By: Taryn Cunningham, Troy Valuations
In Silicon Valley, Unicorns are not mythical horses with spiraling horns. In the tech vale Unicorns are startup companies that boast a $1B valuation. Once a rarity, Unicorn startups are now more prevalent than ever. Even crazier, a new term has arisen, Decacorn. The Decacorn startup has a valuation of over $10B! Are they actually worth that or are they over-valued?
Most recognizable Unicorns and Decacorns:
Valuing a startup can be challenging as they’re usually trying to develop a unique idea or technology and often have to create a market for their product or service. Silicon Valley startups are fast-growing, usually unprofitable, and have complex financial structures. One major problem is post-money valuations: this problem is created when the price of a late series equity fundraising round is applied retroactively to all prior equity fundraising series.
I’ll use Anthony Mirhaydari’s research to explain:
Square: A Point of Sale and payment app:
In 2014 the company raised $150M by issuing 9.7 million Series E preferred shares for $15.46 each.
Terms to these shares included, in the event of:
Successful exit – the Series E preferred shares would receive the same as common shares previously issued; or
Things go poorly – Series E shareholders were promised at least $15.46/share in liquidation or acquisition and at least $18.56/share in an IPO. (sidenote: Square IPO’d at $9/share)
Post-money valuation of $6B = $15.46 x 388M (all shares outstanding)
So why was it valued using $15.46 when only 9.7M of the 388M were issued at that price? The Series A common shares were priced around $3 per share. Subsequently share issued, were priced at escalating rates, and now all lumped in with $15.46 per share round.
Investors, entrepreneurs, employees, etc. all want to see the value increase, so why would they lower their value to be more ‘accurate?’ However, we must remain aware when things sound too good to be true.
For further information, I recommend reading Stanford professor Ilya Strebulaev and UBC professor Will Gornall’s research on Unicorns for a more in depth analysis, they conclude that most Unicorn startups are 48% above fair value.
Gornall, Will and Strebulaev, Ilya A., “Squaring Venture Capital Valuations with Reality” (Dec 2, 2019). Journal of Financial Economics (JFE), Forthcoming, Available at SSRN: https://ssrn.com/abstract=2955455 or http://dx.doi.org/10.2139/ssrn.2955455