Don't Be Evil

by Rana Foroohar

  Sand Hill Road venture capitalists were pouring millions into Silicon Valley’s dot-com companies; British investors tried to emulate them. Continental banks desperate for higher margins were also trying to get in on the easy money. European players like the Dutch bank ING, and Credit Suisse First Boston, a subsidiary of the Swiss financial giant, were aggressively going after new deals, even bringing in investment bankers from the United States to help them identify the hottest targets.

  Antfactory was trying to do the same. But it was already becoming clear that the people in charge didn’t really have the skill set to pull it off. Most of the opportunities we were looking at were copycats of successful start-ups that had already launched, or ill-advised attempts to create Internet arms of existing legacy brands. I was asked to shepherd a project called Peoplenews, for example, which was basically an online version of existing glossy gossip magazines. But the whole thing seemed pointless; we weren’t helping to create anything truly innovative, just trying to gin up something with “dot-com” at the end of the name. I remember coming into work day after day and feeling that people were just pretending to be busy, researching fruitless ideas in the open-plan spaces that I will forever believe are actually counterproductive to getting real work done (who can think with people constantly talking around them?). Although the founders kept a deal flow going and the press kept writing naïvely positive stories about London’s homegrown tech incubator,9 internally, the firm was already starting to revert to what it really was—a collection of ex–City bankers looking to make a quick buck.

  When you pull back the lens, that’s really what much of the late ’90s/early 2000s dot-com boom was all about. Far away in Silicon Valley, there were a handful of firms, like Google, Amazon, PayPal, and others that were carving out sustainable niches—and then capturing that market. And then there was everyone else. As Google’s Hal Varian put it in an “Economic Scene” piece for The New York Times in 2001, “The obvious corollary to winner take all is loser gets nothing, and there will inevitably be many more losers than winners.”10 True enough. But the frenzy of financial activity was being fueled by more than just your typical market forces. In retrospect, it reflected the increasingly tight links between the world’s financial capitals and technology hubs, and the halls of power in places like Washington and Brussels. And as the economist Mancur Olson had so presciently warned decades earlier, it would be the beginning of big trouble for the political economy as a whole, in the sense that the monied elites were well on their way to buying out the political system.11

  While the tech industry wouldn’t majorly ramp up its lobbying efforts until the mid-2000s, Wall Street and Washington had a few years earlier successfully lobbied to pass new rules concerning stock options that would support the inflated valuations being thrown around like dice at a craps table, thus helping to inflate the bubble to epic proportions. It was a shift that came under the Clinton administration, which received a tremendous amount of support from both Wall Street and Silicon Valley. Bill Clinton, still one of the best politicians of all time, had managed to bring together a broad coalition of support from both the progressive end of the party, who liked his campaign message about bridging the inequality gap, and the pro-business camp, who liked his free-trade, laissez-faire approach. His team included proponents of both—Joseph E. Stiglitz, the progressive economist and Nobel laureate, headed up his Council of Economic Advisers, whereas neoliberals Bob Rubin and his deputy Larry Summers snagged roles at the Treasury. (Summers’s own deputy chief of staff was Harvard grad Sheryl Sandberg, who, as we’ve already seen, would leverage the “market knows best” thinking to great effect later on at both Google and Facebook.)

  Those camps would eventually come into conflict over stock options—the paper money that had become the lifeblood of Silicon Valley and legal tender in the casino that the dot-com boom would end up being. More specifically, it was a debate that would center around the contentious issue of stock buybacks (when corporations bid up the price of their own shares by buying them back on the open market), which had been considered illegal market manipulation until the Reagan administration legalized it in 1982. But the practice didn’t really become a key part of a dysfunctional system of skyrocketing corporate pay and bad corporate decision making until the 1990s, when “new economy” tech firms began successfully lobbying the Clinton administration against efforts to introduce new accounting standards that would have forced them to mark down the value of stock options on their books.

