Unicorn Herd Threatens Silicon Valley, Warns VC


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The age of Unicorn investing has led to alarming overvaluations of startups that could result in an afterparty roll call not seen since 1999, Silicon Valley VC Bill Gurley warned Thursday.

Gurley, a general partner at Benchmark, raised a red flag over the large number of tech startups valued at more than US$1 billion, and suggested that the rise of Unicorn fundraising has put the financial health of the industry at risk.

"The pressures of lofty paper valuations, massive burn rates (and the subsequent need for more cash), and unprecedented low levels of IPOs and M&A, have created a complex and unique circumstance that many Unicorn CEOs and investors are ill-prepared to navigate," he wrote.

A February 2015 Fortune artice, "The Age of the Unicorns," mentions more than 80 startup firms with valuations above $1 billion, Gurley noted.

However, that figure had exploded to 229 companies by January 2016, he said, due to the ease of the Unicorn investing process.

There's a perception that the aggregate shareholder value created by all the Unicorns will overshadow vastly the losses of the inevitable Unicorn failures, Gurley said, with "transformational" companies like AirBNB, Snapchat, Slack and Uber providing a sense of comfort.

However there's no Unicorn index to buy, and most investors' participation is keyed to specific company performances, he pointed out.

The tipping point may have occurred last fall, when The Wall Street Journal published an investigative report on blood-test technology firm Theranos, Gurley suggested. It served as an example of how startup firms can raise millions of dollars, while lacking the internal success to back up that investor confidence.

Theranos currently is under investigation by the Securities and Exchange Commission and the U.S. Attorney for the Northern District of California, according to multiple reports.

A month later, the WSJ ran a story on Zenefits, which reached a valuation of $4.5 billion before running into turbulence when grim reality set in. Its aggressive revenue targets were not met, and cost cutting weakened the firm internally.

Gurley has sounded the alarm about a potential dot-com bubble with pre-IPO -- not post -- implications, observed Rob Enderle, principal analyst at the Enderle Group.

One result is that he's become enmeshed in a bit of a social media war with Marc Andreessen, who has dismissed Gurley's assumptions, Enderle told the E-Commerce Times.

Taking Andreessen's history with Netscape and other ventures into account, Enderle was inclined to side with Gurley's concerns about the environment, he said.

"It has been a recurring problem to overfund interesting companies, because it is easy to sell folks on the idea and everyone wants a chance to invest in the next Facebook," Enderle remarked. "These things become very much like Pyramid schemes over time and incredibly dangerous for inexperienced or overeager investors."

Gurley is not alone in expressing concerns about the investment climate for startups, noted Charles King, principal analyst at Pund-IT.

However, the exposure is much more contained than it was during the Nasdaq's rise in the late 1990s, he told the E-Commerce Times.

"I believe there are some similarities, particularly as regards to 'me too' startups whose claims rest on developing apps or products that emulate the work of other successful companies," King said.

The new Silicon Valley generation already has seen its share of failures, ranging from Quirky to Homejoy, Fab.com and Secret.

There are sharks circling while startups burn through cash and then later have to accept rounds of financing under conditions that amount to dirty terms, Gurley warned, ranging from guaranteed IPO terms to liquidity rights.

For the most part, startups have been able to avoid that kind of pressure in the early rounds of financing, noted Gary Spivak, research director at Gartner.

"Generally speaking, early stage technology investors have typically been patient when it comes to profitability and cash flow metrics, preferring to see growth," he told the E-Commerce Times. "If the funding mechanism for these startups were to dry up, then they would likely be forced to change their operations to reduce cash burn, or they could run into financial difficulties."

David Jones is a freelance writer based in Essex County, New Jersey. He has written for Reuters, Bloomberg, Crain's New York Business and The New York Times.

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