Reality check on tech unicorns losing magical allure
This was a week for a reality check on some of the startups and older private firms that have at least a one billion dollar valuation. In recent years the tech industry has called these firms unicorns after the mythological animal resembling a horse or a kid with a single horn on its forehead. The unicorn appeared in early Mesopotamian artworks, and it also was referred to in the ancient myths of India and China according to Encyclopaedia Britannica.
In 1992 J.K. Rowling's 'Harry Potter' has Lord Voldemort using unicorn blood to sustain his life until he could steal the Philosopher's Stone to regain his true body. In 2013 according to The Wall Street Journal, Aileen Lee, founder of the VC firm Cowboy Ventures, originally called billion-dollar startups “unicorns” in a November 2013 piece for the news website TechCrunch. At the time, Lee identified 39 “Unicorn Club” members — US-based software companies started since 2003 and not publicly listed. This is the definition of the Financial Times' lexicon.
Aileen Lee did caution:
"The tech news may make it seem like there’s a winner being born every minute — but the reality is, the odds are somewhere between catching a foul ball at an MLB (Major League Baseball) game and being struck by lightning in one’s lifetime. Or, more than 100x harder than getting into Stanford."
Fortune magazine reported (see more below) this week: "There are roughly 140 unicorns by the latest tallies, and just over 90 of them are based in the US."
Atomico, a London-headquartered technology investment company, founded in 2006 by Niklas Zennström, a co-founder of Skype, says that 182 software companies with a $1bn+ valuation have been founded since 2003 — 51% (93) of the companies have had a significant liquidity event: 69 via IPO (initial public offering) 24 via M&A (merger and acquisition).
Seventeen firms date from 2011 and on average 16 companies have reached a billion-dollar valuation each year in the past decade. Almost three quarters (73%) reached the bar since the start of 2013 (132 out of 182), including 65 in 2014 and 21 in 2015.
The majority of the 182 companies that met the threshold have been built outside Silicon Valley, with 65% coming from other cities — and the gap is widening. Silicon Valley remains the preeminent single location, with 63 companies.
Atomico says Europe has 29 companies in the set (which includes Russia (3) and Israel (4)), Asia has 54, while North America has 99. No billion-dollar Internet businesses have been founded since 2003 in Latin America, Africa or the Middle East
In absolute terms, Silicon Valley is the single most prominent tech hub with 63 companies. The top six hubs are rounded out by Beijing (23), New York (11), London (7), Stockholm (5), Berlin (5), and Los Angeles (4).
On a per capita basis, Stockholm is the second most prolific tech hub globally, with $6.3bn companies per million people compared to Silicon Valley with 8.1.
This week a Page 1 report from The Wall Street Journal was devastating news about Theranos, a $9bn valued star Silicon Valley firm founded in 2003, that was expected to disrupt the massive blood testing sector with a system which would collect samples with simple finger pricks. The Journal reported claims that the company’s proprietary technology — whose co-inventor committed suicide two years ago after telling his wife that it was not effective — is used only in a small fraction of the company’s tests, with others performed using standard laboratory equipment in a way that might produce inaccurate results.
The 31-year old Elizabeth Holmes, founder of Theranos, has a stake valued at more than $4.5bn after investors including Larry Ellison, Oracle co-founder, pumped more than $400m into Theranos.
The Journal says Food and Drug Administration (FDA) inspectors recently showed up unannounced at Theranos, following concerns about data that Theranos had voluntarily submitted to the FDA in an effort to win approval for its proprietary testing methods.
Theranos called the Journal article Thursday “factually and scientifically erroneous and grounded in baseless assertions.” A Journal spokeswoman said The Wall Street Journal “fully stands by Thursday’s article about Theranos, which was richly sourced and thoroughly researched.” She added that the newspaper had sought permission to visit Theranos' offices to view the technology since late April.
In India Zomato, which operates online restaurant guide services in 22 countries, and which became a freshly minted unicorn last month when Singapore’s Temasek Holdings sovereign wealth fund headed a $60m fund raising, issued a long memorandum to staff that was a classic case of corporate gibberish.
The separate news was that Zomato was changing its business model and sacking 300 workers — 10% of the payroll.
The subprime and the prime
Michael Moritz, chairman of Sequoia Capital, a venture capital firm, and co-author with Sir Alex Ferguson of ‘Leading,' wrote in the FT on Friday:
"Life in the shadows of the private market has many benefits for emerging companies...But there is also a false sense of security provided by the private markets at a time when interest rates are negligible and many investors, particularly those who are either new to technology or have short memories, are all too willing to back start-ups whose premises house several baristas and where a dozen blends of tea (not to mention the sea-salt flavoured chocolate bars and bio-dynamically raised Anjou pears) are de rigueur...A handful of these businesses will become the great, enduring companies of tomorrow. But a good number seem the flimsiest of edifices."
Moritz also makes a point that most recent investors have structured their investments to be in effect debt in all but name, meaning that they can protect their investments even if a company's value plunges. He also says that in recent times, the founders of several tech firms have discovered a far chillier reception on initial public offering (IPO) roadshows than they were accorded in the private shadows.
The Economist reported last May that Fenwick & West, a law firm analysed 37 unicorn deals and found that all included terms to protect investors against losing money — in particular, putting them first in line to get their money back if the company is sold. "Such 'liquidation preferences' are not nefarious, nor new. But they mean that unicorn valuations are not directly comparable to public-company valuations, says Barry Kramer, one of the authors of the study. If a public company loses half of its value, investors lose half of the money they put in, he explains. But should this happen to a unicorn, investors may not lose anything — as long as the total value of the firm does not fall below the amount protected by the liquidation preference."
The Fortune magazine report cited above suggests that the IPO market in the US has an annual capacity constraint.
IPOs peaked in 2000 when $44bn was raised and this year so far, 22 tech companies went public, raising just $7.6bn.
Pic on top: Wikimedia Commons. Screenshots above from Wall Street Journal