  In other words, firms wanted C-suite executives to be able “to buy company stock at below-market prices—and then pretend that nothing of value had changed hands,” as Stiglitz once pointed out. It’s a mark of how strong the financial and tech lobbies had become that their efforts were supported by key Democrats, including California senators Barbara Boxer and Dianne Feinstein, as well as most conservatives.

  The Clinton administration was supportive, too. It introduced rules that would cap tax-deductible CEO pay at $1 million, but granted an exception for “performance-based” pay over $1 million, thus opening the door to even higher bonuses delivered in the form of stock options. Stiglitz believes this was one of the more problematic legacies of Bill Clinton’s tenure. “When they pushed through the tax exemption for performance pay,” he says, “they made no effort to ensure that the increase in stock prices was in any way related to performance. The favorable treatment was granted whether the increase in stock prices was a result of the efforts of the manager or the result of a lowering of interest rates or a change in oil prices.”12

  Making matters worse, the tax code, which was gradually relaxed to favor corporate debt over equity (corporate margin debt is today at record highs thanks to the tax benefits of borrowing), gave companies even more incentives to manipulate their share prices with buybacks. “The whole stock options boom caused so many incentives for bad behavior of all kinds, and for making each [corporation] look better than it was. It’s all directly responsible for what I’d term ‘creative accounting,’ which has had such a devastating effect on our economy,” says Stiglitz.13

  The buyback issue would reemerge as an even bigger problem after the financial crisis of 2008 when companies like Apple and Google would take advantage of the ultralow interest rates (which themselves were a response to the crisis) to issue loads of bonds on the U.S. debt markets and then use the proceeds to pay back the richest shareholders in the form of buybacks and dividends, thus increasing the wealth divide.14 But back in early 2000, a different problem was emerging—the dot-com boom was turning to bust. The value of the NASDAQ index peaked on March 10, 2000; three days later news that Japan had once again entered a recession triggered a global stock sell-off, which led to the usual “flight from risk,” in which investors start to dump fundamentally weak stocks whose problems had been previously masked by “creative accounting.” On March 20, Barron’s ran a cover story entitled “Burning Up: Warning—Internet Companies Are Running Out of Cash, Fast.” Companies were starting to issue reversals of revenue statements, and investors began to realize that many once-lauded start-ups were more style than substance. Once the Fed decided to raise interest rates, the die was cast. The “easy money” had officially run out.

  DotComDoom.Com

  Everyone remembers companies like Pets.com going under, but there were thousands more companies that either folded or got acquired in the months and years following the downturn—eToys.com, Excite, Global Crossing, and iVillage, to name a few.15 Marimba, the company founded by Kim Polese, the mistress of Java whom I’d interviewed years before during my first trip to Silicon Valley, flamed out just a couple of years after Polese was named one of Time magazine’s “most influential Americans” in 1997.16 And in London, the aforementioned Boo.com shuttered its offices after spending a good chunk of its $125 million in capital on advertisements in glossy magazines, in-office champagne, first-class airfare, and lavish parties—while appa
rently neglecting to invest in building a site that actually worked. In fact, there were so many dot-coms going belly-up that entire websites were devoted to chronicling their woes. Yahoo’s home page linked to something called the dot-com Flop Tracker, and in a case of cruel irony, the U.S.-based DotComDoom was one of the few sites that was thriving, with growth figures in the high double digits.17

  Those were the legitimate failures of the late ’90s and early 2000s. Then there were the outright frauds that people began to pay attention to, as they always do, once the market had bottomed out. In both the United States and Europe, those years saw regulatory investigations and hundreds of lawsuits against investment banks, analysts, and technology firms, and many of Europe’s most prominent firms got caught up in scandal, with accusations ranging from knowingly promoting bad stocks to insider trading to bribe taking. For example, shareholder activists sued Deutsche Bank for dumping 44 million shares of Deutsche Telekom just two days after one of its own analysts put a buy recommendation on the stock.

