Causes and Effects of the Dot-Com Bubble

During the late 20th century, the world witnessed a technology revolution. The Internet changed the approach towards business and inspired the launch of a great number of companies, known as dot-coms. The Internet bubble (also known as dot-com bubble, dot-com boom and information technology bubble) was caused by the influence of the Internet, large investments in risky companies, and the loopholes in the companies’ accounts; and resulted with several bankrupted companies, as well as significant reforms that led to stabilization of the market.

The dot-com companies were powerful enough to increase their stock prices by adding an Internet-related prefix (e-, net-, or i-) or “.com” at the end – a phenomenon known as “prefix investing” (Masnick, 2003). When the Internet became part of people’s everyday lives, everyone wanted to grab a piece of the pie. The basic principles of safe investments (such as analysis of the P/E ratio) were neglected in many cases, as the investors were ready to invest large amounts of money in companies that didn’t present clear business plans. That trend resulted with immense valuations on companies with no realistic revenues, fast profit for entrepreneurs, and corporate corruption. A great number of multinational companies relied on illegal means and frauds to draw profits. The debts were not shown in their accounts, which had serious loopholes.

People’s expectations for online companies were unrealistic. Internet entrepreneurs and investors were inspired by new ideas, whose potential was not proven. Experts’ warnings about the bubble were foolishly ignored. Alan Greenspan, a Federal Reserve Board chairman, used the phrase “irrational exuberance” to interpret the overvalued market. Nasdaq Composite, the stock market index for technology shared on Wall Street, reached its peak of 5046.86 points on March 10, 2000. The day after that, the shares began declining, and the bubble burst. The antitrust case against Microsoft in April 2000, which resulted with the company being declared a monopoly, was one of the direct reasons for the deflation of the Nasdaq Composite in March.Throughout the following ten days after March 10, the index lost 10% of its value. On October 9, 2002, the index was 1114.11 points, which was 78% lower than the peak achieved in 2000.

The bursting bubble inevitably led to bankruptcy of several dot-com companies. Boo.com, a company that spent $188 million in only six months, went bankrupt in May 2000. Other companies that didn’t survive the crisis were Freeinternet.com, GovWorks.com, Startups.com, Pets.com, Kozmo.com, WorldCom, and others. As a result of the shock, reforms in the legislation and practices on this market were necessary. The companies that survived the bust went back to the fundamental principles of business planning and investments. The reforms in their accounts made the companies responsible to make clear balance sheets, which offered more transparent information on their investments and transactions. This information enabled investors to understand the potential of a company before making the actual investment.

The causes of the dot-com bubble financial crisis cannot be brought down to a single factor. The unrealistic portrayal of the potential of these companies led to unsafe investments, huge valuations of dot-com companies that didn’t disclose their revenues, corporate corruption, and severe loopholes in their accounts. The situation culminated after March 10, 2000, when the Nasdaq Composite started declining and led to the bankruptcy of several companies. The market had to be reinvented, and the technology giants that survived (such as Amazon and Google) went through significant reforms and put an emphasis on realistic plans.