The unicorn, of course, is the legendary animal rarely seen and difficult to capture. Unicorns are not just part of mythology anymore, however. In fact they are more common than ever. The unicorns I’m referring to are not the beasts with the large pointy horns projecting from their heads. They are the stuff of legend now found in the private market in the fantastic realm of venture capital. According to Aileen Lee of Cowboy Ventures who coined the term, these are the technology start-up companies who have reached valuations of $1 billion or more. Ironically, this myth may be morphing into valuation fantasy.

According to Fortune magazine, as of January this year, there are more than 80 start-ups that have been valued at $1 billion or more by venture capitalist firms. A herd is forming. The question one should ask is whether these sky-high valuations are justified. Some, in my opinion, seem to defy reality. Car hailing company Uber (now valued in excess of $40 billion), has recently begun an attempt to raise an additional $1.5 billion at a valuation of $50 billion.

This indicates its value has jumped some $10 billion in a matter of months. Some of course will think Uber’s value is justified given it is an incredibly disruptive company that is expanding everywhere and is becoming the “taxi company” for more and more Americans. But let’s take a step back and review.

Garrett Camp and Travis Kalanick founded Uber in 2009 and have expanded to about 300 cities in 57 countries. At a $50 billion valuation, Uber would have a market capitalisation greater than 80 per cent of the S&P 500 index. It would be more valuable than FedEx, General Dynamics, Target or Delta Air Lines. If I had a cab company, I would rush to go public to try and muster just a fraction of that valuation level!

Supporters of Unicorns suggest this time is different. They argue these companies actually have customers and revenues, not like in the Dot-com bubble days. The Dot-com era was one in which the public clamoured in on companies with suspect business models and were haemorrhaging cash. Federal Reserve Board chairman Alan Greenspan described it at the time as “irrational exuberance”. At least this venture capital surge is focused on many companies that do have more legitimate business models and strong potential earnings growth. The risk, however, appears to be that valuations are getting stretched and the funders have a tinge of desperation. Some venture capital partners have been quoted as suggesting that you HAVE to play or you’ll miss out. Sounds eerily familiar to Chuck Prince (former CEO of Citigroup) quote of “having to dance while the music is playing”. In fact, it seems to be almost too easy to raise money in venture capital land.

Regardless of your opinion on value, it’s worth noting that investments are being made. There is a lot of lamenting by economists that capital expenditures and corporate investment is low and anaemic. In technology land, at least, funding appears solid and is pushing forward a series of incredibly disruptive and innovative companies. While the US financial markets are great for promoting and funding innovation, investors need to be aware that a venture capitalist will demand a high premium when the Unicorns are taken public. While they may be great companies, they may not be great investments at certain prices as we have seen with Twitter, LinkedIn, Groupon, Baidu and Zillow over the past three months. Gains can quickly turn to significant losses if the exuberance of the six-year bull market turns to rational valuation. Remember that lore portrays the unicorn as a wild and fierce mythical creature impossible to tame by man. Nathan Kowalski CPA, CA, CFA, CIM is the chief financial officer of Anchor Investment Management Ltd and can be reached at nkowalski@anchor.bm.

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