobs, and the facade of most of those dot-com millionaires crumbled as their paper wealth evaporated.  (To me, the insanity of the dot-com craze is demonstrated by a single story told to me by a now-successful exec in a social enterprise company.  Back in 2000, he ran a tiny startup that got caught up in the dot-com hysteria; at one point it hit a market cap of $1 billion but was generating just $60,000 of revenue.)

I am taking you on this trip down Memory Lane for a reason: It's happening again. Investors in social media startups are looking to cash in, and valuations are soaring despite modest to no profits.  Last week, Airbnb, a site that allows people to arrange short-term vacation rentals of rooms, homes and apartments, received a round of funding based on a $1 billion valuation. While the company has not released financials, best guess estimates are that Airbnb only generates around $10 million of revenue.  To put this into perspective, Marriott has $12 billion in revenue and a market cap of $14 billion.

LinkedIn earned just $15 million in net income in 2010, yet the market is valuing it at $7.4 billion.  Groupon, a company that  lost $413 million last year and another $114 million in the first quarter of 2011, is planning an IPO based on a $30 billion valuation. I could go on, but suffice it to say the social media valuation craze is already drawing words of caution; speaking about social media companies this past March, Warren Buffett warned "Most of them will be overpriced." (In the three months since, Groupon's valuation has reportedly increased another 20%.)

So what does a social media bubble burst mean to you?  I'm not going to advise you on investing strategies, but keep in mind market bubbles are like giant Ponzi schemes--the people who make money are the VCs who get out early and those who lose money are the ones holding the bag once the speculation abruptly ends. And if you think you might get lucky at timing the market--getting out before the sell off--you might consider some other of Warren Buffett's words: “The only value of stock forecasters is to make fortune-tellers look good.”

Rather than focusing on investing, I'd like to consider what the coming social media bubble burst means to social media professionals.  Those tasked with social media in large enterprises still regularly deal with doubt, misinformation and fear. As happened following the dot-com bubble burst in 2000, we can expect the doubters to be emboldened as the house of cards falls. In 2000 people said, "See, I told you this Internet thing was a fad," and when the crash occurs in 2012 (or perhaps 2013) (or maybe 2014) we can expect the same to be said about social media.

There are things you can do to ensure your social media efforts don't grind to a halt in the face of a market correction in social media stocks, but you have to start now:

  • Don't buy into the hysteria:  Rising valuations will get others' attention, but you can be the voice of reason rather than adding fuel to the fire. It will be difficult! Just as I faced self-doubt back in 1999, you may find it hard to keep your feet on the ground while others seem to be flying so high.
  • Prepare others for the social media bubble burst:  Let people know the valuations are crazy but the business models are sound.  Preparing your peers for the inevitable will make you seem wise and lay the groundwork for consistent progress even during a shake out.
  • Remind others of what happened following the dot-com crash: Sure, the stock market still lags behind the heady days of 1999 and 2000, but what crashed was the stock values of Internet companies and not the value of the Internet.  In the years since, the Internet has continued to evolve, change human behavior, be adopted by every demographic, alter business models and change the way we work, play and communicate.
  • Recognize there will be survivors:  The sock puppet was famously laid to rest, but many Internet companies survived. It took Amazon almost ten years to get its stock price back to the level it was in late 1999, but it has accomplished that and more; in the past decade the Dow Jones is up just 10% while Amazon stock is up over 1,000%.  It's dangerous to make predictions, but I can't imagine Facebook or Twitter will go away any time soon (although they could pull an Amazon, lose 90% of their market cap and spend another decade clawing their way back.)
With preparation, the impending social media bubble burst can be put into perspective within your organization. Some social media companies may disappear and others' valuations may face a sudden and painful correction, but social media is here to stay. Just as happened following the dot-com flame out, the companies that succeed in the years following the social media bubble burst will the ones that recognize the opportunity and continue to invest while others misread the market correction as something more than it is.


Michael Cheek said...

I agree. I wrote about this myself in early May about another approaching Doomsday ( and lessons from the last bubble ( A little different perspective but still, I see it too.

Unfortunately, my predictions got confused by the May 21 Armageddon calls by a religious leader.

Unknown said...

I agree Augie; I am staying away from those stocks for the reasons you cite (oh and I tend to be a very conservative investor anyway).

The Groupon IPO should be a red flag for any investor but we shall see what happens.

Anonymous said...

Augie, the only people that would disagree with you are too busy making the fortune tellers look good. Today's valuations are not supported by the business models we see.

If you value Groupon as an ecommerce play, a 30B valuation is more than 1/3 of Amazon's (which is far more than ecommerce today!). If you value them as a media company, it is approximately 80% of Time Warner's valuation.

When the bubble bursts, the companies with a business focused on an exit strategy instead of a ground breaking product will be the first to go. If your business is dependent on these companies, be ready for the day they go the way of the sock puppet.

-- @wittlake

Augie Ray said...

I'm traveling today and haven't been able to thank you all for your contributions and comments. Great insights! I really appreciate the dialog.

Unknown said...

Great post, which I came to via Forrester's post on Groupon's pending IPO.

It isn't often Hollywood makes a movie about a software application, but The Social Network possibly marked the high watermark on overinflated expectations on social media companies. There's a growing chorus of voices drawing parallels with the boom and bust.

From last year, my take:

Thanks again.

Augie Ray said...

Ian, I hear Aaron Sorkin is working on a Groupon movie next! (Kidding!)

Thanks for the comment. Expectations are certainly sky high!

Uncle Fishbits said...

I can't wait, frankly.

I would happily put a pillow over Facebook's face. It's flawed, dodgy architecture with bugs galore. It's a narcissistic paradise where people *literally* try to one up people they know with vacation pics, baby pics, life, etc..... it's a place to go to make other people feel bad.

Groupon will be the bubble. It's insane.
Groupon is insolvent.
Groupon is destroying our ability to manage our economy, businesses, retail, etc

Augie Ray said...

Uncle Fishbits,

You really shouldn't hold your thoughts inside like that!

I would not like to see the end of Facebook, but different strokes for different folks!

Anonymous said...

The End of Facebook...

I think this will explain everything quite well.