Description
It lists the significant events of dot com bubble crash and aftermath of the crash. It also highlights the current bubble which is taking place social networking
Dot Com Bubble March 10, 2000
Section D - Group 1
Numbers…
10 million – contest prize given of stock appreciation on 606 - % away by iWon.com in April 2000 day of trading for opening 5 Trillion –-was the market NASDAQ in 50 % theGlobe.com. The Current was 1990 – the year when www value of company comparisonLee. inventedCapitalizationbankrupt in value on by Tim went lost immediately Berners to peak 2007 after the dot com dot Theof Dot comorigin 10,theburst due to definitiveMarch of 2000 17 – Number the com crash fall in the NASDAQ companies that were associate sponsors in Superbowl 34, 2000
1990
What was a Dot – Com?
• A company that does most of its business on the Internet • Grouped together by commonality of Business Model • Particular reference to those companies started in 1990s
• Prefix and Suffix Investing
• “Get Big Fast” • Profitability – Burn Rate – Negative Cash Flow – How fast a company will use up its share holder capital • After Crash, came to be known as Dot Gones, Dot Bombs and Dot Cons
Dot Com Business Model – Network Effects
INDUSTRY 1 DOT COM 1 DOT COM 2
INDUSTRY 1
DOT COM 3 DOT COM 1
INDUSTRY 2 DOT COM 2 DOT COM 3
DOT COM 1 INDUSTRY DOT COM 2 3
DOT COM 1 DOT COM 2
INDUSTRY 5 DOT COM 1 DOT COM 2 INDUSTRY 7 DOT COM 1 DOT COM 2 DOT COM 3 DOT COM 1 DOT COM 3 DOT COM 1
DOT INDUSTRY 4COM 3
DOT COM 1 DOT COM 2 DOT COM 3
DOT COM 3
INDUSTRY 6
DOT COM 4
DOT COM 2 INDUSTRY 8 DOT COM 2
DOT COM 3
DOT COM 3
New Economy
• Industrial/Manufacturing based to Service Sector Asset Based Economy • Belief that the new economy will lead to the following – Steady State of Permanent growth – Low Unemployment – Immunity to Boom and Bust Macroeconomic Cycles • Technological Utopianism – refers to any ideology based on the belief that advances in science and technology will eventually bring about a utopia, or at least help to fulfil one or another utopian ideal. – During the Dot com culture, technological utopianism began to flourish in Silicon Valley and then across major dot com centers like Chicago and California – Popular Opinion “increase personal freedom by freeing the individual from the rigid embrace of bureaucratic big government”
New Economy
Bubble Stages – Birth – 1980 - 1990
• • 1981 – 82 – US severely hit by Oil Crisis. Reagan becomes president and moves to expansionary fiscal policy (defense spending) to stimulate growth, Tax Cuts 1982 – Tight Monetary Policy regime + Drop in Oil Prices - Recovery
•
• • • •
1983 – PC – TIME “Machine of the Year”, the first Internet Domain “Symbolics.com”
1986 – Federal Budget Deficit – 74K Million $ (1980), 221K Million $ (1986) 1986 – Microsoft NYSE – Bill Gates – Youngest Billionaire 1987 – Black Monday – Stock Market Crash due to Computer trading 1988 – About 45 millions PCs in use in USA, Garage Firms - Inspiration
•
1989 – 91 – Cold War reaches climax and ends with collapse of Soviet union
SILICON VALLEY EXUBERANCE
Germany
7 6 5 4 3 2 1 0 -1 -2 1980 1982 1984 1986 1988 1990 Germany 8 7 6 5 4 3 2 1 0 1980 1982 1984
Japan
Japan
1986
1988
1990
United Kingdom
6 5 4 8 6
United States
3
2 1 United Kingdom
4
2 United States 1980 -2 -4 1982 1984 1986 1988 1990
0
-1 -2 -3 1980 1982 1984 1986 1988 1990
0
ANNUAL GDP YoY Growth %
Bubble Stages – Adolescence – 1990 - 1997
• • 1990 – World Wide Web invented 1991 –IRAQ War – Operation Desert Storm
– – Military Spending with Expansionary Fiscal Policy Regime Moderate to High Growth fuelled by the peak phases of PC revolution, Industrial production and advent of E - Commerce
• • •
1994 – 95 – Amazon and Yahoo Founded 1994 – 1997 – Close to 800 dot com’s launched all with identical business models 1997 – 98 – Fed reduces interest rates in several iterations
•
1998 – First Round of IPO’s successfully completed
– – Venture Capitalists regain their investment Overnight young millionaires – Spike in consumer spending, money reinvested into tech stocks
US INTEREST RATES 1995 - 2004
• Interest Rates brought down in iterations of 0.25 from 5.5 in August 1998 to 4.75 in May 1999. •Stimulate VC Spending on Tech Economy •Stimulate Investors to invest in Financial Markets •The above two measures aimed at increasing savings and investment • Interest Rates then increased in steps from Jun 1999 to Dec 2000 (6.5)
Bubble Stages: Growth – 1998 - 2000
• 1998 – 2000 – Y2K Companies • 1999 – 461 dot com’s go public in one year • The Floating of IPO’s by I – Banks was done violating the IPO Guidelines put in place after the Economic Depression of 1929 – A company must be active for last 5 years – A company must have reported profit for last 3 years – A company should have a certain level of profitability and revenue – Most dot com’s were in violation of all three guidelines • 1999 Dec 30 – FTSE 100 reaches peak • October 1999 - the six biggest tech stocks - Microsoft, Intel, IBM, Cisco, Lucent and Dell - boasted a combined value of US$1.65 trillion, or 20 percent of the US gross domestic product (GDP)
