Now's the time to invest in technology start-ups
After last year's market correction, remember the 'buy low, sell high' rule of investment
SINCE I'M KNOWN as a person who works with lots of technology start-ups, it has been quite interesting to experience the way that people have been greeting me recently. “How are things?”, they ask, lowering their voice and adopting a sympathetic, caring expression. It feels as if they have just heard that I am bravely coping with some life-threatening illness.
Of course, their concern is not about me, it is about the state of the technology sector. They have all heard about the 95% club – the companies which are now worth less than 5% of their highest valuations, usually at the point, around March last year, when the internet bubble was fully inflated and just about to burst. They have seen the closures of the high-profile high-flying Scottish start-ups such as Boondoggle, in60.com, and LastOrders.com, and they assume that, for the high-tech start-up sector, the game is over.
There are also those who “saw it all coming”. The Germans have a word for it – “schadenfreud”; the satisfaction of seeing other people fail, especially sweetened by the knowledge that it’s not you. These are mostly the folks who had been kicking themselves for being left out in the great technology boom, but are now hugely proud of their wise foresight in avoiding such risky adventures.
Actually there were plenty that saw it all coming; the problem was not knowing that a correction was on the way - it was clearly inevitable - but rather judging exactly when the correction would come. If you had decided to duck out of the market at the point when it began to get a bit daft, you would have probably chickened out in 1998, and missed two years of spectacular value growth. I recall attending an investment analyst meeting in early 2000 when the speaker said “there are no metrics we can devise which can justify the high share price of this stock – but we still rate it as a “buy””. There was something very wrong with this picture, and many people were saying so.
Tony Perkins, the publisher of Silicon Valley’s Red Herring magazine, and arguably the chief cheerleader of the new economy, was shouting it loud and clear. He wrote a book in 1999 called “The Internet Bubble: Inside the Overvalued World of High-Tech Stocks – And What You Need to Know to Avoid the Coming Shakeout”. There were far too many companies chasing Internet business success, he argued, and only a few could survive. As he points out, in the early 20th Century there were 500 automobile companies in the USA, but how many are there today?
It’s not, after all, as if any of this is a new phenomenon. The fortunes of new technology investments have always gone through such over-optimistic expansions, followed by severe corrections. Way back in the industrial revolution, the canal and railway industries experienced ruinous over-investment, excessive over-competition, followed by mass business failure. It’s the Darwinian system, the survival of the fittest and the culling of the weak that seems to be an essential stage in the formation of new industries.
Actually, most of the headline company failures in recent times have not really been high-tech in any meaningful sense. Most of the dotcoms did not actually own any new technological breakthrough of their own. Sure, they used the Internet, but their business models were essentially consumer or retail ones, and we all know how risky these are, virtual or not.
Underneath all this market fluctuation, the logic of real high-tech start-ups remains sound. Young technologists, unencumbered by large bureaucracies, existing product ranges, or inflexible sales channels, can create new products that undermine the offerings of large corporations.
As they begin to make an impact, they are increasingly capable of raising backing from venture capitalists or by going public. More often than not, the start-up company becomes an attractive acquisition for one of the large corporations that they have been undermining. The acquired company then gets access to global marketing channels, and the corporation gets innovative new technology. The investors get a good return.
So in the light of last year’s market correction, and the current relatively low valuations, is the game over for technology companies? Absolutely not.
There is, after all, only one real rule of investment: “buy low and sell high”.
There has never been a better time to invest in technology start-ups. New businesses being funded this year will provide a vintage crop of returns in the years to come.