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Summary:

After Monday, the belief that Silicon Valley is going to remain immune from the Wall Street fallout is gone. While some tech companies had been saying they weren’t worried that the credit crunch would hurt them, I don’t believe them.

Monday’s 9.1 percent dive by the Nasdaq was so sharp — with big names like Amazon, Google, and Apple losing between 10 percent and 18 percent of their value — that some stocks are sure to bounce back. But in the meantime, something has changed: The belief that Silicon Valley is going to remain immune from the Wall Street fallout is gone.

Only two single-day drops in the Nasdaq have been steeper: one in October 1987 (the infamous Black Monday) and the other in April 2000 (the collapse of the dot-com bubble). As Eric Savitz at Barron’s notes, on Monday shares of Yahoo hit a five-year low, Dell a 10-year low and Sun a 13-year low.

Some of these companies had been saying they weren’t worried that the credit crunch would hurt them. I don’t blame them for saying that; it’s irresponsible for executives to speculate about nasty scenarios that could culminate in cutbacks and layoffs. It’s just that I don’t believe them.

Here’s a short list of things I’m guessing will soon start keeping technology executives awake at night, if they aren’t already. Some could be muted by quick action to restore liquidity and confidence in the markets, but all of them became at least a little more possible this week.

Fewer, costlier loans. No way around it, money is getting more expensive. As long as banks are licking their wounded balance sheets, they won’t make loans that carry even a whiff of risk. This could raise borrowing costs and complicate growth for capital-intensive sectors, like telecom.

A more immediate problems lurks in short-term lending such as commercial paper. Interest rates in that part of the market have recently risen from 2 percent to 4.5 percent for riskier companies, according to Businessweek.

No exits.Venture-backed startups need an exit strategy, but they will remain tough to find. There’s already a line of companies that would like to go public, but they’re in a market that won’t have an appetite for them for quite a while.

Then there’s M&A, but potential buyers will be shy about stock acquisitions if their stocks remain down, and they won’t make cash acquisitions if they think they might need that cash to finance daily operations.

Less respect abroad. Imagine you were considering a deal with another company, but that company was based in a country where the economy was about to melt down and the government couldn’t agree on how to stop it. Would you go ahead with the deal? That’s how U.S. companies, even in Silicon Valley, look abroad right now.

This also matters in a very real financial sense. If overseas investors pull money from U.S. equity investments, their value could decline. If they pull money from corporate or government bonds, interest rates could rise. One reason foreign money found a home here was that investors believed, rightly or wrongly, the U.S. was immune to nightmares like this.

Short selling. I’m with those who think bans on short selling are silly (why not also ban speculative buying while you’re at it?), but it’s starting to look like the SEC’s halting of short sales on 300 or so financial stocks has simply chased the selling into other sectors — such as tech. If the SEC extends the halts beyond this Thursday, they will only extend the pain in tech stocks.

Watching the tech sector’s delayed reaction to the financial turmoil is like watching Krakatoa erupt from an island miles away. At first you gape at the spectacular destruction over there, then slowly realize it’s also generated a tidal wave that’s coming you’re way. On Monday, reports of that tidal wave finally reached the West Coast.

  1. Hi Om,

    I’m seeing a logical fallacy in your (otherwise good) roundup.

    You wrote: “…where the economy was about to melt down and the government couldn’t agree on how to stop it.”

    That’s the fallacy. The government can’t stop this. No matter whether a weakened bailout plan passes or not, there will be a recession. We can solve the credit crisis ourselves, but it will take a concerted effort — and still won’t completely avoid a recession.

    What’s important to remember, though, is that recessions are golden times for startup companies that start then. Required financial discipline means only the best survive. Many of today’s top tech companies got their start in the dot-com bust.

    No matter what happens, there will be short-term (3-5 years) pain. But long-term, Silicon Valley’s brightest will shine by creating sustainable businesses instead of bubblicious enterprises that require more and more capital just to survive.

    -Erica

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  2. Erica,

    I wrote this, not Om. But you raise a good point.

    There will be a recession, but what preventing a meltdown can do is limit its severity.

    It’s often said that great tech companies are founded during recessions, but the giants of this decade – Google, Yahoo, eBay, Amazon – were founded between recessions. What great startup was founded during the 2001-2003 recession? Myspace? Even Facebook was in 2004.

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  3. Erica, I agree with many of your points, but this statement “Many of today’s top tech companies got their start in the dot-com bust” is one of those statements that sounds good but then doesn’t appear to stand up. Can you name a few?

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  4. Robin, some of the names that are usually mentioned to make this case are:

    -IBM, f. 1896 (end of Long Depression)
    -H-P, f. 1939 (end of Great Depression)
    -Microsoft f. 1975 (end of Oil Crisis)
    -Apple f. 1976 (technically not a recession, but the whole 1970′s sucked)
    -Sun, Electronic Arts, Symantec, etc. f. 1982 (end of early 1980′s recession)

    What’s interesting are rarely noted is that these companies were founded at the *end* of recessions/depressions. Not the beginning, where we are now.

    Also, as I noted, recessions have been relatively mild for the past 25 years, so I’m not sure the rule applies as much in that time.

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  5. WaitingForLiberty Tuesday, September 30, 2008

    The naysayers saying that all assets backed by mortgage by securities are worthless. How can a freaking house become worthless? Yes its market value may have fallen but it is quite possible to increase the market value of houses by increasing demand. And how one can increase demand of houses? Simply by welcoming more skilled and educated foreign workers and making US immigration system more friendly to the immigrants who wants to stay here, buy a house here and raise a family. USA needs fresh blood not protectionist measures that will simply make it a country with huge tracts of land , low population density and constantly outmaneuvered in the international market by other economic superpowers like China.

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  6. I really agree with waitingforliberty, the trends now is far more different than what is before. Holding on to the past doesn’t help a bit. Looking at the facts that the globalization is slowly weakening the US and is lurking like a cancer. Just as we see. China is leading the export business. But that is not the point. The point here is, when will US lift the heavy and hard immigration process? Based on my research. Petitions and Immigration process takes a 2 or more. And it has average of 5 years for those who can hardly comply the heavy requirements. Thus reducing the interests of foreigners to live, stay, study and work in the US.

    One more thing. US is always throwing money outside. They scatter dollars everywhere they go. And making other competing countries stronger. On the other hand, weakening the dollar. “A peso earned by foreigner, is a peso taken from us”-famous Spanish governor general. Same applies for US. As long as they won’t resolve the economic issue and will not stop wasting money, they will be in that poor condition.

    -Michael DJ

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  7. I suspect that the biggest effect on silicon valley from the banking crisis will come from restricted budgets to buy more technology. Silicon valley is one of the biggest (if not biggest) suppliers of technology to companies and if the bricks and mortar companies are falling on hard times, the ripples affect the supplier market. I don’t know how many times I’ve seen companies building their business model on selling to the financial services industry.

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  9. [...] last fall, it took many technology companies some time before they were able to appreciate the impact it would have on them. This year, we’re seeing the fallout in the form big losses or shrunken profits, layoffs and [...]

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