IPO TRENDS – 1999 – 2002 - NASDAQ
Average IPO Average Nasdaq performance Outperformance Standard Deviation # of observations 1999 186% 50% 136 270% 461 2000 -14% -37% 23 65% 360 2001 15% -5% 20 45% 85 2002 0% -13% 13 33% 80
• 461 companies went for IPO in 1999 • Average First Day of Trading Mark up – 186 % •117 doubled in price on the first day of trading. • Not same in subsequent years • eToys.com – Share Sale Price – 20 $, Listed on Day 1 at 80 $ • theGlobe.com – Original Share Sale price – 9 $, Listed Price – 87 $ • Mark up of 606 % Highest in NASDAQ History
•http://moneycentral.msn.com/content/P42490.asp
Role of Venture Capitalists
1998 – 2000 Overall Venture Capital Investment 32.34 Billion $ Current 15.2 Billion $
• Venture Capitalists were available with large sources of money due to
– Initial success of Silicon Valley Ventures (Hardware and traditional software) – Decreasing interest rates by the Federal Reserve to stimulate savings and investment
• Given this they freely invested in dot com’s with the network effects business model • Attitude was “Let the Market Decide” on which firm will succeed • Not a viable business model for the Venture Capitalists • Thought of recreating another “Silicon Valley”
Company Valuation: P/E Ratios
Company/Index NASDAQ Composite DJIC IBM P/E in 1999/2000 113 44.42 30 P/E Today 19.38 19.04 13
Microsoft
70
16
• Company Valuation Based on estimated future cash flows • I – Banks underwrote Dot Com’s for IPO which had not started earning revenues • Valuation of such companies were speculative in nature dependent on • Current Number of visitors to the web site • Number of Click through of Banner Ads • Trend of increase or decrease of traffic on website • Grossly overvalued based on potential of future cash flows
Dot Com’s – Break Even
• Profitability was measured industry wide for the new players not using traditional measures or ratios but using BURN RATE
– Time period required to use up share holder capital – Based on Negative Cash Flows
• Amazon. Com though started in 1994 broke even or posted positive profits for the first time in 2003 • IPO’s were driven out with the speculation of future discounted cash flows expected from the firm • Companies which were started prior to 1994 (big names like IBM, Microsoft, Cisco, Yahoo etc) were the ones who were able to survive
• I- Banks charged on Average 6 % for each dot com they floated as an IPO
Other Crises in the Time Horizon
South East Asian Currency Crisis • Originated in Thailand after the peg of Thai Baht with USD was removed
• Spread to other parts of Asia causing devaluating currencies, Devalued stock markets and other asset prices, rise in private debt • Resulted in DJIC dropping 554 points on 27 Oct 1997 • Confidence on consumer spending, forex trading and real estate purchase went down • More people instead invested their life savings in the stock markets
September 9/11 Attacks • Al Qaeda led terrorist attack on the US. Destroyed hub of business activity – WTC
• Impact on the Dot com bubble •Fed did not lower interest rates even when the stock market was expected to crash • Fed waited for the bubble to explode •Instead immediately 9/11 Happened which delayed and ultimately avoided major Fed actions for reviving the economy •Instead majority of Fed’s actions were limited to sponsoring the crisis looming large and to fund the Afghan and Iraq invasion • Alan Greenspan did reduce interest rates but was perceived to be a little too late
Disintermediation and Long Tail
• New Dot com companies pronounced that they are here to remove “Intermediaries” from all sectors • Public didn’t realize that these dot com’s themselves represented a new form of intermediation • Only the Channel had changed (B2B or B2C) • Amazon.com and ebay.com built their business models based on this policy of disintermediation • Long Tail effect describes the Amazon.com model as (also known as Mass Customization)
– More percentage of the population distributed in the tail section of the normal distribution – Indicates that more customers need more variety of products in smaller volumes
Day Trading
• Internet used to buy Internet Stocks • Day Trading Firms lost 5000 employees who quit to do full time private trading • Based on the book “The Complete Day Trader” only 15% of such people ended up making profits • 100 Day trading firms opened subscription for those investing more than 50000 $ • Facilities Provided
– Fully equipped Trading Posts – Monitors displaying bid and ask prices – Telephone
• First recorded instances of “Automated Trading” used by some trading firms
Excerpts from an Article Published in TIME Magazine, Aug 9th, 1999
Change in Other Industries – Network Effects