  A number of European and Asian investors even turned to notoriously tough Manhattan attorney Melvyn Weiss to press class-action suits against Wall Street banks and tech firms, including a number based in Europe. Credit Suisse First Boston, for example, was named in 49 out of 138 of Weiss’s suits, charged with having inflated commissions and taking what amounted to bribes from clients who wanted to guarantee themselves a piece of a hot IPO. Lots of big-deal players—including CSFB’s controversial technology investment banking boss Frank Quattrone—went down.18 Stars like Henry Blodget, the tech research analyst from Oppenheimer who first predicted Amazon’s success, were accused of pushing tech stocks that they knew to have problems. Blodget was ultimately convicted of securities fraud, had to pay a $2 million fine and a $2 million disgorgement, and was banned from the industry. He later reinvented himself as a technology journalist.

  By the end of 2000, I was wishing that I was still one, too. And this was before things even hit rock bottom; the implosions of Enron and WorldCom were still to come, and although the markets were way down, they hadn’t yet hit their lows (by the end of the dot-com downturn, stock markets would have lost $5 trillion in market capitalization). But Antfactory had become a dismal place to work. Charles Murphy, who was downbeat on a normal day, had sunk into a depression after his wife, a tiny blond American social climber named Heather, left him for Sol Kerzner, an aging South African casino tycoon with a perma-tan. The debacle was all over the London tabloids, which delighted in reporting that Heather had taken their children and moved to Paradise Island, one of Kerzner’s Caribbean resorts. Every morning as I walked by Murphy’s glassed-in office, I would see him sitting there with his head in his hands. Even Rob Bier’s good humor had evaporated, replaced by a cynical “get what you can while the getting is good” attitude. Unsurprisingly, the cadres of young consultants and bankers who’d once clamored to join the company quickly thinned out.

  The party seemed to be well and truly over. I decided to leave Antfactory, and return to Newsweek as the European economic correspondent in what had been my plan B all along.

  And not a moment too soon. By September 2001, Antfactory’s investors had lost patience with the leadership, and demanded that they return a $120 million cash pile and wind down the firm. I heard, years later, that Rob Bier had gone on to become an executive coach for Asian CEOs in Singapore, while the always sharp-eyed and sharp-elbowed Harpal Randhawa had gotten into the Zimbabwean diamond business. They fared better than most. Charles Murphy, who later moved back to the United States and worked a series of high-profile hedge fund jobs, became embroiled in the Bernie Madoff scandal after it was revealed that a firm he had worked with in the years following Antfactory had invested money with Madoff on his recommendation. Unable to keep up his glamorous lifestyle, which included a luxurious Upper East Side townhouse, he sank into despair. In March 2017, he threw himself to his death from the twenty-fourth floor of the New York City Sofitel.19

  Is This Time Different?

  I often think about those disastrous years and wonder what has changed in the tech world, and what hasn’t. Today’s tech market is so much more developed, with vastly better infrastructure and truly game-changing innovations. We are only just beginning to move into artificial intelligence, the Internet of things, and other areas that many businesses are counting on to propel revenue growth in the future. Whether they will or not remains to be seen. But it’s a fair bet that machines talking to one another will have a heck of a lot more practical and productive applications than online gossip websites did. Certainly, many of the companies created in the past decade will have more staying power than those of the preceding generation; the Internet itself has simply become the fabric of our economy in a way that creates scale and opportunity.

  But that won’t be true for every company. There are ways in which the state of today’s tech industry is worrisomely similar to that of the late 1990s, in the sense that easy money and a glut of copycat consumer ideas have created a bubble that has already started to deflate. Consider the lackluster IPO of Uber, which I will cover later in this book, or the rise and fall of Jawbone, the nearly defunct maker of wearable technology that not so long ago was handing out its brightly colored fitness-tracking wristbands like lollipops to VIPs at Davos, only to spend the past few years selling itself off piece by piece. You could argue that the company was a victim of being too early into the market (it launched Bluetooth-enabled devices in the late 1990s), or realizing too late that functions like sleep monitoring and step tracking would soon be performed by apps that lived on iOS and Android platforms, rather than by stand-alone technologies that would warrant their own devices and ecosystems.

