In the world of investing, a growing number of startup companies have reached billion-dollar valuations; they’re called unicorns. These companies can go on to be stock market behemoths. Former unicorns include Alphabet (then called Google), MetaPlatforms (then Facebook) and Airbnb Inc. But they can also go down in bankruptcy flames as happened to WeWork and freight company Convoy. Needless to say, investing in unicorn companies comes with great risk, but also potentially great rewards.
What does it take to be part of this club, and should investors put funds behind them? Let’s start with the basics.
What is a unicorn?
A unicorn is a privately held startup company with a valuation of $1 billion or more. The term surfaced in the last decade when Aileen Lee, the founder of a Palo Alto–based venture capital fund, wrote an article about 2000s tech startups and found that less than 1% of them had reached billion-dollar valuations. She coined the term to capture the elements of alchemy and great timing required for a unicorn to arise.
It took today’s unicorns an average of seven years from founding to reach the billion-dollar valuation level. But unicorns in the generative artificial intelligence (AI) space achieved it in less than four years on average, with some reaching $1 billion in less than one year.
While to qualify as a unicorn, a company must be valued at least $1 billion, these companies can have much higher valuations. For example, the current list of unicorns includes two companies valued at more than $100 billion, called “hectocorns” or “super-unicorns.” ByteDance, the company behind TikTok, is a unicorn valued at $250 billion, and Elon Musk’s SpaceX is valued at $150 billion. Facebook was the first unicorn to reach “super” status.
You could call 2021 the year of the unicorn as it saw a boom in tech investment amid the pandemic. Almost 540 new unicorns were born throughout the year. This is equivalent to more than two new unicorns being born each day, according to CB Insights.
Unicorn growth has slowed considerably since then. Only 32 new unicorns emerged in the first quarter of 2024.
Common characteristics of unicorn companies include:
- Young founders: Unicorn founders are often under 40 years of age, according to research by Stanford Graduate School of Business Professor Ilya Strebulaev.
- Innovative: Unicorns are usually working on novel products or services.
- Disruptive: The result of unicorn innovation often revolutionizes their industry or sector.
- Fast growth: Unicorns are forecast to grow quickly.
What kinds of industries do unicorns typically fall into?
Unicorn companies are typically innovative or disruptive companies that are expected to grow quickly. There are an estimated 1,200 unicorns around the world, according to CB Insights, with a cumulative valuation of $3.9 billion (or an average of $3.3 billion per unicorn). For context, Lee’s original list contained only 39 unicorns back in 2013. These companies represented only 0.07% of startups at the time.
Insight from Julien L. Pham, founder and managing partner of Third Culture Capital (3CC)
“Unicorns tend to appear where there is a lot of fast growth in the tech space and large markets. [That includes] e-commerce, deep tech, SaaS [software as a service], mobile, fintechs [financial technology companies], and of course, but not as often, health care. On rare occasions, new markets are ‘established’ by unicorns.”
Today’s unicorns come from the following industries:
- Enterprise technology: 31%
- Financial services: 18%
- Consumer and retail: 17%
- Industrials: 15%
- Healthcare and life sciences: 10%
- Media and entertainment: 7%
- Insurance: 2%
They are by and large United States-based companies at 654 of today’s unicorns. This is followed by China with 169 unicorns, India with 71 unicorns, and the United Kingdom with 53 unicorns.
Currently, the top 10 unicorn companies are:
- ByteDance
- SpaceX
- OpenAI
- SHEIN
- Stripe
- Databricks
- Canva
- Revolut
- Epic Games
- Fanatics
How are unicorn valuations determined?
It involves some guesswork. Because unicorns are startups without a long track record, their valuations typically are based on how investors and venture capitalists think a certain company will perform over time. Sometimes, this involves using a competitor’s performance as a foundation to determine how a startup might perform. The catch: A lot of these companies are the first of their kind, so it can be tricky to determine how they might grow, if at all.
As time has passed, more and more companies are reaching that $1 billion valuation and far exceeding it, with companies like TikTok and its parent company valued at $50 billion and $300 billion, respectively. This has left some investors wary about whether these valuations are fair or if they could be contributing to a potential unicorn bubble.