• Construction Firms – Tried to build networked office spaces to get ready for the next Silicon Valley • Communication Providers – Went deeply into Debt to build fibre optic high bandwidth cable lines to handle the next gen broadband networks
• Intermediaries
– Companies which did not have manufacturing capabilities started trading in network equipment to support the Internet boom
• European Mobile Operators
– Went deeply into Debt due to the purchase of 3G licenses
• FMCG and Allied Industries
– Started selling products online without doubting if it’s a viable model for distribution and sales
Bubble Mechanism
DOT COM IDEAS SOLD TO VC VC’s PROVIDE INITIAL CAPITAL DC’s GO FOR IPO INVESTORS SEE GROWTH IN BLUE CHIP TECH STOCKS INVESTORS AND AMCs SPECULATE STOCKS AT IPO SOAR MARKET IS GROSSLY OVERVALUED VC’s EXIT WITH IPO PROCEEDINGS MARCH 10, 2000
DOT COMS ALIGN TO CERTAIN INDUSTRY
VC’s LET MARKET CHOOSE
DCs BURN OUT VC CAPITAL DCs HAVE NO CASH FLOW
CRASH
• On March 10, 2000 , the NASDAQ Peaked at 5132.52 intraday with highest closing at 5048 • Four events caused the crash. Each are of varying importance to the impending crash of the BULL MARKET
– Sell Orders processed on March 13 – United States Vs. Microsoft Case – Successful completion of Y2K without single reported failure
• The factors mentioned are in decreasing order of importance • Widespread speculation that at 113 times P/E market is highly overvalued • The NASDAQ fell to a year low of 1114 on October 2002 • Between this period Market Cap close to 5 Trillion was wiped out • Currently the NASDAQ is at only a mere 50 % level of the all time high level
Global Indices on March 13, 2000
Index Country Previous Close 5048 9928 6568 5301 19750 7975 Day Open 4879 9911 6380 5372 19731 7977 Intraday Low 4839 9670 6380 5100 19060 7630 Day Close 4907 9947 6466 5129 19189 7693 % Change -2.79 0.19 -1.55 -3.39 -2.84 -3.53
NASDAQ DJIA FTSE 100 SENSEX Nikkei DAX
USA USA UK India Japan Germany
NASDAQ and other Global Indices
Reasons for the Crash
Massive Sell Orders on March 13th • Massive multi billion dollar sell order placed late on Friday or during the weekend for several blue chip bellwether firms like IBM, Dell, Cisco and Microsoft • A few large orders were together processed before market opened on Monday • NASDAQ opened 4% lower on Monday than its close on Friday United States Vs Microsoft Case •Culminated with the announcement of result on April 12th 2000. •The result of the case was •“Microsoft was announced as a monopoly” •The result was expected for a month and a half before the announcement •Hence speculative selling of Major Bellwether stocks like Microsoft had begun early March
Reasons for the Crash
Y2K Business Failure • By May – July 1999 – widespread panic in the US
• Accelerated Business spending and Y2K came and went without major issues
• Corporations used equipment and services for few days and then stopped spending
Analogy to Tulip Mania, Netherlands
• Tulip and Bulb Craze, First recorded economic bubble in Netherlands during 1634 – 1637 • Product’s inherent worth very low • Herd effect was very pronounced • Tulip Market Value
– At peak, 1 Tulip = 1 Entire Estate – At Low, 1 Tulip = 1 Onion
• Gross Overvaluation spurred by demand • Domino Effect - Dutch have hence been wary of speculative investments • Several References made comparing the two bubbles – Pure speculation
Mergers and Acquisitions
Acquisition Hotmail Netscape Geocities Company Microsoft AOL Yahoo Value 400 Million 4.2 Billion 3.57 Billion Date Dec 1997 Nov 1998 Jan 1999
Broadcast.com
Paypal Overture Services Picasa Skype
Yahoo
eBay Yahoo Google Ebay
5.7 Billion
1.5 Billion 1.7 Billion Unknown 2.6 Billion
April 1999
Oct 2002 July 2003 July 2004 Oct 2005
• Out of 35 Major Acquisitions worth over 100 million
•Yahoo acquired 17 of them •eBay acquired 2 and Google acquired 5 • A spree of acquisitions made government interference redundant. The role of supporting failing businesses was done by existing large corporations
Fed Actions
• SEC fined top investment firms like Citigroup and Merril Lynch millions of Dollars for misleading investors
Aftermath: American Economy
GDP
• one quarter in 2000 and two quarters in 2001 had a negative GDP growth rate
Unemployment
• 2000 :Had two quarters with negative Non-Farm Payrolls • 2001 :17,00,000 jobs were lost • 2002 :June showed the first sign of positive change
Equity Markets
• Mar 2000:NASDAQ collapsed • Sep 2000:Final start of the bear market of other indices like SP500
Debt Securities
• Feb 2000:Interest rate at 6.65 % for the 3 year note and 6.52% for the 10 year note • Mid 2003:Interest rate at 1.51% for the 3 year note and 3.33% for the 10 year note
Cash Outflow from Tech Stocks
Retail and Personal Investors took till November 2000 to start pulling money out of tech Stocks. Financial Institutions had already done the same immediately after March 13. Hence the loss to institutions was minimalized.
