02:21 AM

[innovation watch] That giant sucking sound...will massive tech companies vacuum up all the cool/hot tech companies?

By Tom Foremski for SiliconValleyWatcher

Corp-Vac.jpgWill just a few big tech companies end up owning all the cool/hot tech companies? That's the way it's looking right now, and it's going to be a big problem.

That's because the big boys are controlling the valuations of startup companies. With fewer buyers around, it becomes a buyers market. Which means fewer reasons to build more startups.

Within each tech sector there are now just one or two companies of a size that can compete against each other, and the other companies in their markets are generally much smaller.

That means it's less likely a bidding war will develop over a hot company, and since there is not much of an IPO market, it's a take it or leave it type of deal.

When I met recently with Joe Kraus, co-founder of search giant Excite (pre-Google) he said he was worried that there was a giant sucking sound coming from Google as it acquires more and more companies.

Yahoo has done its fair share of sucking too, Flickr, one of the coolest/hottest startups of 2004 became part of Yahoo earlier this year.

In other sectors, tech giants such as Oracle, Intel, Cisco, IBM, Microsoft, and Broadcom behave in much the same way. They buy the most promising private companies and they do it nearly every month.

The upside to fewer companies chasing hot companies is that there is less mania and less pressure to buy. When I visited with Dan Scheinman, Cisco's head of M&A, earlier this year, he said he had more time to identify and evaluate a potential acquisition. Valuations were now more reasonable than during the dotcom boom years, he said.

Ten baggers quicken the heart

Reasonable valuations however, don't stir the blood of venture capital investors. There is no opportunity for a ten-fold return on a VC investment when valuations are "reasonable." Yet a potential ten-bagger is the minimum requirement for a VC firm to be interested, generally.

So is innovation in trouble? Will we have less of it in the future?

It is difficult to argue with the economics of scale. I'm not talking about scale in terms of being able to negotiate lower costs on resistors or disk drives. Companies such as Google, IBM, Oracle, SAP can monetize a product or service far better than the startup venture can because they have scale in infrastructure: the global distribution channels, customer base, and support.

Is there a way around this? Let me know. Later this week I'll share what I think might be a scenario for future innovation.

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