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From capital funding to cage fights: The existential crisis of Silicon Valley

Is the world’s most renowned tech hub in trouble? CBS Associate Professor in Finance Rama Seth shares how both local and global challenges are rocking the foundation of the world’s tech epicentre.

By CBS Executive Education

Palo Alto seen from above to illustrate Silicon Valley as a tech hub in trouble

At the beginning of 2023, Copenhagen Business School published an article featuring visiting professor at CBS Jonathan P. Allen, telling the story of how the tech mecca and start-up ecosystem of Silicon Valley came to be. This article serves as a follow-up, speaking to the current challenges in Silicon Valley in the Summer of 2023.

A bank crash, risk-averse investors, and some cage fight between two tech pioneers: The Silicon Valley 2023 update is looking very different.

In fact, this new edition seems more at odds than ever. Global upheavals such as inflation, war and the spread of misinformation are posing threats to the core features of Silicon Valley. Will the reputable powerhouse maintain its influence?

We spoke to CBS Associate Professor in Finance Rama Seth on the challenges Silicon Valley is facing and whether the Valley needs to sell hubris and hype to take large risks and reward benefits.

A year of decline

The storytelling of Silicon Valley is partly driven by risk-driven capital and unicorn companies. But in the past few years, the craze for investing and appreciation for innovative tech solutions have taken a hit.

In the first quarter of 2023, venture capital funding in the US fell by 25%, the largest decline in venture capital funding since the financial crisis in 2008. By the second quarter of 2023, venture capital deals declined by 20% and the average valuation of tech start-ups has fallen by 50% since 2022 (source: carta.com).

"It's still possible for great companies to raise capital, but it's more difficult for 'good' companies, and nobody's willing to take a chance on the 'bad' ones," says Rama Seth. "I sense a purging is occurring in that regard."

Instead of taking chances on the early-stage tech start-ups, there’s an overall shift in investment strategies. According to Seth, an increased interest in publicly traded companies poses a more stable and established alternative to the speculative risks associated with new start-ups.

“This suggests that investors are looking for ways to get exposure to the tech industry without having to pay the high valuations that are currently being demanded by venture capitalists.”

The drying up of risky capital is severely affecting the Silicon Valley ecosystem. But it’s only one out of a multitude of challenges. The region has been struck by massive layoffs, a 35% increase since 2022 (source: Layoffs.fyi), while also having trouble with retaining talent due to a high cost of living. There’s also been a rise in regulatory scrutiny and other tech hubs such as New York, Boston and London are growing in prominence.

So how did Silicon Valley end up here?

“(...) the ecosystem is changing, and start-ups will need to adapt to the new challenges in order to succeed.”

Rama Seth

Associate Professor, Copenhagen Business School

No back-up plan

Although many both national and global factors have and currently are affecting the tech industry overall, the collapse of the Silicon Valley Bank (SVB) played a huge part in the valley’s newfound instability.

Characterised as part of the biggest banking collapse since 2008, SVB went bankrupt on March 10th, 2023. The failure of the bank was accredited to a lack of diversification as well as a bank run, where multiple customers withdraw their deposits simultaneously in fear of the bank's lacking solvency. About half of all US venture-backed technology and healthcare companies received funding from SVB.

“The collapse of SVB is a reminder of the risks that start-ups face when they rely on a single financial institution,” Seth explains. ”It’s important for start-ups to diversify their funding sources and to have a backup plan in case their primary bank fails.”

Since the collapse, fewer banks are willing to lend capital to start-ups and there’s been an increase in the cost of banking services for start-ups as well. In the second quarter of 2023, the average account fee for start-ups hit 120$ a month, representing a 20% increase from the quarter before (source: Pitchbook). Although these trends were visible before the collapse of SVB, they have strengthened since March 2023.

And as we often see in financial crises, the crash could impact the most vulnerable. “SVB’s failure is likely to disproportionately impact women and minority entrepreneurs, given the barriers these groups face when fundraising.”

Bad publicity

But it’s not only bank collapses and financial downturns that are stirring things up in Silicon Valley. This year, health tech company Theranos’ Founder Elizabeth Holmes, who was convicted of fraud in 2022, began her 9-year prison sentence. And in the Summer of 2023, Stanford University President Marc Tessier-Lavigne resigned du to faulty scientific research.

More recently, Mark Zuckerberg, CEO of Meta, and Elon Musk, CEO of Tesla and X (formerly Twitter) contemplated a face-off in a cage fight. The proposition came about in June 2023 and has been ongoing during Musk’s rebranding of Twitter and Zuckerberg’s launch of a clear competitor in Threads.

Although the cage fight has apparently already been called off, this butting of heads is part of Silicon Valley lore, says Seth, going back all the way to Gates vs. Jobs, Google vs. Oracle. “That said, Silicon Valley continues also to be represented by Intel, Apple, Xerox, Adobe, Cisco, and Amazon, among others, who have in general favoured operating the companies, over entering public debate.”

The Zuckerberg-Musk confrontation also speaks to another criticism of the tech industry. Today, 64% of Americans believe that the tech industry has too much power (source: Pew Research Center). To many, it appears out of touch with reality and should be held accountable for social problems such as deteriorating mental health, misinformation and even income equality. “The tech industry has created a number of millionaires and billionaires, but it has also left many people behind,” Seth says.

To help improve its image, Seth sees a need in the industry to enhance transparency, strengthen its ethical guidelines, foster diversity and inclusion, engage in responsible innovation, and collaborate with regulators. “Addressing the image crisis in Silicon Valley requires concerted efforts from companies, leaders, and the broader tech community.”

A valley of opportunities

So where do all these challenges leave Silicon Valley? If the value of the tech stocks and funding for new start-ups continue to decline, it would be a significant sign that things are moving in the wrong direction.

But the US is still not in recession, and it’s not looking all bleak for Silicon Valley. The overall level of mergers and acquisitions in the tech industry is still relatively high, although it’s been on the decline. Breakthroughs in AI and new developments in renewable energy have kept Silicon Valley buoyant meanwhile companies in sectors like fintech, health tech, e-commerce, and software development are likely to see significant growth and continue to attract substantial investments.

But to keep Silicon Valley thriving, Seth says the region needs to leverage its existing strengths as well as tap into new movements. The potential in developing sustainable technology and investing more in research and development will be an important move, as well as staying resilient innovators, trusting the growth in tech and retaining talent through inclusion.

There’s also momentum for the start-up ecosystem to thrive once again. “There are still a lot of great start-ups being founded in the region, and there is still a lot of venture capital money available,” Seth says. “However, the ecosystem is changing, and start-ups will need to adapt to the new challenges in order to succeed.”

Some of the ways start-ups can adapt according to Seth is to look to global markets for growth, build lean and efficient businesses to conserve cash and constantly innovate to stay ahead of the competition.

“It will be interesting to see how the ecosystem evolves in the years to come.”

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