Congratulations! Your startup is now valued at more than $1
billion!
This might seem exciting, as though you had won the lottery. But
there is a catch.
Being in the Billion-Dollar Startup Club limits how, and
whether, a company can get out of the Billion-Dollar Startup Club -- at least safely.
The club is growing quickly. Based on recent financing rounds and
stories about the companies, Twitter is valued at $8.5 billion;
LivingSocial at $5 billion; Dropbox, $4 billion; Square, $3.25
billion; Spotify, $3 billion; Rovio, $3 billion; Airbnb, $2.5
billion; Pinterest, $1.5 billion; Box, $1.2 billion; Gilt Groupe,
$1.1 billion; and Evernote, $1 billion.
Dozens more companies are within arms' reach, including
Foursquare, WordPress, GitHub, Quora and Fab.
They have a lot to worry about. First, when you are the most
expensive product on the shelf, very few companies can afford to buy
you. Apple, Google and maybe Microsoft are on a short list of
corporations that could finance an acquisition of this size.
Given that Apple rarely makes acquisitions, that leaves Google,
Microsoft and possibly Facebook.
And speaking of Facebook: after its lackluster initial public
offering, when its stock dropped by half, going public is not very
appealing.
Groupon, valued at $12.65 billion before its public offering at
$20 a share, is now trading at a mere $2.98. Zynga, another member
of the Club, is now $2.21 a share, down from a high of $15.91 this
year.
"As a startup valuation increases, the options definitely
decrease," said Jon Callaghan, a partner with True Ventures who has
been investing since the early 1990s.
When you are valued at more than $1 billion, he said, "you have
to have a flawless execution, as it's upping the ante quite a bit."
Some of these companies' valuations might be justified by revenue
and growth. DropBox, for instance, has an estimated $500 million in
revenue and 100 million users. Others, like Pinterest and Fab, are
as overhyped as Pets.com was in Tech Bubble 1.0.
If these companies are deemed overvalued, they may have no option
but to perform so-called down round investments, in which a round of
private financing prices a company at a lower valuation than a
previous investment.
That almost happened to Spotify, the music streaming service. In
May, the company was ready to close a round of financing that would
have valued it at $4 billion.
Then Facebook stumbled, and Netflix, which is the closest example
of a subscription-based online service like Spotify, did so as well.
Spotify finally closed a round this month that valued it at $3
billion -- $1 billion off its projected valuation just six months
ago.
"You certainly have more options at the $10 million valuation and
a lot more paths you can go down," acknowledged Aaron Levie, chief
executive of Box, a corporate cloud storage start-up. "But there's a
virtue to having less options, in that it gives us the ability to
focus, and our visibility of what we need to do is much clearer."
Start-ups with higher valuations can also run into trouble when
trying to attract new talent. If an engineer joins a company valued
at $10 million that grows to $1 billion, there is an opportunity to
get very rich. That is not the case when joining a company already
valued at 10 figures that might slip to six or seven figures.
As for the possibility that Facebook's stock performance might
affect other IPO's, Mr. Levie said this could actually help start-
ups by allowing them to stave off investors and focus on their
business models.
"Ultimately, it shouldn't be anyone's goal to go public; this is
just a financing event to create liquidity for investors and
shareholders," he said. "I'd be remiss if I didn't mention that
there are 8 to 10 companies that make $1 billion acquisitions in the
enterprise space. It's mostly the consumer space where this becomes
less probable."
He added, "There you really only have one suitor: Google."
Sometimes joining the Billion-Dollar Startup Club is not really
as much fun as it might seem.
