Private Valuations Aren't Grounded in Reality, Study Finds (bloomberg.com)

Unicorns aren't real, and neither are the valuations ascribed to many of the startups that say they're worth $1 billion or more, study finds. From a report: About half of private companies with valuations exceeding $1 billion, known as unicorns, wouldn't have earned the mythical title without the use of complex stock mechanics, according to a study by business professors at the University of British Columbia and Stanford University. The tools used to negotiate a higher share price with investors often come at the expense of employees and early shareholders, sometimes drastically reducing the actual value of their stock. The chasm between public and private valuations is a topic of increasing prominence following several disappointing listings. Among them is Blue Apron Holdings, which is trading well below the price venture capitalists paid in the last fundraising round. An often-overlooked explanation for the divide is buried in investor contracts. Blue Apron, which delivers meal kits to customers, gave stock preferences to Fidelity Investments and other backers in 2015 in exchange for a $2 billion valuation. The shares included a provision to receive additional equity if an initial public offering is set below a target price. Investors took advantage of the mechanism after Blue Apron's mediocre IPO.

Comments

It's the economy, stupid

[grasshoppa]

What is "reality" anyway? Economies are built on nothing more than perception; on the small scale, how much widget X is worth to person Y. On the larger scale, it's run by "feelings" ( how much I feel this company will make long term ).

Sure, we dress it up with pretty graphs and we all stand around in serious suits pretending we know what the hell we're talking about, but any economist will tell you it's all about perception and mood.

The best we can hope for is rationalizing after the fact.

The only reason economists' predictions don't have the same reputation as a meteorologist is because, generally speaking, we are all on the same bus and want to get to the same place ( more money. Hello greed! ).

Re:It's the economy, stupid

[Actually, I do RTFA]

The only reason economists' predictions don't have the same reputation as a meteorologist is because

What a strange way to phrase it. Economists projections are regularly questioned, and the weather is well predicted on a 3-day, annual, and long term scale. Now, you get different granularities, but I find precipitation prediction works well on a 3 day scale, it does tend to be warmer in summer than the winter, and most years are the hottest years on record (lately).

Weather benefits from the fact that clouds don't change behavior because we talk about them.

Re:It's the economy, stupid

[monkeyxpress]

That's not how it is meant to work though. The idea behind the 'worth' of widget X is that it is at least marginally comparable to some widget X2 produced by a different competitor in the market. Each competitor tries to find a way to make their product worth slightly more than their competitors or for a cheaper cost, and the customer ultimately decides whether they agree with that effort. However, if each competitor cannot do that, then prices simply fall to the cost of manufacturer/supply plus a profit margin at which potential new competitors find other opportunities more attractive. That's supposedly the idea anyway.

As for the value of a business, well the price is actually quite well defined - it should be an appropriate amount of return above the risk free rate of return (basically what you can get on a government bond) based on the the business' income producing ability/potential and the risk of it meeting that potential or going under. Of course there is a level of perception around the 'risk' there, but in normal times, it would be quite easy to define some reasonable upper and lower limits for a business' value, and you can then start working from there.

The problem with all these quite reasonable value finding mechanism is that they assume that money is some sort of scarce commodity that investors/customers are wary of wasting. That ceased to be the case sometime in the 1990s when the financial industry was deregulated. After many years of creating rubbish credit (which creates money) all that credit got shown to be the garbage it was by successive financial crises, and governments responded by bailing everyone out and driving interest rates down to make that debt 'sustainable'. Now interest rates are broadly negative, and we wonder why there is no rationality to asset valuations any longer. The bankers know that as long as they stay away from anything that will affect the inflation goods basket, they can run bubble casinos on whatever other assets they want. And frankly, many regular folk are quite happy to join in the game while they are winning.

My guess is that at the next crash they will just ban cash and implement aggressively negative interest rates. We can probably get another 10 years out of running 1-3% negative nominal rates (with the continual promise that it is an emergency measure). After that, I think people will just bail on fiat currency again like they normally do. Crypto-currencies have shown that we can come up with working alternatives that meet our modern transaction needs if it really comes to it. It will take a big shock though, but I'm sure the bankers will get us there in the end.

Re:And the sky is blue...

[Anonymous Coward]

Yeah, the only surprise to me is that it's only half of unicorns that are overvalued into the status.

Re:And the sky is blue...

[Mashiki]

Who really believes the valuations given by these firms that just want someone else to buy them?

Suckers. Nothing more. Look over the last 10 years of all the tech companies that pre-IPO were valued more then companies which had physically manufactured products. Twitter is probably one of the best examples, and at one point was valued more then General Motors. Uber was valued more then Intel. Yeah, nothing but suckers.