March 18, 2015    5 minute read

Overinflated Tech Unicorns?

   March 18, 2015    5 minute read

Overinflated Tech Unicorns?

Any tech savvy investor will have recently seen the valuations surrounding tech firms such as Pinterest and Snapchat. This is interesting from one major perspective, the size of the estimates surrounding each company. The multi-billion dollar valuations over the last few years have sparked concerns by those on both the outside and inside of investment circles, which has led people to the idea that we could be in the middle of another tech bubble. Unicorns, which are ‘firms that possess a value of at least $1 billion,’ appear to be popping up all over Silicon Valley with disruptive technologies. This does not mean that these tech firms do not have some sort of customer value proposition, because they do. The point here is that these valuations may or may not be farfetched.

This whole process began possibly with the purchase of the video-streaming site, YouTube, by Google for approximately $1.65 billion in 2006. At the time the site was not recording a profit, and to this day it is still not doing so. Although the site recorded revenues of around $4 billion in 2014, it did not contribute to Google’s bottom line. Eight years after the acquisition you could argue from both sides that it was a good or poor purchase by Google. On the one hand YouTube’s user base is over one billion, revenue increased by one billion in 2014 from 2013, and of course there is access to Google’s database. However, the site faces large operational expenses, a primarily teenage user base and the threat of other social media sites offering streaming platforms, including Snapchat and Vine.

Of course YouTube is just one example, and if Google purchased it today, you would assume that it would be for a significantly higher price. Facebook purchased the messaging service WhatsApp, which has had some financial difficulties to say the least, for $19 billion in 2014. The service is free for one year, and a subscription of 99 cents per annum is subsequently charged. However, despite the fact that WhatsApp possessed 430 to 550 million active monthly users in the first six months of 2014, it produced a loss of $230 million on revenues of $15 million. Its estimated number of users for January 2015 was approximately 700 million.

Snapchat and Pinterest have been valued at $15 and $11 billion respectively after their latest rounds of capital raising. However, they are still in their early stages of generating revenue. Both tech firms could possibly introduce some level of advertising onto their platforms in order to gauge the user reaction.

One slight exception would possibly be Uber, but this is mainly due to the fact it profits by keeping approximately 20% of the fare, with the rest going to the drivers who act as independent contractors. The firm is expected to produce revenues of around $2 billion in 2015, but its rise could be halted by legislation in certain states and countries as well as by fellow competitors like SnapCar in France, which leaves one to ponder the $41 billion valuation. Nonetheless, it is clear to see that there is an absence of fear in Silicon Valley in terms of expanding and feeding the unicorns of the tech industry.

The valuations could prove to be problematic if a tech firm does eventually go public, or if it is acquired by a larger tech firm. This is because when these firms go public not only is there greater public pressure to demonstrate profitability, but also if the balance sheet performance does not match the valuations placed upon a firm by venture capitalist companies – this could reflect poorly on a stock. Of course venture capitalist firms defend their astronomical projections by saying that that they are based on market share and growth prospects for the start-up tech firms. Founders may also get caught up in the valuations, and if they do they need to be wary with regard to a future capital raise. If they are valued for less than previously thought then a down round can take place, which would lead other investors to question their valuations.

Taking all this into account, are we simply witnessing a repeat of the Dotcom bubble that occurred in 2001? It can be argued that we have not witnessed sufficient tech bubbles to fully acknowledge whether we are merely repeating the crisis that occurred at the beginning of the century. Of course the valuations over the last few years have raised numerous questions, but a tech bubble would imply that a large number of the firms in the industry, if not all are overvalued. Clearly these are highly disruptive technologies, and we could perhaps be confusing a possible bubble with the convergence of a high number of innovations and trends in a short space of time.

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