I'd add that you can notice the slide from stage 2 to 3 by the number of me-too companies (*cough* mixx *cough*) announcing that they have a smaller B than A round.
I agree with Don Dodge's assessment of the bubble (and yours by proxy). Most Web 2.0 sites seem to be pinning their hopes on advertising revenues and Don Dodge's "Advertising Revenue Math" makes it clear that it would be tough for most sites to survive based on CPM advertising revenue alone.
just on my own last few months I am researching tracking this Space and it is impossible to track even 1/3 of the new companies and most are asking people to Beta the site and you cannot with -24hrs/day as the user do all this. So its serious overload. There is one site http://www.nameyourwang.com/ and I hear of a game company doing a game that trades Friends. This cannot last. I am interested in ideas what to do with all my information as I am beginning to organize it.
Here are my four stages of a bubble:
1. New technology appears in a lab or paper, smart people figure out a way to make a product with it. (For web 2.0: Social web, Weblogs, Inc.)
2. Those sitting on the sidelines watch smart people from number 1 make or raise money. Decide to use same technology in new, but abstract way.
3. VC firms grudgingly fund poor businesses with sideline players from number 3 because smart people from number 1 are already funded.
4. Smart people succeed and are no longer dependent on initial technology. Sideline players fail to build a real business and lose all VC's money. VCs tell everyone and cash supply dries up. Bubble bursts.
The one distinct aspect to economic bubbles is that you rarely know that you are in one until after it bursts. With that in mind, any new business concept will have bubblish times inherent within its life cycle because crowds are inherently followers and not leaders. The crucial element is not where you are in the bubble as much as being grounded during it.
A bubble is usually defined as a time when market pricing varies materially from intrinsic value. Intrinsic value is very difficult to nail down and harder to support as it is based almost entirely in assumptions: if the assumptions are off, so will the value. So if valuations of Web 2.0 companies seem way off from what a reasonable person would expect it to be, then you are probably in a bubble or missing something. Those who can tell the difference make a lot of money on the arbitrage and write books about it afterward.
I always find it both funny and sad when people throw claims around without really thinking about what they're saying, and even more without having a clear idea what they're talking about.
Let's analyze the sentence "Web 2.0 is bursting". This sentence has three elements, and neither is really clear what it means.
First of all, "Web 2.0" is not a single thing. Even the inventor of the term, Tim O'Reilly, lists a number of elements which comprise Web 2.0, and some of them have proven more successful while others had more trouble gaining a wide acceptance. And those elements are very heterogenous, as they include technologies, user behaviors, interfaces, processes etc.
Secondly, what is a bubble? In economy theory, we are taught that a bubble is "trade in high volumes at prices that are considerably at variance from intrinsic values". This was certainly true at the time of the dotcom bubble, when many high-tech stocks were heavily overvalued and when the market corrected itself it made a loud popping noise. But what we have now is certainly far away from any stock market -- high-tech IPOs have gotten few and far between, and instead most of the action happens between VC funding startups and large players acquiring them. But this is not a bubble -- this is a perfectly normal behavior in any highly innovative industry.
Don says that in a bubble, "greed overtakes fear" -- this is true when we are talking to the usually conservative and "fearful" investors who usually invest in public stock -- pension funds, individual investors etc. But here we have venture funds, whose sole purpose of existence is to be greedy and invest to highly overvalued companies in order to bring the returns measured in orders of magnitude instead of percents. In other words, this behavior is not excessive -- it's normal.
Also, Don mentions lack of revenue as a sure sign of an upcoming doom. But VCs are not looking for revenue -- they're looking for returns. One should not forget that we are talking about _startups_ -- companies who are just beginning, mostly trying to develop some kind of new technology and/or processes, and everything is still experimental. For example in pharmacy -- another highly innovative industry -- it is normal for a startup to last for decades, and even making the IPO in the process, before getting any revenues. Of course, the difference is that in pharmacy the cost of innovation is very high, and the experiments regularly last for years; in software, and in Web in particular, teams can (and regularly do) change directions and concepts several times in the course of a year.
In the end, what does "bursting" actually mean? In 2001, the burst was fairly obvious with stock price plummeting, but right now we have no such metric which would show such sudden and violent changes. Valuations of startups are certainly high, but in other highly innovative industries they tend to be even higher. The only metric which shows some bubble-like behavior here is "buzz", but it has nothing to do with economy.
So what is really happening? My opinion is that what Don and others tend to call bubble (or "bubble 2.0") is actually just the buzz and media attention, which is going through naturall swelling and ebbing phases. Web as a platform has proven disruptive in many aspects, and in my opinion its most groundbreaking aspect is that it makes experimentation and innovation so cheap and quick. Traditionally, engineering innovation has been a slow and expensive process, and in many industries it still is: pharmacy needs its labs and years of testing, engineering spends lots of money for very minor improvements, space travel is still dangerous etc. But on the web you can test your idea literally in matter of minutes, spending next to nothing and, if you pursue it, you have an audience of both potential clients and test subjects at the same time which is measurable in millions.
Since Web is so unique and different, it naturally attracts a lot of attention, and media -- both traditional and the new concepts (which are just another form of innovation) -- tend to exaggerate looking for "the next big thing". When the model evolves -- as Web, 2.0 or not, does -- the media lose their concentration and move on to find new thrills elsewhere, while the model continues becoming actually useful. We have seen in recent years several similar crazes -- first about Java, then XML, after that Web services and recently software as a service -- but those were confined to mostly technical audience. "Web 2.0" encompasses a bigger audience which makes it seem more special, but in the essence it is nothing but a number of innovations -- most of them not even that new -- getting traction at the same time.
One important thing to have in mind is that a bubble is fueled by irrational behavior. Unlike the common misconception, most of today's Web acquisitions and valuations resulted from very rational decisions -- Google paid as much for YouTube for very rational reasons (to control the legal developments of online video), while Microsoft increased Facebook's valuation because it only made sense to them.
To conclude this litany, no "Web 2.0" "bubble" is going to "burst". We might speak a bit less about "Web 2.0" in the upcoming years (which is only a good thing), and ridiculous projects might be having a tougher time getting funding or being acquired, but no stocks will suddenly lose value and none (or at least very few) will get fired without being able to easily find another job (both of which are common effects of a bursting bubble).
I think its a bit too early for different reasons:
a) The money invested in Web 2.0 is nowhere near that which was invested in 1.0. There are too few players this time around.
b) Web 2.0 can also be called a set of features which might be bracketed on to businesses (alawww.epaperchase.com
- a community is a way for us to get closer to our partners, our partners/their customers)
c) we have seen a significant number of similar products (feeds, wikis, mashups, blogs, communities, onboarding, keywording, web mapping) enter the marketplace but not necessarily a significant number of techs (yet)
d) no one has crashed through the SEO gates definitively yet (Dharmesh, I think you're farthest along in terms of techs and methodologies!)