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Here’s how the tech bubble started to deflate

Facebook CEO Mark Zuckerberg speaks at the Paley Center for Media in New York City. | Drew Angerer/Getty Images | Source: Drew Angerer/Getty Images

A decadelong bull run that placed San Francisco at the center of gravity for the global tech sector has been rudely interrupted, a stark reminder that the economy’s boom-and-bust cycle has two elements.

But in order to understand what’s happening today, it’s necessary to take a look back. After a shaky few months where the world settled into the reality of the pandemic, the tech sector found its footing and became a rare success story. As small businesses, restaurants and retailers struggled under lockdowns and restrictions, it was technology companies that enabled the interactions necessary to drive commerce.

Zoom became a commonly understood verb, delivery companies like DoorDash surged and tech giants like Salesforce paid billions for “workplace productivity” tools like Slack. In San Francisco, job gains were largely driven by the tech industry, as many folks in the service industry were laid off and left the city entirely.

Pedestrian pass an empty restaurant space with a "for lease" sign in its window in Downtown San Francisco. | Camille Cohen/The Standard

The primary engine of Silicon Valley and the larger tech industry has always been venture capital. The line of reasoning is simple: More investments beget more companies beget more IPOs and exits, which beget more capital.

Take 2021, for example. The tech industry was flying high with record venture capital funding for startups. IPO activity and venture capital returns were elevated to their highest point in recent memory. 

Public market activity was driven by a record high number of SPAC IPOs, where hundreds of so-called “blank check” firms went public with the mandate to acquire a private company and put it on the public markets without many of the regulations that come along with traditional IPOs. 

Tech companies big and small were also reporting record earnings and hiring at a rapid clip to make good on their accelerated projections about growth and earnings.

That was until a rising interest rate regime—put in place by the federal government to deal with the inflation that emerged from the pandemic—started to stem the tide of easy money that for so long functioned as the fuel for this growth.

“The question is: Are we looking at a correction of the past two years, or are we looking at the correction of the past 12 years?” San Francisco city economist Ted Egan said.

A street in Downtown San Francisco
Pedestrians walk through San Francisco's Financial District. | Camille Cohen/The Standard

Venture capitalists have thrown the brakes on startup funding, and overall deal flow and total deal value are down nearly across the board. In San Francisco, as of the third quarter, investments are down 54%, and overall deals are off by 40%. At the same time, the nascent crypto industry has been dealing with the collapse of major companies like FTX amid allegations of fraudulent practices and an increasing amount of regulator scrutiny. 

The picture isn’t much prettier when it comes to exits. This year ranked as the worst IPO market in the U.S. since 1990 with volume down by 76% and proceeds dropping by 95%, according to data from EY. SPAC activity dried up from a record 613 deals in 2021 to a fraction of that number this year. Even M&A activity, which became a more attractive option for companies amid a dismal stock market, was down compared with 2021’s highs.

Tech investor Chamath Palihapitiya, who was dubbed the “SPAC King” for his role championing the economic vehicle, has wound down his activity and blamed the Fed Chairman Jerome Powell for helping to create the conditions that led to the mania.

The tech companies that were listed publicly found their valuations under siege as higher interest rates battered growth stocks that focus on intensive spending on research and development today for the promise of future earnings tomorrow.

Higher interest rates mean more options for investors to park their money and greater demand for earnings today. Case in point, the tech-heavy Nasdaq index is down more than 30% this year after peaking last November. 

Pair that with lower than projected demand for products and fears of a forthcoming downturn cutting the advertising spending that helped drive the monumental success of companies like Google and Meta, and the rationale for mass layoffs comes into focus. 

Those layoffs, which started out as a trickle and have turned into a flood that includes around 24,000 job cuts in San Francisco alone, have had a real human cost for those who have lost their jobs, particularly if they are struggling with immigration or visa issues. 

Those challenges may run headlong into a mild-to-moderate recession that a majority of economists believe will happen next year.

But even with those headwinds, many observers remain optimistic that the sector’s fundamentals and overall maturity is at a different place than it was during the dot-com crash. 

The San Francisco skyline during sunset is seen from Treasure Island. | Jane Tyska/Digital First Media/East Bay Times via Getty Images

Egan, the city’s chief economist, noted that even with the tech sector’s recent struggles, the number of San Francisco jobs are higher than they were prior to their pre-Great Recession peak. 

And, according to nonprofit business research firm CompTIA, current tech job postings are still higher than pre-pandemic levels, though it has been trending down since openings peaked earlier this year. 

Barring a startup that successfully invents a functional crystal ball, there are still open questions about what next year’s outlook will be. 

What is clear, however, is that 2023 will look far different than the hot market seen earlier this year and assumptions made during the heady period when tech felt unstoppable will need to be recalibrated.