Economics for One

High Tech Boiler Room


The 2000 film Boiler Room depicts the seedy world of the “pump-and-dump” scam.  In it, a broker purchases a large block of public stock in a shell (i.e. empty) company.  The firm then calls potential clients to pitch them the same stock.  This drives up (“pumps”) the price, making it appear to be a runaway stock, thus attracting more buyers and driving the price higher.

When the price is high enough, the broker “dumps” their own shares at a huge profit and walks away.  The result is that the buyers are left holding stock in a worthless, basically non-existent company, which promptly falls back to zero, wiping out the investors.

Which brings us to Silicon Valley.  Over the past decade or so, Silicon Valley has morphed from a region that was the builder of great companies (Apple, HP, Intuit, Cisco, Oracle, etc), into perhaps the greatest generator of “pump and dump” stocks.

Many people who live in Silicon Valley have complained about the changes that have taken place over the past decade.  Venture Capitalists still like to claim that their primary interest is building great companies. Many of  Silicon Valley’s founding VCs (Art Rock, Tom Perkins, etc) used to believe that if they built great companies, the money would follow.  So they focused on building great companies.

But now it s

eems the VC community is more interested in pumping up their companies, getting “an exit” (i.e. dumping), and moving on.  Today, if they happen to buil

d a great company along the way, that’s terrific.  But it is far from the primary motivation.

Any entrepreneur can tell you about the emphasis VCs place on having a solid “exit strategy.”  But while VCs will sometimes ask about a “business model” how many ask about the company’s “business strategy?”  (Answer: None.)  And no, a business model is not a business strategy, any more than an exit model is an exit strategy.  The model is just the form it will take, such as “selling tickets”, while the strategy is how you are going to go about doing it successfully (e.g. “door-to-door with a fleet of hourly workers familiar with the people who live in the neighborhood, hired from local churches.”)

And the entrepreneurs aren’t much better.  Although many entrepreneurs are still driven by a desire to see their products come to market, the reality is that, faced with a potential multi-million dollar lottery win, most entrepreneurs will abandon the dream in a heartbeat.

I have a little more sympathy for the entrepreneurs as they often don’t have much money, so the temptation has got to be big.  By contrast, a successful VC typically has a much larger personal net worth, and has made a decision to pursue this business model.  Of course, their decision must recognize the difficulty of raising follow-on funds if their prior fund shows sub-standard results.  So the focus on financial results is understandable.

But the net result is an emphasis in Silicon Valley that has moved from building great companies, to pumping up new companies or technologies just long enough to gather a large user base, show a potential for greatness (but not actual greatness), then dumping the technology or company on the highest paying buyers they can find, regardless of long-term value.

And that’s a shame.  Because it makes a few people very wealthy, but at the expense of the system that allowed them to get there.  And in the end, is there any moral difference between them and the seedy brokers in Boiler Room?

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