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In California, a Second Internet Gold Rush

By Steven Pearlstein
Friday, October 19, 2007

SAN FRANCISCO

At the Web 2.0 conference here in 2005 -- back before Google had paid $1.65 billion for YouTube and people were talking about valuations for Facebook of $15 billion -- Zach Coelius, a precocious 25-year-old who had snuck into the hall without paying, stepped up to the microphone and asked the speaker for a bit of career advice.

Start a company, replied Rupert Murdoch.

Now, two years later, Coelius has wheedled his way in again, this time to the Internet A-list party at the San Francisco Museum of Modern Art, sponsored by MySpace, which Murdoch purchased in 2005 for what now looks like a bargain price of $580 million. Within minutes, Coelius has pushed through the throng and buttonholed Murdoch to report on how it has all worked out -- how he had parlayed a "chance" meeting with a venture capitalist into an invitation to a regular poker game with other VCs who seeded his new "widget" company with their poker losses and later with modest first-round financing. Now, with a small staff and a tested product, Triggit.com is about to launch.

For the next two minutes, the two scheming entrepreneurs traded stories, the jowly septuagenarian media mogul filling in some details of how he broke the newspaper printers union on London's Fleet Street, the lanky young upstart riffing on the spectacular promise of social networking. It's hard to say who was enjoying the conversation more. But like many in the room, they had the sense that this was one of those magic moments that comes along every decade or so, when nothing is certain, everything is possible and anything can be spun into gold.

It is understandable why some see the makings here of Bubble 2.0. Over the last two years, money has been pouring into budding companies that have been founded by young, inexperienced entrepreneurs peddling business plans, many aiming to use similar strategies to dominate similar markets with similar technology. And the money is coming not just from venture capitalists, but also from hedge funds and angel investors who have already made their score with one company and are looking to do it again.

So far, there have been only a handful of the kind of extravagant public offerings that characterized Bubble 1.0. Rather, the focus this time has been on the breathtaking prices being offered by larger strategic buyers such as Google, Yahoo, Microsoft and Murdoch's News Corp., for companies offering rapidly growing revenues, page views and click-throughs.

And then there are the other telltale signs, like the aggressive bidding wars for talent and the news that Google has supplanted Goldman Sachs and McKinsey & Co. as the most desired employer for recent graduates of top-ranked colleges and MBA programs.

Rents have recently doubled in downtown Palo Alto as Facebook and Ning have vied for space with growing legal and venture capital firms, and there are even a few reports of landlords accepting stock for rent in lieu of cash.

Even some of the industry's most influential bloggers, like TechCrunch's Michael Arrington and BoomTown's Kara Swisher (late of The Washington Post and the Wall Street Journal), have worried aloud about the outlandish valuations and the gold-rush mentality they are spawning. So deep and widespread is the confidence -- that this time it's different -- that even eBay's admission that it paid more than a billion dollars too much in its much-hyped purchase of Skype is dismissed as an anomaly.

As the founder of Netscape, the browser that launched the last Internet frenzy, Marc Andreessen knows a thing or two about tech bubbles. But he's confident enough that things are different this time that he's put millions of his own money, along with $44 million raised from the likes of Legg Mason, T. Rowe Price and CBS, for his latest startup, Ning, which provides tools to anyone wanting to set up a social networking site.

Sitting with his partner and chief executive, Gina Bianchini in his Palo Alto offices, directly across the street from Facebook, Andreessen ticks off the important differences.

In the last decade, he notes, the number of people hooked to the Internet has grown from 100 million to 1 billion, with 3 billion expected by the end of the next decade. And because of the increased speed and the growth in the number of things we do using the Internet, the intensity of use is increasing exponentially. Given that potential demand, he says, the industry has only begun to tap the Internet's potential. The profits of entire industries -- telephony, entertainment, news, financial services, retailing -- are now up for grabs.

What's also different this time, adds Andreessen, is that with the introduction of cheap servers, open software and inexpensive programming tools, it's now much less expensive to start a company. And irrespective of what you may think of valuations, the only companies commanding premium prices are those with proven products and proven ability to deliver viewers and revenue, including a number, such as Google, that were born during the last bubble and are stronger for having weathered the bust.

Andreessen is certainly not the only one making these arguments, and, up to a point, I think he's probably right. The current boom has more to play out, and it is a mistake to assume it will play out the way it did last time. But there are also some things to be wary of.

For starters, most of the companies being bought or funded these days have business models that rely on advertising revenues rather than fees. That's fine for any one company. But it seems to ignore the reality that there is only so much advertising money to go around, and that even if it is better targeted, there are only so many marketing messages a person can consume, and so many Web sites one can visit, in 16 waking hours.

It is also hard not to be skeptical of some of the supposedly hot applications that are drawing so much money and attention, such as Twitter, which allow you to message your friends about what you are doing every hour of the day. These are the sort of applications that may appeal to students and young adults in rich industrial countries, but I somehow doubt they will draw many eyeballs from working-class Chinese or Brazilian parents juggling families and jobs.

The better wisdom here is probably that of Michael Moritz, the famed Sequoia Capital venture capitalist whose big scores include Google, Yahoo and PayPal. Moritz acknowledges he is in a more skeptical mode right now, but hardly expects the sky to fall.

"These times of overenthusiasm lead inevitably to lots of bedlam and carcasses strewn in the road," he said this week. "But a handful of companies will live through it and become superb companies that will be around for the long haul. And that's what living and working and investing in Silicon Valley is all about."

Steven Pearlstein can be reached atpearlsteins@washpost.com.

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