Key ingredients for unicorns’ success
Stable industries that have traditionally been dominated by entrenched leaders are rapidly being disrupted by a new class of market actors — unicorns, privately-held multi-billion dollar startups which are often less than 10 years old and powered by revolutionary ideas. The speed and size of disruption is phenomenal, thanks to nearly 240 unicorns, with cumulative valuation of more than $800 billion, operating globally.
Mostly driven by technological advancements and clever go-to-market strategies, these companies have emerged as the new engines of innovation, welllubricated by a glut of private capital. While unicorns are often unique in their value creation, there exist certain commonalities to their success story.
At its core, a unicorn is powered by a disruptive idea that essentially targets an unmet market need, which was underserved or neglected by incumbent industry leaders, thereby creating a niche opportunity for themselves. They are successful in creating value for their end-users by providing more options and enriching their overall experience through convenience, sophistication and ease.
For example, Uber has never been a cheaper way of hailing taxis but a rather more convenient method of transportation. Similarly, Airbnb offers personalised lodging experience for its customers while companies like Netflix and Amazon provide integrated content, breaking the conventional geographical and cultural barriers.
Moreover, unicorns are flexible and adaptable to changing market realities, which allows them to deliver right products at the right time, thereby creating a passionate customer base and harnessing the power of network effect.
In addition to a disruptive idea, almost all unicorns are committed to rapid growth and willing to lose money hand over fist to achieve this. They usually take years to reach profitability and the focus is always on building a brand and a customer base rather than short-term profits. For instance, Uber, one of the world’s most valuable startups, reportedly lost $4.5 billion in 2017 while Dropbox lost more than $600 million in the last three years. Similarly, Airbnb, which operates on a commission-based business model, took nine years to post its first annual profit. Behind such losses, the underlying strategy is to scale quickly, grab market share and crowd out competitors.
Another key characteristic common to most unicorns is their usage of data as a primary asset and their ability to monetise it. For example, consider Uber, the world’s largest taxi company, owns no vehicles; Facebook, the world’s most popular media owner, creates no content; Alibaba, the most valuable retailer, has no inventory; and Airbnb, the world’s largest accommodation provider, owns no real estate. These companies are experts in leveraging data analytics (including Big Data, machine learning, etc.) to uncover new business opportunities and revenue streams, improve operational efficiencies and offer delightful customer experiences.
The fund-raising pattern of most unicorns also exhibit certain commonalities as they are usually backed by a short list of prestigious firms (likes of Sequoia Capital, Tiger Global Management, Tencent Holdings, Accel Partners, SoftBank Group, etc.) who have previously invested in similar ventures (valuable, unprofitable startups). These firms understand the distinctive fund-raising requirements of unicorns (compared to other private companies) and have a proven track record of mentoring them through rapid growth cycles to an eventual exit.
Moreover, the firm’s reputation for selecting winning startups acts as a major draw for future investors at higher valuations. Interestingly, a lot of these fund-raising deals include a liquidation preference, which allows certain investors to get paid (in-partial or wholly) ahead of other parties such as founders or management, in the event the company is sold. Even in case of IPOs, investors often demand a minimum IPO price (higher than the valuation they paid) or additional shares (if the IPO price was lower). Such funding arrangements significantly reduces the risk for investors while facilitating fund-raising for unicorns.
For instance, the top 10 most valuable unicorns were worth a combined $122 billion in 2017 and had taken on a combined $12 billion in invested capital. With liquidation preference, the valuations would have to fall by almost 90 per cent before their investors suffer any financial loss.
Clearly, we have entered a new era where disruptions are the new normal and unicorns are the facilitators of this disruption. Irrespective of the industry, these companies continue to create additional value for their investors and end-customers on back of innovative business models that deliver exponential growth.
The writer is founder and CEO of Al Masah Capital. Views expressed are his own and do not reflect the newspaper’s policy.