Twenty-two years ago, Ben Livson was riding the dotcom boom as executive director of a fresh start-up investment fund based in Sydney.
It closed its office 18 months later after the deals Livson had hoped to do proved elusive amid the crash.
“The real issue was extreme valuations, then and now,” says Livson, a veteran consultant. Software companies have enjoyed valuations of 50, sometimes 100 times annual revenue, over the past year. Bitcoin, a proxy for the broader crypto market, went up nine times in value from a low in March 2020 of less than $10,000 to highs of more than $90,000 in November last year.
In each case, investors were not betting on what a company or token could do right now. They were betting on its potential to make vast sums of money many years in the future, a future that pandemic spending and very low interest rates seemed to be pulling closer, until all of a sudden, they weren’t.
The sugar hit of pandemic spending is plainly over. Inflation, triggered by coronavirus stimulus, supply chain disruption, and Russia’s invasion of Ukraine, is rising along with interest rates. Sectors that have enjoyed a decade of smooth sailing are in for a test that could last months, or if Walmart and Target turn out to be harbingers of broader trends in the economy, years.
Growth businesses like Netflix have seen falls of 70 per cent this calendar year in what turned out to be a portent for sharp drops in cryptocurrencies. Late this week, in a worrying sign for the markets, even traditional retailers such as the US giants Target and Walmart fell by about a fifth.
This time around Livson has dodged the rout, switching his money to agriculture and resources stocks.
Crypto markets crumble
Things have been most dramatic at the bleeding edge. Last week, the price of one of crypto’s premier projects, Terra, began to wobble. First just slightly, then significantly, with the asset’s value halving in just a few days to be worth less than 50 cents.
That would usually go unnoticed in the notoriously volatile world of crypto, but Terra’s price was never meant to fall. As a so-called ‘stablecoin’, its entire purpose was to be worth exactly one US dollar. No more, no less.
We always remind ourselves that we’re investing in extremely new, disruptive technology. And there will be things that go wrong.
Crypto fund manager Richard Galvin
Amid the severe downturn affecting crypto in past weeks, traders were on high alert. Following the slightest sign of weakness in the widely used stablecoin, they rushed for the exit, prompting a run that cratered the price of not only Terra, but its algorithmically linked sister asset Luna.
“This is the first time I’ve seen a major crypto asset like this literally go to zero in a very short space of time,” says Richard Galvin, a fund manager at local crypto fund DACM. “This was the fifth or sixth-biggest coin in the market, it’s not like it was a fringe asset.”
Galvin, who is speaking publicly for the first time since the episode, had already sold off around 60 per cent of DACM’s holdings in Luna, which were in the tens of millions, over the past six months, but still held 40 per cent of its overall stake when the asset started to crumble. He quickly started to sell the remaining Luna that was liquid — around 15 per cent — but was unable to sell the last 25 per cent because it was locked up in staking contracts.
Once worth multiple millions of dollars, that remaining stake is now worthless.
Galvin describes the outcome as a “double-edged sword”, noting the fund had realised a 40 times return on its total Luna investment, having bought in at just 23 cents. Still, he came away rattled.
“We always remind ourselves that we’re investing in extremely new, disruptive technology. And there will be things that go wrong.
“It’s never a good thing when people lose money,” Galvin says of the crash. “But I think it does remind and highlight to people that while a number of people are making high returns in this space, the co]st of that is volatility becomes a big risk.”
“In investment there are no free lunches. If you’re making higher returns you need to be prepared for substantial losses along the way.”
The experience hasn’t changed Galvin’s long-term philosophy about crypto. He still believes its future is bright once some of the broader macroeconomic pressures fade away.
“If we could get a stabilisation at a macro level and let crypto stand on its own two feet, then I think we’d be in a much stronger position,” he says.
Start-ups cautious with cash
Getting to the long run is another matter, especially for technology companies that are newer and still trying to grow quickly. Start-ups are being forced to tighten belts.