• • • •
1995 – Spike close to 8 % 2000 – 30 year low – 4% 2002 – Increase to 6% The sudden increase from 2000 to 2002 was three fold
– End of Y2K – Corporate Layoff – Retirement and Trading vacation
Change in Net worth of Households
First time in a span of 60 years, there was a reduction of net worth of households and Non Profit Organizations in 2000 which lasted till 2002`
Source: http://www.federalreserve.gov/RELEASES/z1/Current/data.htm
Revenues and National Debt
• Tax revenues slumped and expenses of the Federal Govt increased in both recession periods • National Debt corrected for inflation saw a decrease in 1999 and 2000 on the back of staggering financial market gains • National Debt started rising again in 2001 on the back of Govt borrowings
Bubble Transition : Housing Bubble
• Interest Rates Reduced in successive iterations in the aftermath of the Sep 9/11 attacks from
– Fed reduces Federal Funds Rate in 2001 from 6.5% to 1.75 %
• Speculators needed to reinvest either to recover the losses or to continue their new found trading or just because they were unemployed • Growing loss of confidence on stocks and financial markets • Wanted Another class of assets which they could trust
– US investors turned to Real Estate which was something that could be valued – Major parts of the developed world (esp Europe) also turned to Real Estate – Remaining parts of the world turned to Gold
• Low Down payments of less than 5% made the market attractive • In four years from 2001 – 04, Purchase of Real Estate purely as a means of investment increased by 50 %
Bubble Transition : Housing Bubble
• On the back of Federal Funds rate cuts (the real interest rate went negative for the first time in over 40 years), market recovery was sought after • Consumer spending increased through an increase in the Money Supply which was majorly in the form of M1 growth • Wary about Stock Investments – Looked at real value assets
Bubble Transition : Housing Bubble
• Credit Availability followed the interest rate cuts • Credit Availability also spurred by demand and initial spur was backed by mortgages • Prime market lending happened in the years of 2000 – 2003 • Once this market was fulfilled Sub Prime Lending began
Bubble Transition : Housing Bubble
• In four years from 2001 – 04, Purchase of Real Estate purely as a means of investment increased by 50 % • Median Sale price of real estate also increased making initial investors rich • Speculation began subsequently and asset prices inflated
Source: MSN Money articles
Bubble Transition : Housing Bubble
• In four years from 2001 – 04, Purchase of Real Estate purely as a means of investment increased by 50 % • Median Sale price of real estate also increased making initial investors rich • Speculation began subsequently and asset prices inflated
Source: MSN Money articles
Lessons Learned from the Bubble
• FUNDAMENTAL’s DON’T LIE
– Investors invested in the stock market when there was a presence of a deadly combination of “Overvalued Stocks” and “Lack of Fundamentals” – The combination of the two was the presence of an obvious red flag which investors chose to avoid – Established, Agreed upon Valuation methods and Ratios are always Strong
• TRADING MARKET MOMENTUM AND HERD BEHAVIOR
– Common Perception of a Multi Year Rally believed by everyone – Volumes of Trade was the parameter on which stock investment was evaluated – Momentum in the market created more momentum
• VALUATION TECHNIQUES REVISTED
– Post Crisis widespread refocus on fundamental valuations and ratios – P/E was used by Institutions. Common investors started looking at P/E ratios after the stock market collapse – P/E, EV/EBITDA and Sector Specific ratios became prominent for the first time – P/E of > 50 which were alright during boom was no longer accepted
Current Bubble: Social Networking
• Bubble 2.0 and Social Networking has a eerie resemblance to Dot com bubble • Twitter is valued currently at $1 Billion
– The company is going in for a round of capital sourcing of 100 Million $ to fund its expansion – Last year revenue generation – 4 Million $ – Four Capital investors have provided the 100 Million $ capital – According to a senior spokesperson “This funding will give the company time to come up with a revenue model”
• Valuation like in the dot com era is fundamentally wrong again
– Takes into account present number of users and average revenue per user – Growth trend in number of user not revenue growth – Subject to twitter coming up with a revenue model in the coming years
Current Bubble: Social Networking
• Rationale – Website traffic guarantees advertising revenue – Telephones have not toyed around with advertising model as it might lead to customer attrition – A viable business model for website advertising is yet to be framed
• Other Absurd Valuations
– Myspace a company of 5 years valued at 15 billion $ – Google’s valuation at 120 billion $ in 2006 was at 55 times P/E – Facebook valued at over 900 million $
• Discounted User Addition replaces Discounted Cash Flow
A Story in Pictures….
A Story in Pictures…
A Story in Pictures…
MSNBC Show on Elevator Pitches in 200
A Story in Pictures…
MANHATTAN COFFEE SHOP, THE 100 MILLION $ CLUB
“Value is destroyed, not created, by any business that loses money over its lifetime“ - Warren Buffet
THANK YOU!! QUESTIONS??
United States
8 6 4 2 United States
0
1980 -2 -4 1982 1984 1986 1988 1990
United States
6 5 4 3 United States 2 1 0 1990 -1 1992 1994 1996 1998 2000
ANNUAL GDP YoY Growth %
Was it an Economic Bubble?
HIGH AVAILABILITY OF CAPITAL FUNDING FED LOWERS AND INCREASES INTEREST RATES SPECULATIVE HERD BEHAVIOR
OVERVALUED MARKETS AND STOCKS COMPANIES GO BUST TIME MAGAZINE HAS A COVER STORY
“Get Rich Quick” Strategy
WHAT DID THEY DO • Spend exorbitantly on advertising • Promised a lot to the clients even reducing profitability • Let the Clients decide who is their preferred provider • Build infrastructure to build possibility of future projects from clients • Finish VC Capital and move towards IPO • According to dot-com theory, an Internet company's survival depended on expanding its customer base as rapidly as possible, even if it produced large annual losses
CHICAGO – Hot Industry - Automotive
Automotive E – Commerce Industry
doc_616155420.pptx
It lists the significant events of dot com bubble crash and aftermath of the crash. It also highlights the current bubble which is taking place social networking
Dot Com Bubble March 10, 2000
Section D - Group 1
Numbers…
10 million – contest prize given of stock appreciation on 606 - % away by iWon.com in April 2000 day of trading for opening 5 Trillion –-was the market NASDAQ in 50 % theGlobe.com. The Current was 1990 – the year when www value of company comparisonLee. inventedCapitalizationbankrupt in value on by Tim went lost immediately Berners to peak 2007 after the dot com dot Theof Dot comorigin 10,theburst due to definitiveMarch of 2000 17 – Number the com crash fall in the NASDAQ companies that were associate sponsors in Superbowl 34, 2000
1990
What was a Dot – Com?