“The exercise of valuing a private company in recent years has always been a bit of an art form,” says Pham. “Given the bullish market environments, companies with $1B valuations ‘on paper’ were based on many investors trying to get into a deal and artificially raising said valuation. It is important to know who the co-investors are and what their ongoing roles in helping build and scale the companies are, versus investors who are there for the ride.”
Where do unicorns go after the startup stage?
Unicorns have a few exit options when they’re ready to move beyond the startup stage. They can:
- Go public through an initial public offering (IPO): This opens the door for retail investors to jump on board but can result in a loss of some control for the company’s founders.
- Remain privately held: This allows company leadership to retain more control over their company’s direction as they don’t need to appeal to shareholders.
- Find a buyer: Unicorns can be acquired by a larger company, although this becomes less likely the larger the unicorn becomes as its valuation prices out more contenders.
Unicorns can also go down a darker route when things don’t pan out as the founders and financial backers had hoped. Unicorn deaths are not uncommon. Quite the opposite: They occur often enough to warrant their own monikers of “unicorpse” or “zombiecorn.” This only highlights the risks and uncertainties involved in unicorn investing.
How to invest in a unicorn company?
Investing in a unicorn company can be challenging for average investors as most are funded by private investors or founders. Since unicorn companies are privately held, they don’t trade on open exchanges, such as the New York Stock Exchange or Nasdaq. This can make it challenging—although not impossible—to invest in these nascent companies.
To invest directly in a unicorn, you generally need to qualify as an accredited investor. This means having either income above $200,000 per year ($300,000 for couples) or a net worth excluding your primary residence of more than $1 million.
However, many unicorn private investors are venture capital, private equity, or hedge funds. So, retail investors may be able to invest in unicorns through funds like the recently launched Destiny Tech100 fund (DXYZ). But even when you invest through a theoretically diversified fund, the risks of putting money behind unicorn companies are high.
Should you invest in a unicorn company?
Investing in unicorns is essentially investing in hope. In the case of DXYZ, you’re essentially investing in potential future shares from these companies going public. You’d be paying a sizable premium to do so: DXYZ is trading at almost a 110% premium to its net asset value.
Risks of investing in unicorn companies’ pre-IPO shares include:
- Illiquidity: Unicorns are privately held, which means you can’t sell your shares on the open market until after the company’s IPO. Even then, there’s no guarantee you’ll be able to find a buyer for your shares if and when the company goes public.
- Poor transparency: Private companies do not need to report to governing agencies or the state. This means it may be hard to get accurate information about the company.
- Fraud: A lack of oversight could enable these companies to pursue fraudulent business practices, such as falsifying sales numbers.
- Valuation: Unicorns are notoriously hard to value and can be given valuations that do not match the company’s intrinsic value.
Of the more than 35 public software companies that reached valuations upward of $10 billion from 2004 to 2015, only six achieved that level before going public, according to McKinsey. The rest reached an average of more than eight years after their IPOs, so it can be a bit of a waiting game. For privately held companies, going public could mean greater access to capital and growth opportunities, but it could also invite public scrutiny.
It’s also unclear how a company will perform after going public. Airbnb and Uber are both unicorn companies that went public with vastly different results. Airbnb opened at $146 per share on its first day of trading; the following day, it more than doubled the $68 per share price set for its IPO the day before. Uber, on the other hand, disappointed with its IPO debut, dropping 7.6% on its first day of trading on the New York Stock Exchange.
If you’re an investor with a higher risk tolerance than most, investing in a unicorn company could be the right move for you. While there’s great risk involved, there may also be a great reward if you can get in on the ground floor of an investment that will shake a certain sector or industry. Still, putting money into speculative investments should always be done cautiously, and it can be hard to time when you should go all in and whether a unicorn company will give you a greater return on your investment.
“Typically, the idea is to invest early in those companies and maintain a large equity stake through multiple growth rounds,” says Pham. “[But] not every investor is capable of following on and [they] could rapidly get diluted.”
If you do decide to pursue unicorn investing, be sure to do lots of due diligence beforehand. Understand the risks as well as the potential rewards, and just what you have at stake. Most importantly of all, never invest money you can’t afford to lose.
