Web 2.0: Bubble or Boom?

Read a great article in the Wall Street Journal today where two venture capitalists face-off on whether the whole Web 2.0 thing is a bubble about to burst or a healthy boom. According to VentureOne, VCs sank $455 million into Web 2.0 companies in the first nine months of 2006 — three times the amount from the same period last year.

The question is, are these companies a good investment. Is the Web 2.0 phenomena a bubble or a boom? Todd Dagres of Spark Capital and David Hornik of August Capital face-off on the issue, with some interesting analysis (I won’t regurgitate the article here, go read it for yourself).

Dagres made a provocative statement: “…the combined cash flow of Spot Runner, LinkedIn and Facebook is less that that of one Costco store.” Hornik counters that the margins of those companies is probably much better than that Costco store, but Dagres’ makes his point. If Web 2.0 companies can’t deliver more than eyeballs — if they can’t deliver the cash — then it’s all just a bubble waiting to burst.

I agree that the barriers to entry are low. Hell, anyone with some decent AJAX coding skills and a clever idea can cobble something together on a bare-bones budget. And sure, most of those sites (like the billions of dormant blogs) will fade away and no one will miss them.

But what’s really being questioned here is not the Web 2.0 phenomena, but the potential of those companies that have taken venture capital. And frankly, most of those companies have potential.

Sure, there’s a number of MySpace wannabes and YouTube clones that will eventually fail, but the ones with strong market support (audience share), a sustainable business model, and solid leadership will do well. Just as any business with those qualities will generally do well.

So far, the VCs have resisted the urge to buy into the hype machine like they did during the Web 1.0 bubble. The market has been stingy to some firms that really understand the community and user-driven strategies of the Web 2.0 (like Yahoo).  We’re not faced with the runaway mess of VCs urgent to give money away lest they miss the boat (the name was Titanic).

Personally, I’m not to bothered by the whole thing. Good websites, providing good services or products and delivering value in a package that provides an opporunity to provide a good return will do well.

Remember, the cream always rises to the top.