From unicorns to unicorpses: Why billion-dollar startups and even VC firms keep imploding

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From unicorns to unicorpses: Why billion-dollar startups and even VC firms keep imploding

By Jessica Mathews | Forbes Magazine | Feb-March 2024 Issue

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The atmosphere has turned undeniably sour for startups. Just two years ago, founders were elbowing investors out of their oversubscribed funding rounds; now some are struggling to raise at all, and are facing the harsh reality that their businesses are worth much less than they thought. The IPO market has dried up relative to 2021, and M&A deals have become harder to secure and close—keeping investors from being rewarded for their bets. After more than a decade of an overabundance of capital, cash has suddenly become scarce.

So far, the market has seen only a handful of unicorns formally call it quits.  But much of the pullback has been quietly playing out behind the scenes. While macroeconomic changes immediately sway the share prices of publicly traded stocks, their impact takes a while to appear in private markets. 

But what led to the unicorn boom? Low interest rates made the venture sector more enticing to investors, as other, less risky alternatives became less lucrative. Venture returns were also far exceeding those of the public markets, which drew new investments into the space. Then there was the success of startup IPOs, which drew in hedge funds and mutual funds.  Add the pandemic-induced tech boom in 2020 and the extraordinary $2 trillion stimulus to that equation, and we ended up with what you could either describe as two banner years for venture capital or a nonsensical frenzy of record funding, record exits, and record valuations in 2020 and 2021. With capital freely flowing throughout the ecosystem, companies with hardly any revenue—in some cases, none at all—were going public at more than billion-dollar valuations during that period, amid unprecedented demand from investors.

But between February 2022 and the end of 2023, the economic climate darkened. The Federal Reserve gradually raised its baseline interest rate more than tenfold, to 5.33%. There was a steep correction in the public markets, with software, internet, and fintech stocks dipping well below where they had traded pre-pandemic. War broke out in Ukraine (and, more recently, the Middle East). Tensions heightened between the U.S. and China, where a series of VC firms had made a fortune.

Meanwhile, Big Tech companies including Google, Meta, Microsoft, Apple, and Amazon have retreated from M&A deals as they tighten their budgets. And antitrust regulators have become more aggressive in challenging acquisitions they say are anticompetitive. 

The shift in the market has led venture firms to radically mark down their investments in their funds. But a lack of IPOs and M&A deals is causing another problem: Venture funds aren’t able to return money to their own investors, the limited partners. That leaves the LPs either overexposed in this high-risk sector—and thus unwilling to put in new money—or without liquid capital to reinvest in new funds. And that breaks another link in the chain of startup capital.  These new realities make it especially difficult for new venture firms and managers to raise their own funds right now. 

Who will succeed and who will fail in this environment? That’s the question keeping many investors on the sidelines, waiting until they can be more certain of what a company is worth, or whether it will survive.

3 key takeaways from the article

1. The atmosphere has turned undeniably sour for startups. Just two years ago, founders were elbowing investors out of their oversubscribed funding rounds; now some are struggling to raise at all, and are facing the harsh reality that their businesses are worth much less than they thought. After more than a decade of an overabundance of capital, cash has suddenly become scarce.
2. Between February 2022 and the end of 2023, the economic climate darkened.  The Federal Reserve gradually raised its baseline interest rate more than tenfold, to 5.33%. There was a steep correction in the public markets, with software, internet, and fintech stocks dipping well below where they had traded pre-pandemic. War broke out in Ukraine (and, more recently, the Middle East). Tensions heightened between the U.S. and China, where a series of VC firms had made a fortune.
3. Meanwhile, Big Tech companies including Google, Meta, Microsoft, Apple, and Amazon have retreated from M&A deals as they tighten their budgets. And antitrust regulators have become more aggressive in challenging acquisitions they say are anticompetitive. 

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Topics: Entrepreneurship, Startups, Unicorns, Interest Rate