Why Did the Dot Com Industry Crashed After the Boom? Term Paper

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Com industry crash after the boom

This is a paper examining some of the factors that caused the dot-com crash

Many believe the root cause of the dot-com crash was over valuation of stock prices relative to the actual underlying value of the companies themselves. Stocks of Internet companies traded at Price-Earning ratios of higher then 30, buoyed by a speculative bubble. When reality set in for investors many realized that the companies that they were so heavily invested in were little more then money sucking black holes with no upside potential in the near or long-term future. This triggered mass self-offs of not only Internet related stocks but soon impacted the market value of many companies associated with computer, network or telecommunications industries.

This paper will show in fact that over valuation was more a symptom of the speculative boom and was only one of the multifaceted factors that contributed to the Internet boom turning into the Internet bust.

The investment frenzy in Internet-related companies reached a peak almost exactly three years ago in the first quarter of 2000. Three years ago, almost to the day, the tech-heavy NASDAQ Composite reached an all-time high, fueled in large part by Internet issues and related euphoria. Since that time, the dot.com sector has gone through a radical alignment that has seen nearly 5,000 Internet companies acquired or shut down.

Some pertinent facts:

THEN & NOW The stock market March 10, 2000, vs. March 10, 2003:

THEN: NASDAQ composite reached an all-time high of 5,048.62.

NOW: NASDAQ closed March 10th at 1,278.37, down 75% since the peak.

THEN: Selectica, a San Jose maker of e-commerce software, went public at $30 a share, becoming the 92nd IPO in Silicon Valley in 12 months. Shares rose 371%, closing at $141.23.

NOW: Selectica shares plunged in the dot-com crash, closing March 10th at $2.76. Only three local companies have gone public in the past 12 months.

THEN: Worried about the overheated economy, the Federal Reserve had raised interest rates to 5.75%.

NOW: Worried about the flickering economy, the Fed has sliced rates to 1.25%.

THEN: Chip stocks were roaring. Rambus, up 470% over 12 months, closed at a split-adjusted $105.25.

NOW: The chip industry is in its worst slump ever. Rambus, facing federal antitrust charges, is at $12.97.

THEN: The 304 valley companies still trading today had a market value of $2.9 trillion.

NOW: Those companies are valued at $588 billion, down 80%.

Source: Mercury News research, Bloomberg www.sanjosemerc.com

The casualty numbers for dot-com mania are staggering. In the year since April 2000, the technology-heavy Nasdaq has lost more than $2 trillion in value. Once high flying companies like Excite.com, have disappeared off of the charts, busted, bankrupt and out of business. During the last 36 months, 93,079 Internet-related jobs have been cut nationwide (Cassidy 2002). At least 4,854 Internet companies have either been acquired or have shut down in the three years since the dot.com investment boom peaked in the first quarter of 2000. Of these 4,854 plus Internet companies, at least 962 of them have been substantial Internet companies who have either shut down or declared bankruptcy. Unemployment figures for the San Francisco bay area, once the engine that drove the Internet economy to dazzling heights, now hovers around 7% (U.S. Department of Labor).

The many contributing causes of the crash of the dot.com companies are complex and they can serve as a cautionary tale for investors and would be company CEO's of the future. Overly speculative investors helped push tech stocks far beyond what the companies' price to earning ratios should have been. Venture Capital firms with ready cash would throw money at anybody who had an idea for a company that had a "dot-com" attached to the end of its name. Creative accounting practices fueled the boom with inflated earning estimates, while masking the true debt to income ratios of many of the high flyers. The burn rates, (rate of startup capital being spent over a period of time) of many start-ups was staggering. Few Internet and dot.com companies were profitable, but investors never seemed to mind. Many investors looked at the number of customers or subscribers as the basis for valuing Internet stocks. The name of the game became raising capital, not making profits. Even when fashionable stocks dipped, there was remarkably little effect on the rest of the market. (CNN/MoneyLine 2000)

This paper will look at why the Internet boom was successful and the reasons behind its crash.

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An examination of one failed Internet venture will be examined in a case study. The failed enterprise is representative of why many Internet-based companies failed.

Where Did the Dot-Com Boom Come From?

In 1945, an essay titled "As We May Think" published in the Atlantic Monthly Dr. Vandeaver Bush wrote that the biggest problem facing scientist after the war would be that of information overload. The more knowledge society gained the more specialized people become simply because the breadth and depth of knowledge had become too great. As a consequence attempts of scientists to bridge between fields of specialization could only enable superficial understanding of another field.

Bush proposed a solution which would be based on two relatively new inventions; microphotography - the ability to take pictures so small that an entire encyclopedia could be photographed and the resulting pictures could be stored in a match box, and the cathode ray tube which allowed scientists to transmit pictures and text onto a glass screen. Bush theorized that a device that brought the two together could revolutionize the way information was stored and transmitted. He called his proposed machine a "memex." He wrote that it would work by using translucent screens, on which material can be projected for convenient reading. The machine would have a keyboard and a set of buttons and levers. All information enter into the memex would be indexed by title and subject, as in a library. People using the machine could move between items of interest more directly, using what Bush called "trails." Every time a person created a new file, he would be able to link it to a second file of his choosing by tapping in a code. The second file would be in turn linked to a third file and so forth. By this method anybody looking at the first file could retrieve the other files by pressing a couple of buttons. Busch wrote that the great attraction of his filing system would be that it would mimic the human mind and work by "association." With this method, vast amounts of related information would be grouped together in an easy to access format. Dr. Bush's memex was never built but his "trails" idea was the intellectual predecessor of the World Wide Web. (Cassidy 2002)

In the 1960s, an iconoclastic engineer name Ted Nelson realized that the technology for implementing Dr. Bush's ideas now existed. By using the storage, capacity and speed of digital computers technology could turn Bush's ideas into reality. Nelson postulated that the world's knowledge could be stored in a giant database and retrieved by anybody who access to a computer. The information would be presented via by a method he called "hypertext," and computer users would be able to jump from one hypertext file to another based on Bush's ideas. Nelson's idea, called Xanadu, never came to fruition but his idea of hypertext caught on.

Doug Engelbart developed the first working hypertext program in 1968. He had come across a copy of "As We May Think" while stationed in the Philippines. The program was called "oNLine Systems" His program allowed users to browse through multiple windows of text using a small block mounted on a ball, a prototype of today's mouse.

It would take another 20 years before the World Wide Web came into being. The web had to wait for the advent of the central processor, the personal computer and the graphical user interface, developed at Xerox's Palo Alto Research Center.

The central technological development that lead to the Internet was the invention of package switching The Pentagon had been looking for a way for command control to be able to communicate with its troops in the event of a nuclear attack. An engineer named Paul Baran conceived of the idea. In order utilize packet switching information had to first be digitized then it can be sent to a receiving station in digital form, or packets. Once the information was received, it would be converted back into the forms humans could recognize. Once information was turned into digital form it could be broken down into small pieces called packets. Each packet contains a header, an address that tells routing switches where the packet is supposed to go. When all the packets reached their final destination software could reassemble them into a coherent piece of information.

Using the packet switching technology, the military linked.....

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