Signs of bubble in mobile Internet start-ups

PORTLAND: The number of mobile Internet startups with valuations crossing US$1bil has jumped by a third in just eight months and that's spelling trouble for some venture capitalists looking to cash in on their investments.

Already, there are signs of worsening returns.

The ratio of mobile Internet exits – startups that are either sold or go public – to investments has plunged over the past six quarters, excluding one outlier deal, according to consulting firm Digi- Capital.

“Mobile is frothy and bubblelike,” said Rajeev Chand, managing director and head of research at Rutberg & Co LLC. Companies that would have gotten US$8mil to US$10mil in investments a few years ago are now getting as much as US$50mil, he said.

“There's way too much money going into mobile delivery companies. The economics are fundamentally not sustainable.”

Investors have jumped into mobile Internet startups as services from dog walking to shopping to food delivery became available via smartphones. In 2014, global mobile data traffic was almost 30 times the size of the entire global Internet in 2000, according to Cisco Systems Inc.

As a result, mobile Internet companies that crossed the US$1bil threshold – known as unicorns –have swelled to about 90 for a combined valuation of more than US$800bil, Digi-Capital said in a report last month.

It wasn’t so long ago when there might have been 10 unicorns in an entire decade, said Matt Murphy, a managing director at Menlo Ventures.

Venture funders, who typically recoup their investments in five to seven years, may have to wait two to three years longer and perhaps with less rosy results, he said.

WhatsApp represented a bright spot last year when Facebook Inc bought the mobile messaging service for US$22bil. Still, excluding that one deal, the ratio of exits to investments declined for six straight quarters, Digi-Capital said in the report.

While investments in the second quarter amounted to US$16bil, exits were just US$13.5bil, half the US$26bil peak they reached a year earlier, the researcher said.

While in the past, venture capitalists tended to spread their money around, some are now pouring more into fewer companies, and their risks have skyrocketed, said

Tom Taulli, a mergers-and-acquisitions consultant in Los Angeles. Firms, particularly those that stepped in during later funding rounds when mobile startup valuations were higher – could see losses, and have less money to reinvest.

The amount of funds that firms have available for promising new companies could drop by 25% in two years, he said.

“It's a high-stakes game of Russian roulette,” Taulli said. “A couple of VCs are going to win, and many VCs are going to lose, and that's going to eventually shrink the funding into mobile and other areas.”

To raise cash, some venture firms are starting to sell portions of their stakes in private companies to other investors, Menlo Ventures’ Murphy said. – Bloomberg