In his article, Rana Foroohar beautifully captures the downside of massive growth in the number of venture-capital-backed unicorns. She starts the article by highlighting the over-optimism shown by new tech companies which is in sharp contrast to what market expects from the technology sector this year.
According to Rana, many big IPO’s are going to hit the market this year not only to beat the expected recession in the economy but also to encash the lofty valuation of their investee company – “The coming spate of initial public offerings in particular looks shaky. Uber’s chief executive Dara Khosrowshahi was all over Davos, talking up the company’s forthcoming initial public offering. But the talk had a whiff of desperation. Uber, along with Lyft and a host of other large, still-private tech companies such as Slack and Airbnb, are likely to try to go public sooner rather than later — not only because of worries about a coming recession and volatile markets, but because they have grown so fat on private funding, it is unclear whether the market will be able to sustain their valuations. (Uber’s, for example, is pegged at $100bn.) They want to get their money while the getting is good.”
Rana discusses how the new generation of entrepreneurs and VC funds are focussing on delivering unicorns at the shortest span of time and often at the expense of sustainable & profitable business model – “Over the past five or so years, there’s been a massive growth in the number of venture-capital-backed unicorns. Companies such as Uber, Lyft, Spotify, and Dropbox can lose money hand over fist, and yet still continue to grow in valuation. Indeed, it is all part of the new business dynamic.
Low barriers to entry result in many competitors and a race to spend as much as possible to grab market share. Not only do the private companies that emerge from this unproductive cycle become bloated, so too do the venture funds themselves. Billion-dollar venture funds, once unheard of, are now commonplace. Last year, Sequoia raised an $8bn seed fund, and SoftBank a whopping $100bn fund.”
Rana ends the article on a cautious note and highlights University of California academic notes which says “unicorns are mythical beasts” – “this may be good for some of the VCs who can use the inflated values of unicorns on their books to raise more money and charge more management fees. But I can’t see how it is good for economic value overall. Massive debt financing of unprofitable firms to create monopolies might benefit some entrepreneurs and investors, but it distorts capital and labour markets and is anti-competitive.
As long as investors are willing to accept growth as a metric for value, the music can keep playing. But as the University of California academics note, “unicorns are mythical beasts”. This year, their financial reality, as well as the sustainability of the current funding model, will be subject to some much-needed testing.
Some of the new crop of hyped-up companies may eventually turn into Cheshire cats, disappearing and leaving behind only the grins of those who got out before the bubble burst.”
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If you want to read our other published material, please visit https://marcellus.in/blog/
Note: The above material is neither investment research, nor financial advice. Marcellus does not seek payment for or business from this publication in any shape or form. The information provided is intended for educational purposes only. Marcellus Investment Managers is regulated by the Securities and Exchange Board of India (SEBI) and is also an FME (Non-Retail) with the International Financial Services Centres Authority (IFSCA) as a provider of Portfolio Management Services. Additionally, Marcellus is also registered with US Securities and Exchange Commission (“US SEC”) as an Investment Advisor.