Tim Doyle, the founder of a healthcare technology company called Eucalyptus that has created brands such as Software for skincare and Juniper for menopause treatments, is in a fortunate position because Eucalyptus announced a $60 million capital raise early this year.
Still, he says, “people are the most conservative with capital preservation that I have seen at any point in my career.”
That’s largely because the returns that venture capital investors can expect to see when companies they’ve tipped money into go public now look much smaller. As a result, start-ups will find it harder to raise money, especially those close to going public. Already some of those start-ups that cannot avoid burning through money quickly, such as the very fast grocery delivery company Send, have gone into administration. More established companies are being more judicious with their money, meaning slower or even frozen hiring.
Several industry sources, who spoke on condition of anonymity, say the hugely successful graphic design company Canva is among them. A Canva spokesman, Lachlan Andrews, says it has recruited 800 people in 2022 and is seeking an additional 400 this year. That would still be less than the 1500 people it had reportedly hoped to hire. “This isn’t a hiring freeze and we’re actively continuing to seek out talented people to join our team,” Andrews says.
Yash Patel, general partner at VC fund Telstra Ventures, which is backed by the Australian telecommunications giant, says the fund recently did a review of its 80-plus portfolio companies to highlight those who may struggle for funding in a prolonged bear market.
“We prioritised the ones that had less than 12 months of runway, so we could understand what their options were, whether it’s an extension of the last round, or maybe even the down round in some cases,” Patel says.
“We’re thinking about 12 months, minimum, in terms of the potential recessionary period that we’re entering.”
As Livson told The Sydney Morning Herald and The Age in April 2000, some “start-ups have had extreme and unrealistic expectations, very much because of the IPOs … now they have to be much more conservative and have models based on revenue generation.”
Echoes of the dot-com crash
Some in the industry see this crash as similar to the dotcom bust, measured by the magnitude of share price falls, but different in that the underlying performance of many listed high-growth stocks that have taken a battering remains solid.
Alister Coleman, managing partner of Sydney firm Folklore Ventures, points to the wealth of differences between then and now. “At the time, dotcom companies were essentially fixated on either how to sell online, or how to consume content online, and they had no foreseeable path to mainstream adoption because of limited internet penetration,” Coleman says.
Now good internet connections are ubiquitous, building websites is cheap, hosting costs are low and business models are proven. The best firms, Coleman points out, have huge gross margins, no debt and very little capital expenditure.
For example, a company like Atlassian, the Australian technology giant that makes its money selling subscriptions to workplace collaboration software, is still growing quickly despite the stock sell-off. Its shares were still up almost 400 per cent over the last five years at midday on Friday though they are down roughly 50 per cent from January. Many similar businesses are essentially just back at share prices where they were two or three years ago.
Benjamin Humphrey, the co-founder and chief executive of Sydney-based research software firm Dovetail, is sanguine. Dovetail, which is privately held, will not need to raise money again for 10 years on current projections and the dip could make it easier to hire employees who have enjoyed huge bargaining power in the sector during the pandemic. “We’ll just be chilling, hopefully, as long as there isn’t a massive economic crash,” Humphrey says.
That, however, remains the key question. If the economy enters a sustained period of stagnant growth, especially with high inflation, the technology sector will not be protected. Many more start-ups will go to the wall and comparisons to the dotcom crash will become more pronounced.
Similarly, in the crypto space, investors and entrepreneurs alike have signalled that they’re broadly nonplussed about the market crash, pointing to the fundamentals of major assets such as bitcoin and ethereum and arguing that Web3’s underlying pitch of mass decentralisation remains unchanged.
Geoff Wilson, a veteran stockpicker who has seen numerous market crashes in his lifetime, tells The Age and The Sydney Morning Herald these sorts of downturns are just life, something that budding equities or crypto traders will need to get used to.
“They have to realise that markets go up and markets come down. They don’t go up forever,” he says.
“There have been some excesses out there, and those excesses have to be cleared out of the system. That’s the role of a bear market.”
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