graylightning

Blodget's Tree has Money Growing On It

Lots of chatter on the web today about Silicon Alley Insider's Top 25 most valuable digital private startup's of 2008.

While I think there are plenty of points to argue in this list, and initial comments have not hesitated to offer their "fire and brimstone" as Henry Blodget describes, I applaud SAI for taking a shot at some of these, and I offer only two criticisms.

1. Organizations like Craigslist and Wikipedia can not be valued accurately in their current form. To change these community-created and oriented websites into strict for-profit models would fundamentally disrupt the user experience and therefore the user/contributer bases. Because these sites' value is created by their users (not their engineers), changes in the business model would ultimately change the nature of the products. Measuring them on earnings multiples based on hypothetical advertising or paid listings revenues makes about as much sense to me as judging a football player by how many home runs he might be able to hit if he switched to baseball.

2. Some of the higher prices listed should be swallowed carefully.  Many of these companies are still pre-revenue or even pre-business model, as Henry states of Twitter. Therefore, I would expect many of them to be valued closer the "Twitter" level rather than the "Ning" level.

Confucius say: 'One careless VC over-paying, a valuation, does not make.'

Fun stuff - I wonder where the real-time moving index will go.

Is Microfinance a Hedge to the Credit Crunch?

So one of the interesting arguments made in favor of microfinance as an asset class has been how decoupled it is from mainstream economic  trends and traditional financial markets.

The argument goes, Microfinance borrowers are typically so far outside of the financial mainsystem that, save for inflation, borrowers (at least rural ones) often do not see or feel the impacts, positive or negative, of economic swings.

The logical conclusion is that investors seeking new forms of hedging can look to microfinance to shield their money from prevailing economic fluctuations.

But is this true? I recall from my own experience talking with Indian bankers last year that as the bigger microfinance organizations in India (SKS, Spandana, BASIX) started raising larger and larger debt tranches ($5M or more), they started bumping into ICICI's risk management policies limiting the firm's exposure to sub-prime and unsecured borrowers. But is microfinance really sub-prime? Or is such a designation a gross oversight of the historically high repayment rates that microfinance borrowers have shown globally through the Grameen model?

First of all, Microfinance lending is not without risks. As the March 2006 crisis in Andhra Pradesh and the Bangladesh floods of 1998 showed, political moodswings and natural disasters create enough uncertainty in MF lending to necessitate that banks demand a significant premium on their microfinance debt investments, particularly because when write-offs do occur, there are no assets left to repossess. In 2007 that premium in India was been between 7.5-8.5% over 10-year US Treasuries (which were at 4.75% most of the year).

But these microfinance risks (political corruption or overwhelming floods) are very different from the risks faced by US sub-prime mortgage holders. Nonetheless, when interest rates rise as a whole, and credit becomes more expensive for borrowers in rural North Carolina, it also becomes more expensive in rural India. That is systemic risk, and when your microfinance organization is big enough, a 1% increase in US treasuries will translate into at least a 1% increase in your microfinance org's cost of borrowing.

So is microfinance indeed decoupled from the world economy?

Maybe the answer is yes and no.

Microfinance is subject to the same systemic risk that pervades the mainstream credit (and equity) markets, so to suggest that it provides a natural, or perfect hedge to mainstream equity or debt securities (in the way that gold is a hedge to the U.S. dollar) is not entirely accurate.

But investing in the debt or equity of microfinance institutions does allow investors to further diversify their holdings and shed incremental unsystematic risk. It's just that the market isn't exactly liquid right now. It's limited by size and international controls on investment flows. But if you could create this kind of liquidity, wouldn't that be interesting to investors? That's just what funds like GreyGhost Antares are attempting to do by creating a secondary market for microfinance securities...

Okay, Lots of news in Microfinance these last few months:

There was another investment in SKS ($37.5M!!) this time led by Silicon Valley Bank, Reliance is getting into Microfinance (it was only a matter of time), mobile-payment vendor Eko has launched its 5,000 person pilot in New Delhi, SKS's CFO S. Dilliraj thinks MFIs and moneylenders can get along, Intellecap is hosting its next Srijan MF business plan competition, and a new report by CGAP states that the recent boom in microfinance investment has been driven by social investors (but avid readers of my bankerinindia blog knew that already).

And I just found another great site for microfinance news, DripFin, how could I have missed this one for so long?!

So What Does it Mean for the Valley?

The biggest concern I had as the Bear Stearns mess unfolded last week, was that we hadn't seen anything yet.

Financial analysts and journalists have said for months that this crisis could be the worst of the last several decades, worse than the Asian economic flu of 1997 and Longterm Capital Management meltdown of 1998, worse than the Black Monday of 1987, worse than the stagflation of the 1970s. But the turn of events last week and the continued rally yesterday did hint that such an outcome may have been avoided. It also looks like the final Bear Stearns price may end up closer to a still-crazy-but-at-least-not-highway-robbery $11.00 a share, or a $1.5B market value of equity.

So what does this mean for the Valley?

The IPO market is still turbulent to impervious, with only Titanic's (pardon the analogy) like Visa and other rule-breakers able set to sail.

But the woes of cigar-chomping bankers, first-time home-owners, and Washington D.C. fiscal policy wonks make little impression on a committed technology entrepreneur. His or her price expectations while coding up new programs in Silicon Valley seem unaffected at this point by the volatility in far-off Wall Street.  And since it's still too early for the average entrepreneur to think this economic crisis has anything to do with him, many startups continue to believe they can raise money at last year's prices. Nothing about their business model has changed, they think, and if anything has, it's been in the form of progress, so why should expectations weaken?

If Bebo's are still getting acquired for $850M, then there's a reason RockYou's and Slide's are still getting funded at $400 and $500 million.

But I think startups' fortunes must rise and fall with those of the rest of the market, even if delayed by six months or a year. Sober LPs must eventually start asking their VCs on Sand Hill about the valuations they're seeing in the context of the current market environment.

I think it will hold true that very few in the valley of technology are utterly immune from global economic viruses, even ones borne of something as un-technological as mortgages.

Fed Up with a Bear Market

So with a flurry of activity last week the Fed kept the markets from collapsing and in fact caused the week to end with a rally.

As Tom Raum from the AP summarized:

In a remarkable week, the Fed:

--Engineered the fire sale of bankruptcy-headed Bear Stearns Cos. to J.P. Morgan Chase & Co. with a $30 billion loan.

--Offered emergency loans to other securities dealers under terms normally reserved for regulated banks, (specifically, the Fed will accept less liquid assets as collateral for loaned Treasury securities).

--Slashed a key short-term interest rate by three quarters of a percentage point, to 2.25 percent. The cut was sixth since September.

These steps followed moves to lend $100 billion in cash to banks and $200 billion in Treasury bonds to cash-strapped investment banks. The goal was to keep the financial system from seizing up.

"I spent 35 years on Wall Street, have been a Fed watcher for a long time and I have never seen the potential for a more severe credit crisis than this one," said David Jones, chief economist at DMJ Advisors and a former Wall Street economist. "It looks like we turned the corner precisely because of what the Fed did."

So the general consensus seems to be that the markets lived to fight another day this week substantially because the Fed exercised its sweeping authority (granted under 1930 provisions that had not been used since) to keep banks and securities dealers liquid.

What does all this mean for entrepreneurs and those of us in Silicon Valley? Anything at all?
Thoughts on that tomorrow.

(Thanks to www.despair.com for the bear pic.)