• A company that does most of its business on the Internet • Grouped together by commonality of Business Model • Particular reference to those companies started in 1990s
• Prefix and Suffix Investing
• “Get Big Fast” • Profitability – Burn Rate – Negative Cash Flow – How fast a company will use up its share holder capital • After Crash, came to be known as Dot Gones, Dot Bombs and Dot Cons
Dot Com Business Model – Network Effects
INDUSTRY 1 DOT COM 1 DOT COM 2
INDUSTRY 1
DOT COM 3 DOT COM 1
INDUSTRY 2 DOT COM 2 DOT COM 3
DOT COM 1 INDUSTRY DOT COM 2 3
DOT COM 1 DOT COM 2
INDUSTRY 5 DOT COM 1 DOT COM 2 INDUSTRY 7 DOT COM 1 DOT COM 2 DOT COM 3 DOT COM 1 DOT COM 3 DOT COM 1
DOT INDUSTRY 4COM 3
DOT COM 1 DOT COM 2 DOT COM 3
DOT COM 3
INDUSTRY 6
DOT COM 4
DOT COM 2 INDUSTRY 8 DOT COM 2
DOT COM 3
DOT COM 3
New Economy
• Industrial/Manufacturing based to Service Sector Asset Based Economy • Belief that the new economy will lead to the following – Steady State of Permanent growth – Low Unemployment – Immunity to Boom and Bust Macroeconomic Cycles • Technological Utopianism – refers to any ideology based on the belief that advances in science and technology will eventually bring about a utopia, or at least help to fulfil one or another utopian ideal. – During the Dot com culture, technological utopianism began to flourish in Silicon Valley and then across major dot com centers like Chicago and California – Popular Opinion “increase personal freedom by freeing the individual from the rigid embrace of bureaucratic big government”
New Economy
Bubble Stages – Birth – 1980 - 1990
• • 1981 – 82 – US severely hit by Oil Crisis. Reagan becomes president and moves to expansionary fiscal policy (defense spending) to stimulate growth, Tax Cuts 1982 – Tight Monetary Policy regime + Drop in Oil Prices - Recovery
•
• • • •
1983 – PC – TIME “Machine of the Year”, the first Internet Domain “Symbolics.com”
1986 – Federal Budget Deficit – 74K Million $ (1980), 221K Million $ (1986) 1986 – Microsoft NYSE – Bill Gates – Youngest Billionaire 1987 – Black Monday – Stock Market Crash due to Computer trading 1988 – About 45 millions PCs in use in USA, Garage Firms - Inspiration
•
1989 – 91 – Cold War reaches climax and ends with collapse of Soviet union
SILICON VALLEY EXUBERANCE
Germany
7 6 5 4 3 2 1 0 -1 -2 1980 1982 1984 1986 1988 1990 Germany 8 7 6 5 4 3 2 1 0 1980 1982 1984
Japan
Japan
1986
1988
1990
United Kingdom
6 5 4 8 6
United States
3
2 1 United Kingdom
4
2 United States 1980 -2 -4 1982 1984 1986 1988 1990
0
-1 -2 -3 1980 1982 1984 1986 1988 1990
0
ANNUAL GDP YoY Growth %
Bubble Stages – Adolescence – 1990 - 1997
• • 1990 – World Wide Web invented 1991 –IRAQ War – Operation Desert Storm
– – Military Spending with Expansionary Fiscal Policy Regime Moderate to High Growth fuelled by the peak phases of PC revolution, Industrial production and advent of E - Commerce
• • •
1994 – 95 – Amazon and Yahoo Founded 1994 – 1997 – Close to 800 dot com’s launched all with identical business models 1997 – 98 – Fed reduces interest rates in several iterations
•
1998 – First Round of IPO’s successfully completed
– – Venture Capitalists regain their investment Overnight young millionaires – Spike in consumer spending, money reinvested into tech stocks
US INTEREST RATES 1995 - 2004
• Interest Rates brought down in iterations of 0.25 from 5.5 in August 1998 to 4.75 in May 1999. •Stimulate VC Spending on Tech Economy •Stimulate Investors to invest in Financial Markets •The above two measures aimed at increasing savings and investment • Interest Rates then increased in steps from Jun 1999 to Dec 2000 (6.5)
Bubble Stages: Growth – 1998 - 2000
• 1998 – 2000 – Y2K Companies • 1999 – 461 dot com’s go public in one year • The Floating of IPO’s by I – Banks was done violating the IPO Guidelines put in place after the Economic Depression of 1929 – A company must be active for last 5 years – A company must have reported profit for last 3 years – A company should have a certain level of profitability and revenue – Most dot com’s were in violation of all three guidelines • 1999 Dec 30 – FTSE 100 reaches peak • October 1999 - the six biggest tech stocks - Microsoft, Intel, IBM, Cisco, Lucent and Dell - boasted a combined value of US$1.65 trillion, or 20 percent of the US gross domestic product (GDP)
IPO TRENDS – 1999 – 2002 - NASDAQ
Average IPO Average Nasdaq performance Outperformance Standard Deviation # of observations 1999 186% 50% 136 270% 461 2000 -14% -37% 23 65% 360 2001 15% -5% 20 45% 85 2002 0% -13% 13 33% 80
