The good news and bad news about bubbles

On Thursday, I moderated a panel of entrepreneurs and venture capitalists discussing a provocative question: As startup valuations get frothy, are we blowing another bubble?

It seems like you can wander down Sand Hill Road muttering “social location games” and get a $20 million check dropped in front of you these days. And yet lots of promising startups developing deep technologies are starving for capital. So what’s the deal?

The panelists at the event, sponsored by the law firm of Dorsey & Whitney, were Paul Martino, chairman of Aggregate Knowledge; Christine Herron of First Round Capital; Corey Reese, CEO of Trumpet Technologies; and Tim Chang of Norwest Venture Partners. I began the panel asking everyone to recall where they were in March 2000 — the Internet bubble.

Martino recounted watching his net worth evaporate as the stock-market collapsed. Herron discussed spending her startup’s seed funding, not realizing it would be the last check it got. Chang talked about the arrogance of his business-school classmates. And Reese, who was in high school at the time, reminisced about his short-term hot streak as a bicycle salesman.

For me, it was all about the cheese. If there’s a cheese sommelier personally slicing aged gjetost onto your plate, run for the hills.

The panelists rapidly agreed that we’re nowhere close to the bubbly days of 2000.

Instead, what we’re looking at are microbubbles forming around individual companies. Reese and Martino, who collaborated on some analysis of startup valuations before the panel, said they came up with a list of 10 to 12 companies that had gotten arguably outsized valuations — a shortlist that included Zynga and Groupon. (Martino, an angel investor in Zynga, suggested that the social-gaming startup was undervalued, if anything.) The point: High valuations are a rarity, not a commonplace statistic.

Chang brought down the house when he said, “Silicon Valley is like high school forever.” The popular kids — the cool startups — get a disproportionate amount of attention. Venture capitalists, Chang said, focus on the handful of likely candidates for an acquisition or IPO and ignore the rest. That’s a sign that we’re not in a bubble, he argued, because the paucity of profitable exits makes the cream of the crop that much more desirable. In a bubble, we’d see a broader range of valuations across the startup set.

Herron said First Round, one of the most well-regarded seed-stage funds, had been tracking startup valuations and noticed a trend in the most recent two quarters toward higher valuations. But that meant companies were selling smaller slices of themselves in financings rather than raising higher amounts, she noted.

So if you’re an entrepreneur, how do you get yourself into this select bubbly class? It’s not easy. Second- or third-time entrepreneurs targeting an area venture capitalists are buzzing about can raise money more easily than first-timers with a truly novel idea.

In other words, in today’s Silicon Valley, the rich get richer, while potential innovators starve.

It almost makes you wish for a bubble.