At What Point will a Unicorn’s Horn Pop the Tech Bubble?

By Joseph P. Glackin

Young startups with little to no assets are raising multi-million rounds of financing with goals of becoming the next “unicorn.” A “unicorn,” in the business realm, is a startup company that has been able to achieve a stock market valuation or estimated valuation of over $1 Billion, despite having little or no established performance records.[i] Globally, there are currently over 200 companies that have been able to claim this mystical tag.

Many start-ups who have surpassed the $1 Billion “unicorn” benchmark have been able to obtain the rank of “mega-unicorn” by achieving valuations of over $10 Billion. Some of these “mega-unicorns” include the well-known Airbnb (with a valuation of over $30 Billion), Uber (being valued at over $60 Billion),[ii] and Snapchat (with a valuation of $25 Billion despite its cost of revenue for both 2015 and 2016 being more than its actual revenue coming in).[iii]

With the NASDAQ and S&P at all-time highs, the market continues to have a bullish outlook. This sentiment fuels a positive investment environment, continually pushing the valuations of private tech companies and corresponding investments to new levels.[iv] This means that when the market is high, valuations will often be high as well. However, more often than not, these valuations are artificial at best.

Venture capital funds with billions to invest are pumping what seems to be unlimited funds into this unprecedented investment climate, creating a breeding ground for the aforementioned “unicorns.” In the past, venture capital funds were considered big if they held over $500 million, but times have changed significantly. Exemplifying this fact, venture capital funds raised over $12 Billion in the first quarter of 2016, reaching a 10-year high in the process.[v]

However, as the popular phrase goes, “if you mess with the bull you’ll get the horns.” The market has been messing with the bull for too long, so it is only appropriate to prepare for the horns. The same can be said for the unicorn, known for its mythical horn. This can only mean bad things for the ever-expanding tech bubble. Ben Gurley, a partner with Benchmark Capital who spearheaded the firm’s successful investment in Uber, has compared the current “tech-funding climate to the mortgage industry’s precise embrace of collateralized debt obligations,” and those who lived through 2008 all know how that ended up.[vi] Because of these negative outlooks, many people are beginning to question what implications Snapchat’s soon to be IPO will have on the market and other infamous “unicorns.”[vii]

The Snapchat IPO

            Snapchat, a popular image messaging and multimedia application, is poised to go public in March of 2017. This impending public offering has been in the limelight since the company’s founder turned down a $3 Billion buyout offer from Facebook in 2013. Snap, the parent company of Snapchat, made its confidential IPO filing with the SEC back in November of 2016.  The IPO is expected to raise around $4 Billion for the company, resulting in an overall valuation of $25 Billion.[viii] This would make the Snapchat IPO the largest U.S tech company offering since Facebook back in 2012.[ix]

Companies, such as Snapchat, go public for a variety of reasons. These reasons, among others, include a means for raising capital and a way for investors (including venture capital funds), executives and employees to cash out and realize some or all of their gains in their investment.[x] It also allows companies to gain credibility among the public, and within their industry, by showing they were able to meet the rigorous disclosure requirements set forth by the SEC.

A company going public also has a variety of other benefits. Because the true value of private stock is often difficult to determine (especially for tech companies), going public allows shares to be priced in the market, thus providing another method of valuation for the company. These market valuations could cause a lot of trouble for tech companies that might not meet inflated future expectations.

If Snapchat’s IPO goes well and shares meet or outperform price expectations many “unicorns” may follow suit. If successful, many other tech companies may follow in order to achieve the same results. Other “unicorns” expected to join the IPO stampede in 2017 are Spotify (a popular music service provider), AppDynamics (a software maker), Palantir (a software analytics company), and Pinterest (another popular social network). It will be important to see how other “unicorns” perform in the public market in the wake of Snapchat’s upcoming offering.

However, if Snapchat’s IPO happens to go poorly because of the company’s apparent (in my personal opinion) overvaluation, it may lead to the market losing faith in the IPO as a viable exit route for future “unicorns.” For this reason, it will be very important to see how Snapchat’s shares perform out of the gate. If expectations are not met, and shares plunge in value, many similar IPOs may be put on hold, much like “mega-unicorns” Uber and Airbnb have already decided to do.

Artificial valuations for young companies and start-ups, most of which may be operating at a loss or making no money, are continually pumping hot air into the current tech bubble. With their sharp horns, a unicorn such as Snapchat may not meet their valuations and pop this bubble. This would likely result in calamitous consequences for the global market.

The infamous burst of the dotcom bubble of 2000 was triggered by the sudden collapse of companies in the market, and had a multitude of far reaching repercussions. Many argue, including myself, that the unforeseen valuations of new age tech companies through private offerings are the current trigger, and “unicorns” like Snapchat looking to go public are holding the gun.

            If this tech bubble were to burst we would likely be lead into a period where investment firms begin to scale back on their investments. This would cause difficulties for many start ups looking to gain traction and obtain initial funding rounds.

To leave this at a cliffhanger, we are currently at a crossroads; will Snapchat’s IPO lead to a stampede of unicorns, or a bursting tech bubble where inflated valuations crash back down to reality?

[i] http://www.investopedia.com/terms/u/unicorn.asp

[ii] http://www.telegraph.co.uk/business/2016/10/22/snapchat-is-pumping-the-next-tech-bubble-with-more-hot-air/

[iii] http://fortune.com/2017/02/07/everything-to-know-about-snaps-ipo/

[iv] https://techcrunch.com/2017/02/01/the-top-unicorns-are-overvalued/

[v] https://www.bloomberg.com/news/articles/2016-10-20/the-tech-bubble-didn-t-burst-this-year-just-wait

[vi] Id.

[viii] http://www.investors.com/news/technology/will-snapchat-ipo-set-stage-for-stampede-of-unicorns/

[ix] Id.

[x] Id.