  But you could just as easily argue that this Silicon Valley unicorn, which at its peak boasted a valuation of $3.2 billion and attracted money from the world’s most successful venture capitalists, such as Sequoia Capital, Kleiner Perkins, Andreessen Horowitz, and Khosla Ventures, was a victim of its own success. In a classic case of what’s been dubbed “the foie gras effect,” the company burned through so much money and reached such sky-high valuations that it became, perhaps like one of its users, too rich and fat for its own good.

  Jawbone had to turn to the Kuwait Investment Authority for cash just to stay afloat, never a good sign, given that sovereign wealth funds are not exactly the smart money in Silicon Valley.20 They tend to come in big but late, offering loads of cash when others will not, or when start-ups want to inflate their valuations prior to an IPO. Indeed, many of the Big Tech platform firms that took money from the Middle East have come to regret it. Uber, for example, which received funding from the Saudi government, went to great pains to distance itself from Crown Prince Mohammed bin Salman, the autocrat accused of ordering the murder of journalist Jamal Khashoggi (a charge that he naturally denies), by awkwardly pulling out of a Saudi investment conference known as “Davos in the Desert” (along with a number of other high-profile U.S. businesspeople) right after that horror broke.

  The demise of companies like Jawbone and the lack of excitement about new IPOs are just two signs of the bubble economy in the Valley. Burgeoning debt is another. Netflix, for example, recently raised $2 billion through a junk bond offering to fund new content.21 It will be interesting to see how the next round of big anticipated IPOs goes—or if they go at all. Many top tech companies have opted to stay private longer, bidding up their valuations and raising expectations. Both Uber and Lyft completed disappointing IPOs as I was finishing this book. I suspect they won’t be the only companies unable to live up to the hype. I’m thinking in particular of Elon Musk’s SpaceX, but also Peter Thiel’s Palantir, which has been scaling back its thirteen-course lobster tail and sashimi lunches in anticipation of its public offering (probably a good idea, given that the company has yet to turn a profit in its fourteen-year history, despite having a valuation of $20 billion).22 Today’s darlings can so easily become tomo
rrow’s discards; as I finish this book, SoftBank, the bloated Japanese tech investment firm, has just scrapped its $16 billion plan to buy a stake in WeWork.

  Valley veterans smell the froth. “In some ways, Jawbone reminds me of Palm [the former personal digital assistant maker], in the sense that there was a real market there,” says investor Tim O’Reilly, the chief executive of O’Reilly Media and author of WTF? What’s the Future and Why It’s Up to Us, a book about the role of Silicon Valley in our bifurcated economy. “But in another way, it reflects the financialization of the tech sector. Jawbone rode a wave of enthusiasm that was ultimately speculative in nature and reflective of the ‘tulip’ quality of the tech market right now.”23

  It seems not so much has changed since 2000, when start-ups like Pets.com were able to go public and jack up share prices even as they were losing hundreds of millions of dollars. Yes, the digital ecosystem has since grown, changed, and deepened. And yes, today it is harder for companies to receive funding just by sticking .com behind their names. But now, as then, you do not necessarily need profits—or even paying customers—to draw investor interest. All you need are “users” in a hot market niche. I’ve always felt that there was some measure of ingenious scam in the whole paradigm.

  Still, as Citibank’s former CEO Chuck Prince once quipped, “As long as the music is playing, you’ve got to get up and dance.” Over the past five or so years, there’s been massive growth in the number of these venture-capital-backed “unicorns”—start-ups with a market capitalization of more than $1 billion. Low barriers to entry have resulted in many competitors and a race to spend as much as possible to grab market share. Not only do the private companies that emerge from this unproductive cycle become bloated, so, too, do the venture funds themselves. Billion-dollar venture funds, once unheard of, are now commonplace. Last year, Sequoia raised an $8 billion seed fund, and SoftBank a whopping $100 billion fund.