• 461 companies went for IPO in 1999 • Average First Day of Trading Mark up – 186 % •117 doubled in price on the first day of trading. • Not same in subsequent years • eToys.com – Share Sale Price – 20 $, Listed on Day 1 at 80 $ • theGlobe.com – Original Share Sale price – 9 $, Listed Price – 87 $ • Mark up of 606 % Highest in NASDAQ History
•http://moneycentral.msn.com/content/P42490.asp
Role of Venture Capitalists
1998 – 2000 Overall Venture Capital Investment 32.34 Billion $ Current 15.2 Billion $
• Venture Capitalists were available with large sources of money due to
– Initial success of Silicon Valley Ventures (Hardware and traditional software) – Decreasing interest rates by the Federal Reserve to stimulate savings and investment
• Given this they freely invested in dot com’s with the network effects business model • Attitude was “Let the Market Decide” on which firm will succeed • Not a viable business model for the Venture Capitalists • Thought of recreating another “Silicon Valley”
Company Valuation: P/E Ratios
Company/Index NASDAQ Composite DJIC IBM P/E in 1999/2000 113 44.42 30 P/E Today 19.38 19.04 13
Microsoft
70
16
• Company Valuation Based on estimated future cash flows • I – Banks underwrote Dot Com’s for IPO which had not started earning revenues • Valuation of such companies were speculative in nature dependent on • Current Number of visitors to the web site • Number of Click through of Banner Ads • Trend of increase or decrease of traffic on website • Grossly overvalued based on potential of future cash flows
Dot Com’s – Break Even
• Profitability was measured industry wide for the new players not using traditional measures or ratios but using BURN RATE
– Time period required to use up share holder capital – Based on Negative Cash Flows
• Amazon. Com though started in 1994 broke even or posted positive profits for the first time in 2003 • IPO’s were driven out with the speculation of future discounted cash flows expected from the firm • Companies which were started prior to 1994 (big names like IBM, Microsoft, Cisco, Yahoo etc) were the ones who were able to survive
• I- Banks charged on Average 6 % for each dot com they floated as an IPO
Other Crises in the Time Horizon
South East Asian Currency Crisis • Originated in Thailand after the peg of Thai Baht with USD was removed
• Spread to other parts of Asia causing devaluating currencies, Devalued stock markets and other asset prices, rise in private debt • Resulted in DJIC dropping 554 points on 27 Oct 1997 • Confidence on consumer spending, forex trading and real estate purchase went down • More people instead invested their life savings in the stock markets
September 9/11 Attacks • Al Qaeda led terrorist attack on the US. Destroyed hub of business activity – WTC
• Impact on the Dot com bubble •Fed did not lower interest rates even when the stock market was expected to crash • Fed waited for the bubble to explode •Instead immediately 9/11 Happened which delayed and ultimately avoided major Fed actions for reviving the economy •Instead majority of Fed’s actions were limited to sponsoring the crisis looming large and to fund the Afghan and Iraq invasion • Alan Greenspan did reduce interest rates but was perceived to be a little too late
Disintermediation and Long Tail
• New Dot com companies pronounced that they are here to remove “Intermediaries” from all sectors • Public didn’t realize that these dot com’s themselves represented a new form of intermediation • Only the Channel had changed (B2B or B2C) • Amazon.com and ebay.com built their business models based on this policy of disintermediation • Long Tail effect describes the Amazon.com model as (also known as Mass Customization)
– More percentage of the population distributed in the tail section of the normal distribution – Indicates that more customers need more variety of products in smaller volumes
Day Trading
• Internet used to buy Internet Stocks • Day Trading Firms lost 5000 employees who quit to do full time private trading • Based on the book “The Complete Day Trader” only 15% of such people ended up making profits • 100 Day trading firms opened subscription for those investing more than 50000 $ • Facilities Provided
– Fully equipped Trading Posts – Monitors displaying bid and ask prices – Telephone
• First recorded instances of “Automated Trading” used by some trading firms
Excerpts from an Article Published in TIME Magazine, Aug 9th, 1999
Change in Other Industries – Network Effects
• Construction Firms – Tried to build networked office spaces to get ready for the next Silicon Valley • Communication Providers – Went deeply into Debt to build fibre optic high bandwidth cable lines to handle the next gen broadband networks
• Intermediaries
