What is a Unicorn?
In finance, “unicorn” is a term that describes a privately-owned startup with a valuation of over $1 billion. The term was introduced by venture capital investor Aileen Lee in 2013 to describe rare tech startups that were valued at more than $1 billion.
The phenomenon of unicorns is quite controversial. Although some professionals believe that such companies are just a result of technological progress and innovation, others believe that the increasing number of unicorns is a sign of a bubble in the industry.
Valuation of Unicorns
The valuation of unicorns is derived from valuations developed by venture capitalists and investors who participated in the financing rounds of the companies. Since all unicorns are startups, their value is primarily based on their growth potential and expected development. The unicorns’ valuation is not strongly related to their actual financial performance or other fundamental data. Note that despite their abnormally high valuations, many of the companies have yet to generate any profits.
Valuing unicorns is a sophisticated process that involves the consideration of various factors and the development of long-term forecasts. Additional complications often arise due to the business models of such companies. Some companies become the first business of their kind in an industry, which makes the valuation process even more complicated.
Listed below are the top ten unicorns in the world, according to total valuation, as of November 2018 (source):
Reasons for the Abnormally High Valuation of Unicorns
The unicorns’ abnormal valuations are typically justified by the following reasons:
1. Fast-growth strategy
Nowadays, venture capitalists primarily rely on fast-growth strategies for a startup’s development. Such strategies encourage investing large amounts of money in every round of financing, in order to capture the biggest possible market share as soon as possible, as well as to prevent the emergence of major rivals in the marketplace. Therefore, a unicorn company’s valuation skyrockets every next round of financing.
Currently, many promising startups do not meet the requirements for an IPO. Instead, tech giants such as Facebook or Google acquire many startups to diversify their business and to prevent potential major competitors from arising in the marketplace. Large companies benefit from the deals because they are able to acquire developed technologies instead of building something similar from scratch. The intense competition among the tech giants causes them to offer a significant premium that boosts the valuation of target companies, creating unicorns.
Innovations in technologies allow the faster growth of startups. By leveraging the new technologies, unicorn startups manage to reach their customers faster and shorten the time required to achieve the mass production.
Thank you for reading CFI’s explanation of unicorns. CFI offers the Financial Modeling & Valuation Analyst (FMVA)™ certification program for those looking to take their careers to the next level. To keep learning and advancing your career, the following resources will be helpful: