Silicon Valley’s ‘risk bubble’

MW-DH812_unicor_20150317101504_ZHNEW YORK (MarketWatch)—At the South by Southwest festival last weekend, venture capitalist Bill Gurley again warned of bleak times to come for investors and startups.

“I do think you’ll see some dead unicorns this year,” he said, according to Fortune. The unicorns he’s referring to are not the mythical one-horned animal illustrated above, but rather startups with a valuation of at least $1 billion.

According to The Wall Street Journal’s analysis, there are currently 78 companies that fall into the unicorn club, including heavyweights such as ride-sharing service Uber, with a $41.2 billion valuation, and software company Palantir with a $15 billion valuation. There were just 41 a year ago, according to the Journal.

Unicon club
Gurley, an investor at Benchmark which has Uber and Snapchat in its portfolio, said the current situation in Silicon Valley is a “risk bubble” in which employees and investors are willing to invest time and money into unprofitable startups. Snapchat, for example, has a $15 billion valuation based on its various funding rounds, but is still working on ways to actually monetize its platform.

Part of the risk bubble, Gurley has said, are venture-capital firms contributing funding to private startups’ late rounds–and behaving as if the startups had already gone public. They are funding companies without being able to truly scrutinize the financials and evaluate how the company might perform as a public entity.

Last year was a bit bumpy for some tech companies. Box Inc. BOX, -0.64% delayed its highly anticipated initial public offering until this January due to market conditions and investor concerns about the company’s high spending rate. Wearable camera-maker GoPro Inc. GPRO, +1.04% went public in June, but its shares have been on a roller-coaster ride ever since, falling to $40.25 on Tuesday from their closing high of $93.85 on Oct. 7.

But Ben Lerer, managing director of Lerer Hippeau Ventures, said investors perceive great value in these companies and that is why they are willing to contribute so much funding.

“I think that the most sought-after businesses are probably in some situations too sought after, and the valuations are frothy,” Lerer said. “But I think a lot of that is driven by late-stage West Coast investors who were competing with one another.”

Max Wolff, chief economist at Manhattan Venture Partners, said some of the valuations are indeed “aggressive” and that money will continue to pour in in the short term. But those valuations may come down once these large startups actually get to the point of launching an IPO, taking some of the wind out of the market.

However, when things die down, he said he believes the high-valued companies will survive. Instead, it will be the “reasonably valued” companies that suffer.

“My fear is for the guys one rung below,” Wolff said.

By Caitlin
Huston, Reporter
Published: Mar 17, 2015 4:37 p.m. ET