– Companies which did not have manufacturing capabilities started trading in network equipment to support the Internet boom
• European Mobile Operators
– Went deeply into Debt due to the purchase of 3G licenses
• FMCG and Allied Industries
– Started selling products online without doubting if it’s a viable model for distribution and sales
Bubble Mechanism
DOT COM IDEAS SOLD TO VC VC’s PROVIDE INITIAL CAPITAL DC’s GO FOR IPO INVESTORS SEE GROWTH IN BLUE CHIP TECH STOCKS INVESTORS AND AMCs SPECULATE STOCKS AT IPO SOAR MARKET IS GROSSLY OVERVALUED VC’s EXIT WITH IPO PROCEEDINGS MARCH 10, 2000
DOT COMS ALIGN TO CERTAIN INDUSTRY
VC’s LET MARKET CHOOSE
DCs BURN OUT VC CAPITAL DCs HAVE NO CASH FLOW
CRASH
• On March 10, 2000 , the NASDAQ Peaked at 5132.52 intraday with highest closing at 5048 • Four events caused the crash. Each are of varying importance to the impending crash of the BULL MARKET
– Sell Orders processed on March 13 – United States Vs. Microsoft Case – Successful completion of Y2K without single reported failure
• The factors mentioned are in decreasing order of importance • Widespread speculation that at 113 times P/E market is highly overvalued • The NASDAQ fell to a year low of 1114 on October 2002 • Between this period Market Cap close to 5 Trillion was wiped out • Currently the NASDAQ is at only a mere 50 % level of the all time high level
Global Indices on March 13, 2000
Index Country Previous Close 5048 9928 6568 5301 19750 7975 Day Open 4879 9911 6380 5372 19731 7977 Intraday Low 4839 9670 6380 5100 19060 7630 Day Close 4907 9947 6466 5129 19189 7693 % Change -2.79 0.19 -1.55 -3.39 -2.84 -3.53
NASDAQ DJIA FTSE 100 SENSEX Nikkei DAX
USA USA UK India Japan Germany
NASDAQ and other Global Indices
Reasons for the Crash
Massive Sell Orders on March 13th • Massive multi billion dollar sell order placed late on Friday or during the weekend for several blue chip bellwether firms like IBM, Dell, Cisco and Microsoft • A few large orders were together processed before market opened on Monday • NASDAQ opened 4% lower on Monday than its close on Friday United States Vs Microsoft Case •Culminated with the announcement of result on April 12th 2000. •The result of the case was •“Microsoft was announced as a monopoly” •The result was expected for a month and a half before the announcement •Hence speculative selling of Major Bellwether stocks like Microsoft had begun early March
Reasons for the Crash
Y2K Business Failure • By May – July 1999 – widespread panic in the US
• Accelerated Business spending and Y2K came and went without major issues
• Corporations used equipment and services for few days and then stopped spending
Analogy to Tulip Mania, Netherlands
• Tulip and Bulb Craze, First recorded economic bubble in Netherlands during 1634 – 1637 • Product’s inherent worth very low • Herd effect was very pronounced • Tulip Market Value
– At peak, 1 Tulip = 1 Entire Estate – At Low, 1 Tulip = 1 Onion
• Gross Overvaluation spurred by demand • Domino Effect - Dutch have hence been wary of speculative investments • Several References made comparing the two bubbles – Pure speculation
Mergers and Acquisitions
Acquisition Hotmail Netscape Geocities Company Microsoft AOL Yahoo Value 400 Million 4.2 Billion 3.57 Billion Date Dec 1997 Nov 1998 Jan 1999
Broadcast.com
Paypal Overture Services Picasa Skype
Yahoo
eBay Yahoo Google Ebay
5.7 Billion
1.5 Billion 1.7 Billion Unknown 2.6 Billion
April 1999
Oct 2002 July 2003 July 2004 Oct 2005
• Out of 35 Major Acquisitions worth over 100 million
•Yahoo acquired 17 of them •eBay acquired 2 and Google acquired 5 • A spree of acquisitions made government interference redundant. The role of supporting failing businesses was done by existing large corporations
Fed Actions
• SEC fined top investment firms like Citigroup and Merril Lynch millions of Dollars for misleading investors
Aftermath: American Economy
GDP
• one quarter in 2000 and two quarters in 2001 had a negative GDP growth rate
Unemployment
• 2000 :Had two quarters with negative Non-Farm Payrolls • 2001 :17,00,000 jobs were lost • 2002 :June showed the first sign of positive change
Equity Markets
• Mar 2000:NASDAQ collapsed • Sep 2000:Final start of the bear market of other indices like SP500
Debt Securities
• Feb 2000:Interest rate at 6.65 % for the 3 year note and 6.52% for the 10 year note • Mid 2003:Interest rate at 1.51% for the 3 year note and 3.33% for the 10 year note
Cash Outflow from Tech Stocks
Retail and Personal Investors took till November 2000 to start pulling money out of tech Stocks. Financial Institutions had already done the same immediately after March 13. Hence the loss to institutions was minimalized.
