Why FinTech Startups Might Be Better Off Not Becoming Unicorns

The term unicorn was meant to highlight the uniqueness and rarity of a startup that reached the $1 billion valuation mark. Things have changed. As of September 12st 2016, there is a total of 175 unicorns worth a staggering $625B, worldwide. Not that rare anymore. But it is not just that there is less excitement when another startup obtains unicorn status, the whole talk about how much these companies are actually worth is giving investors headaches. Europe itself is currently home to 47 unicorns, with Spotify and Skype leading the way valued each at $8.5B, followed by Zalando at $8.1B.

Catching Up With Public Markets

While most of those companies have no doubt real value, the question remains if they are valuable enough to justify the amount of funding private markets have pumped into them. A new report published by SharesPost approximates that about a third of unicorns will eventually be valued at less than the $1billion mark. This means that most unicorns will remain at above $1 billion in value, but as many top investors feared, it also suggests the presence of overvaluation. 2016 saw the rise of 10 additional unicorns in the European landscape, but at the same time, 3 unicorns left the elite group.

One problem is that many unicorns remain private for much longer than they used to. In the meantime, their valuation grows and becomes unsustainable. Once they do go public, it turns out there is a mismatch between their private and public valuations. As a result, their valuation rapidly shrinks. The source of this mismatch is that public market valuations became too high, this then transferred to the private market. While public markets are correcting this overvaluation, there are many companies that managed to raise huge amounts of money from private markets. Naturally, once such companies go public, they will have to face this correction.

Overvaluation: FinTech Startups At Risk

The FinTech movement is also subject to overvaluation and this is becoming a problem. The reason this has become problematic is that the startups are becoming too expensive to be purchased by established companies, and they often lack a good enough business model that would make them ready to go public.

So what are the options? Some are hoping to be bought by tech giants like Microsoft, Apple, Amazon and the likes, however this is unlikely to happen. As Uday Singh, a partner consultant for AT Kearney Ltd. puts it: “We’ve been waiting for a tech company type of entrant for some time, and that’s certainly a possibility,” the problem is there are “barriers that the tech companies have to this is that the financial services area is so highly regulated that they are not used to the compliance they would face.”

But since the odds are against such a thing happening, the other option is to be sold at a much lower value. While not in FinTech, there are plenty of examples of former unicorns being bought for much less than $1 billion. One example would be Gilt Groupe Holdings Inc. which was eventually bought by Hudson’s Bay Co. for only $250 million.

All this suggest that while obtaining enough funding for a startup is essential for its success, too much funding might not be the best way to go and it may even hurt it. Startups might be better off focusing on other things, rather than on trying to reach a valuation of $1 billion to refer to themselves as unicorns.

Sam Altman, president of Y Combinator told the New York Times: “Do I think too much money can kill good companies? Yes.” Sounds surprising, but it is something worth meditating on as a startup, especially when setting your priorities. As we have seen, achieving a valuation that is too high can bring its own problems. Reaching unicorn status most definitely does not guarantee long-term success.

 

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