From San Francisco to San Jose, the effects are already palpable...
Since the credit crisis began gripping the financial world, Silicon Valley has watched from the sidelines, secure in the faith that it was insulated from the coming storm.
That faith is now being seriously undermined. High-tech entrepreneurs, investors and executives now believe the question is when, not if, the financial chaos will hurt the country’s cradle of innovation.
From San Francisco to San Jose, the effects are already palpable. Last week, Apple, one of the Valley’s highfliers, lost 16 per cent of its value as investors reasonably concluded that consumers would shun expensive gadgets over the holidays in favour of lower-ticket items — or paying down their credit cards. Shares in Yahoo and eBay are at their lowest levels in years.
Microsoft’s chief executive Steven Ballmer recently conceded that financial problems would drag down business and consumer spending in the US and that many technology companies, including Microsoft, were vulnerable.
Other ominous signs abound. Semiconductor makers, many of which finance their capital-intensive operations with debt, have been hit hard. Advanced Micro Devices, a dimming rival to Intel, was expected to spin off its chip manufacturing operations this year to focus on processor design. Analysts say they believe the company has had trouble raising the hundreds of millions of dollars needed to make the move. The main drivers of Silicon Valley’s growth are start-up companies and the venture capitalists who back them. Many say that these engines of innovation are still chugging along, thanks in part to lessons learned and wisdom gained in the dot-com crash.
Nevertheless, a pall of anxiety seems to be spreading over the land. “Funding will tighten up. We are certainly going to see some ripple effects,” said Ron Conway, a prominent venture capitalist who has invested in hundreds of Web start-ups over the last decade. Start-ups that have less than six months of cash in the bank “better reduce costs,” Mr. Conway said. “I will certainly be advising my companies to do that.”
Tight funding
Silicon Valley has recited several calming mantras to itself during the prolonged economic turbulence. People are spending more and more time on the Internet — and advertising will inevitably follow. Blue-chip tech firms like Google, eBay and Cisco have balance sheets loaded with cash, not debt.
Yet nonstop economic gloom in other parts of the economy seems to have frayed the nerves of even the Valley’s most sublimely confident. Discussions of the economic crisis dominate conversations. Technology blogs offer prescriptions for riding out the crisis and intense debates over what percentage of start-ups are destined to fail.
According to a quarterly survey by Mark V. Cannice, director of the University of San Francisco Entrepreneurship Program, the confidence of venture capitalists has plummeted to the lowest level since the survey began in 2004.
“Everyone is worried about their budgets and everyone is worried about the economy,” said Jayant Kadambi, founder of Yume, a three-year-old online video advertising firm. “These are the conversations we have these days,” Mr Kadambi added.
Though companies like Yume claim that their business is not slowing, Internet advertising — the revenue model for an entire generation of Web start-ups — is perhaps one of the industry’s greatest vulnerabilities. In August, eMarketer, a digital marketing research firm, cited economic turbulence when it cut its projection for Internet ad dollars this year for a second time, to $24.9 billion, a 9 per cent drop from its original projection.
In the hardest-hit sectors of the overall economy, companies appear to be putting the brakes on their Internet spending. General Motors said last month that it was cutting its digital ad spending, after saying earlier this year that it would dedicate $1.5 billion, half its annual budget, to online advertising.
One lingering problem in the Valley is a dearth of successful public offerings. Only six venture-backed technology and health care start-ups have gone public this year; only two are trading above their offering price. Last year, 86 such companies went public, according to the National Venture Capital Association. That has plenty of people in the Valley worrying that venture capital — the fuel for new start-ups — might disappear as investors find themselves without a way to cash out.
“Investment in venture firms could dry up if the drought continues and venture firms cannot show returns,” said Ken Wilcox, chief executive of SVB Financial Group, the parent of Silicon Valley Bank. Mr Wilcox said he was concerned that the investors, or limited partners, in venture funds might begin to pull back. Many Valley start-ups have still been reporting successful fund-raising. But an increasing number of those that have raised money say they feel as if they slipped through a rapidly closing door.
In early September, Skydeck, a 10-employee start-up that allows people to use the Web to organise their mobile phone calls and text messages, raised $3 million in venture capital. The very next weekend, the government took over Fannie Mae and Freddie Mac, and Lehman Brothers filed for bankruptcy protection.
“When I woke up on Monday morning I was pretty happy to have our fund-raising behind us,” said Jason Devitt, the company’s founder. “This week, I received a slew of e-mail congratulating us on raising money in this economy. Clearly there’s a real awareness of the impact,” said Mr Devitt.
No free lunch
Like other entrepreneurs, Mr Devitt says the recent turmoil has changed his plans. Skydeck is now focusing on building features that it can charge for, instead of free services that attract users but not revenue. He also said he would not hire new people until the company hit “certain revenue milestones.”
But not everyone is confident that the Valley is doing enough to adjust to the fast-changing economic situation. Jonathan Abrams, who founded the social networking pioneer Friendster, now runs a party-planning start-up called Socializr, which has only six employees and is prepared to “hunker down if things go bad,” Mr Abrams said.
Mr Abrams is unimpressed with the Valley’s readiness in general, saying numerous uninspired, copy-cat entrepreneurs are obsessed with the internal gossip and minutiae of the industry. “The economy is tanking and people are arguing about whether they should go to Demo or TechCrunch,” two technology conferences that coincided last month, Mr Abrams said. Few companies sound like they are breaking new ground. It’s like, ‘Here is Twitter for dogs.’ And people still think they are going to get rich by being a blogger. It seems to me like the industry is still in denial, said Mr Abrams.