• • • •
1995 – Spike close to 8 % 2000 – 30 year low – 4% 2002 – Increase to 6% The sudden increase from 2000 to 2002 was three fold
– End of Y2K – Corporate Layoff – Retirement and Trading vacation
Change in Net worth of Households
First time in a span of 60 years, there was a reduction of net worth of households and Non Profit Organizations in 2000 which lasted till 2002`
Source: http://www.federalreserve.gov/RELEASES/z1/Current/data.htm
Revenues and National Debt
• Tax revenues slumped and expenses of the Federal Govt increased in both recession periods • National Debt corrected for inflation saw a decrease in 1999 and 2000 on the back of staggering financial market gains • National Debt started rising again in 2001 on the back of Govt borrowings
Bubble Transition : Housing Bubble
• Interest Rates Reduced in successive iterations in the aftermath of the Sep 9/11 attacks from
– Fed reduces Federal Funds Rate in 2001 from 6.5% to 1.75 %
• Speculators needed to reinvest either to recover the losses or to continue their new found trading or just because they were unemployed • Growing loss of confidence on stocks and financial markets • Wanted Another class of assets which they could trust
– US investors turned to Real Estate which was something that could be valued – Major parts of the developed world (esp Europe) also turned to Real Estate – Remaining parts of the world turned to Gold
• Low Down payments of less than 5% made the market attractive • In four years from 2001 – 04, Purchase of Real Estate purely as a means of investment increased by 50 %
Bubble Transition : Housing Bubble
• On the back of Federal Funds rate cuts (the real interest rate went negative for the first time in over 40 years), market recovery was sought after • Consumer spending increased through an increase in the Money Supply which was majorly in the form of M1 growth • Wary about Stock Investments – Looked at real value assets
Bubble Transition : Housing Bubble
• Credit Availability followed the interest rate cuts • Credit Availability also spurred by demand and initial spur was backed by mortgages • Prime market lending happened in the years of 2000 – 2003 • Once this market was fulfilled Sub Prime Lending began
Bubble Transition : Housing Bubble
• In four years from 2001 – 04, Purchase of Real Estate purely as a means of investment increased by 50 % • Median Sale price of real estate also increased making initial investors rich • Speculation began subsequently and asset prices inflated
Source: MSN Money articles
Bubble Transition : Housing Bubble
• In four years from 2001 – 04, Purchase of Real Estate purely as a means of investment increased by 50 % • Median Sale price of real estate also increased making initial investors rich • Speculation began subsequently and asset prices inflated
Source: MSN Money articles
Lessons Learned from the Bubble
• FUNDAMENTAL’s DON’T LIE
– Investors invested in the stock market when there was a presence of a deadly combination of “Overvalued Stocks” and “Lack of Fundamentals” – The combination of the two was the presence of an obvious red flag which investors chose to avoid – Established, Agreed upon Valuation methods and Ratios are always Strong
• TRADING MARKET MOMENTUM AND HERD BEHAVIOR
– Common Perception of a Multi Year Rally believed by everyone – Volumes of Trade was the parameter on which stock investment was evaluated – Momentum in the market created more momentum
• VALUATION TECHNIQUES REVISTED
– Post Crisis widespread refocus on fundamental valuations and ratios – P/E was used by Institutions. Common investors started looking at P/E ratios after the stock market collapse – P/E, EV/EBITDA and Sector Specific ratios became prominent for the first time – P/E of > 50 which were alright during boom was no longer accepted
Current Bubble: Social Networking
• Bubble 2.0 and Social Networking has a eerie resemblance to Dot com bubble • Twitter is valued currently at $1 Billion
– The company is going in for a round of capital sourcing of 100 Million $ to fund its expansion – Last year revenue generation – 4 Million $ – Four Capital investors have provided the 100 Million $ capital – According to a senior spokesperson “This funding will give the company time to come up with a revenue model”
• Valuation like in the dot com era is fundamentally wrong again
– Takes into account present number of users and average revenue per user – Growth trend in number of user not revenue growth – Subject to twitter coming up with a revenue model in the coming years
Current Bubble: Social Networking
• Rationale – Website traffic guarantees advertising revenue – Telephones have not toyed around with advertising model as it might lead to customer attrition – A viable business model for website advertising is yet to be framed
• Other Absurd Valuations
– Myspace a company of 5 years valued at 15 billion $ – Google’s valuation at 120 billion $ in 2006 was at 55 times P/E – Facebook valued at over 900 million $
• Discounted User Addition replaces Discounted Cash Flow
A Story in Pictures….
A Story in Pictures…
A Story in Pictures…
MSNBC Show on Elevator Pitches in 200
A Story in Pictures…
MANHATTAN COFFEE SHOP, THE 100 MILLION $ CLUB
“Value is destroyed, not created, by any business that loses money over its lifetime“ - Warren Buffet
THANK YOU!! QUESTIONS??
United States
8 6 4 2 United States
0
1980 -2 -4 1982 1984 1986 1988 1990
United States
6 5 4 3 United States 2 1 0 1990 -1 1992 1994 1996 1998 2000
ANNUAL GDP YoY Growth %
Was it an Economic Bubble?
HIGH AVAILABILITY OF CAPITAL FUNDING FED LOWERS AND INCREASES INTEREST RATES SPECULATIVE HERD BEHAVIOR
OVERVALUED MARKETS AND STOCKS COMPANIES GO BUST TIME MAGAZINE HAS A COVER STORY
“Get Rich Quick” Strategy
WHAT DID THEY DO • Spend exorbitantly on advertising • Promised a lot to the clients even reducing profitability • Let the Clients decide who is their preferred provider • Build infrastructure to build possibility of future projects from clients • Finish VC Capital and move towards IPO • According to dot-com theory, an Internet company's survival depended on expanding its customer base as rapidly as possible, even if it produced large annual losses
CHICAGO – Hot Industry - Automotive
Automotive E – Commerce Industry
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