Are We Struggling To Value Unicorns?

We’ve abandoned time-honored valuation techniques from the past because they didn’t work for new rapid-growth, tech-driven businesses. But what if the new rule book was equally inept?

As a lover of technology, creativity and great business ideas, I should feel more optimistic about the near-term future than I do.

We have many companies, like Uber, Airbnb, TransferWise, Seamless, Kayak, Facebook and perhaps even Twitter, that are widely loved or used, have created clear consumer value and show all the signs of a prosperous and stable future. They may be burning cash, they may not be churning out profit from their user base, but it’s clear to envisage a world in which they hold defendable, profitable business for the medium term.

Yet we rarely see how these companies could be exceptions, rarities that fuel the frenzy more than statistically significant proof points. Are these the startup versions of large winners checks for the lottery, a photo shoot to lure in others? We don’t see a Vegas trip as an investment exercise because we heard tales of people winning big.

I worry that the current valuations of companies reflects dubious enthusiasm in anything coined a “startup.” Back in the 1980s, bootstrapping was trendy — it was how companies that couldn’t secure a bank loan started. Before it was trendy, an early stage business was a sign of precariousness and vulnerability, not untapped potential. Why is something new like Vice or Shake Shack or GoPro more densely valuable than companies with a pedigree and reputation like The New York Times, McDonald’s or Sony.

I worry about the ignorance of the value created by startups. I’m concerned about the insane stimulus pumped into the top tiers of the market, and the fact that the market’s low interest rates and dubious outlooks for growth in equities and property mean that everyone is looking for a way for growth — and almost forcing it where it doesn’t belong.

For all the talk of the bubble, something we‘ve loathed to access is we have simply NO idea how to value companies in the modern era.

Old-world valuations were based on historical benchmarks. Old-world economics were based on long-term, slow to move, rational, solid, widely understood metrics. It was a world of measuring assets, sales, profits, unique relationships, long-term contracts, employee numbers, property, IP etc. It was based on the empirical knowledge of ratios honed over centuries of work, benchmarked to categories and to markets. There was a degree of science and precision.

Ripping Up The Rulebook

The digital age has disproven this rule book for a range of companies; we‘ve seen or Groupon or Facebook scale faster than anyone ever thought possible. It’s clear the playbook for investing misunderstood the speed at which Facebook could become a global media owner, or how Google could create a whole new form of advertising revenue, or how social gaming for King could unleash profitability like a wave.

But the same companies that ripped up the rule book seem to have created a new rulebook by their extraordinary (and that means atypical) success. I’m not sure how disproving a rule with an exception should at the same time create new rules.

The future now, more than any other time, is simply impossible to predict.

We‘re now in a world where “every company is a software company,” or “if you’re not a startup you’re a turnaround,” which sounds so good, and feels so 2015, that we tend to ignore that it’s not in any way accurate. Is your trusty local golf club a startup or a turnaround? Is Amazon still a startup? Is Crate and Barrel really a software company? What about Coca-Cola or GlaxoSmithKline?

Like 1999, we have this pervasive feeling that this time everything is different and the lessons we‘ve learned from Google and the website du jour should be applied to everything new.

A New Valuation System

Companies’ assets are ignored; even IP, staff numbers, customer bases and profit are all ignored — these are crusty, old-fashioned benchmarks of the past.

Instead, user growth trumps all. The ultimate metric for Silicon Valley is how many people use the service, not customers (people who pay). We‘re giant cathedrals to the new valuation metrics, most of which can be found looking at a list of Unicorns.

In 2015, we have Snapchat “worth” $16 billion, with revenue of, at the most, $50 million, while The New York Times is “worth” $2.2 billion, with revenue of $1.57 billion.

We have Business Insider selling for $442 million, BuzzFeed valued at $1.5 billion, Vox at $1 billion, Vice at $2.5-4 billion — all based on their user growth, not on any forms of decent profitability.

It seems to me this is how we now look at things, and being justifiable isn’t the same as correct.

If you’re Pinterest or Spotify or WhatsApp or Slack, the user base, the founder’s experience, the brand, they all make sense.

But should GoPro really be measured like Facebook and not like Sony? After all, it does sell Cameras like Sony. Should Shake Shack be valued like high-growth McDonald’s or like Snapchat? Should Blue Bottle Coffee be valued the same way as Slack? Or should it, I don’t know, look to Starbucks? Do we really expect profit margins to follow the high-cost world of renting coffee shops? Or the high-profit world of software?

And have we learned anything from the past? For every Slack or Box or Facebook there is a failure we‘ve forgotten about because we‘re took busy looking forward.

From Groupon to Gilt, to King, to Zulily, Tumblr to Ello, Yo to Nextdoor, the world isn’t short of the next big things that never were, with no assets to liquidate, no brands to sell, to IP to license.

My point is not that we‘re wrong, it’s not that valuations are incorrect or that we‘re in the B of the Bubble bursting. It’s that the future now, more than any other time, is simply impossible to predict — we have no rule book.