The mythical stable of 150 "Unicorn" technology startups, supposedly worth $1bn (£670m, €920m) a piece, will compress in value in 2016, with at least one or two heading to the glue factory. Silicon Valley investment boutique Magister Advisors said Unicorns will have an aggregate valuation of $0.5 trillion at year-end 2015.
Fidelity's Snapchat write down and the Square IPO re-pricing are the valuation "iceberg tips", said Victor Basta, managing partner at Magister. Applying a Square-like adjustment to the Unicorn stable implies an aggregate overvaluation approaching $200bn.
Magister pointed out the vast majority of the 150 unicorns are high quality, sustainable companies; the problem is valuation not quality. Since many unicorns are funded to their next round, not to break-even, a large number can expect to be re-valued lower during 2016/2017 as they are forced to raise money. This will hurt the Series B and C investors and founders in these companies more than anyone, as they get squeezed between original angels with low in-prices and last round investors with downside shareholder protection.
Basta said: "Unicorns will raise less than they expect; layoffs are inevitable. Many unicorns have no choice but to begin managing to break-even, not to a next round or IPO. This means a hard look at staffing, and inevitably the weakest 10-20% of their workforces will be looking for their next job unexpectedly early.
"A unicorn (or two) will blow up in 2016 – Fab.com showed how to go from a $1bn value to a $15m fire sale in 12 months. While the story since Fab has been of successful exits like Twitter, WhatsApp, Tumblr and others, we believe at least one Unicorn from the e-commerce or FinTech sectors will follow Fab.com's 'exit route' into bankruptcy, either during 2016 or shortly after."
Basta believes a financing chill will cascade down to the mid-tier. He said the biggest losers of a decelerating market will be the "Unicorn aspirants" aiming to raise $15-50m at $100-500m valuations. As IPOs go quiet and Unicorns get marked down, these aspirants will only raise a fraction of what they seek, and will do so at lower valuations than their investors ever expected. If an aspirant hasn't already raised enough money to see through the next three years, they may well get caught in the storm, he said.
He added: "2015's extremism is setting the stage for a turbulent and unstable 2016. IPOs come in waves, and all signs point to a quiet sea next year. Interest rate rises coupled with macro/political uncertainty will give an already unsteady IPO market serious vertigo. Box, Theranos, and Square join a trend likely to continue."
Theranos is an American privately-held health-technology and medical-laboratory-services company based in Palo Alto, California. Square, Inc. is a financial services, merchant services aggregator and mobile payment company based in San Francisco, California. Box is an online file sharing and content management service for businesses.
Basta said 2016 will reflect years of poor tech IPO performance; since Facebook's May 2012 IPO, tech IPOs overall have returned only 7% in a period when the S&P 500 delivered 60%. "Public investors eventually tire of poor performance."
Magister predicts fintech payments and blockchain will be the most active segments going forward. This year has seen large financial institutions accelerate their pursuit of blockchain initiatives, and 2016 will likely become a "race to production" with vendors and FIs alike, vying to see who can be first to reap the benefits in actual deployment.
"Our views on the evolution of the space and potential investment opportunities are highlighted in our 2016 Bitcoin & Blockchain Landscape & Outlook. Payments has gone from 'boring' to 'disruptive' in a very few years, and we see a range of larger players from PSPs to alternative payments giants continuing to broaden their offerings as they seek to capture margin and customers."
PE versus VC
Magister further predicts private equity will represent 30%-plus of tech M&A activity above $100m. "The buyer group with $1tn of 'dry powder' is the group of PE sponsors. PE firms will continue to feature prominently in $100m-plus deals, and we expect these sponsors to deploy their capital aggressively as valuations re-set.
"Far fewer VCs will raise $100m-plus funds in 2016. It has become relatively easy for VCs in the US and Europe to raise $100m funds these last few years, as their investments have been re-priced up repeatedly. A softening valuation environment inevitably causes limited partners to rein back VC commitments, especially outside the US.
"Perversely, this will happen in 2016 even as VCs enter a far more attractive investment environment where quality companies will look for money at reasonable prices. We exit 2015 with an overall flat but worryingly cautious tech market.
"We expect to exit 2016 with valuations having reset, greater instability, and the key tech companies and investors being far more cautious about where they place their bets going forward. In other words, 2015's reality distortion field should dissolve back into plain reality – and not a moment too soon," Basta concluded.