Where Will All the Unicorns Go?

This post originally appeared on CNBC.com.
What happens when one company after another raises private capital at a multi-billion dollar valuation? No one in Silicon Valley really knows, though we ask ourselves that question every day.
Yet if we look to other fields, we can see how high valuations affect high performers. Fields like, for example, the baseball field. Ken Sheldon, a University of Missouri professor, studied 230 superstars over ten years across two sports. His conclusion: performance elevates slightly in the year your valuation is set by an outsized new contract, but then declines significantly from there on out.
Now there’s a big difference between superstar businesses and superstar athletes: businesses can use capital to create competitive advantage, through advertising, acquisitions, hiring and pricing. All the highly paid baseball player can do is swing the bat harder.
But there are other dynamics that affect businesses and athletes in the same way: you feel pressure, not motivation. The public starts to root against you, not for you. You play defensively rather than creatively. You try to act hungry when you couldn’t eat any more or any faster.
After all, a high-growth company’s most precious resource is still desire, not money: to make something beautiful, to solve age-old problems, to storm the citadel, for some maybe to kill the king. And the fuel for that desire is the future, not the past.
All the talk about the last round’s valuation is for armchair pundits. After the funding announcement, the people actually building a company come to work every day to increase the company’s value. To the pundits, it may seem like madness not to take the most money at the best price you can get, but sometimes for the builders it’s a mistake to increase that value all at once.

A friend of mine involved with a unicorn company said at some point you can’t just look for ways to get better from quarter to quarter, and instead start to look for miracles. An entrepreneur who trusts in her ability to execute, even to innovate, may find miracles harder to come by.
And once private valuations get into the high billions, we’re now talking about miracles. To take an extreme example, if a private company valued at $25 billion today somehow doubled and redoubled its value, it would end up 69th on the list of the world’s most valuable businesses.
There are at least 102 private companies with billion-dollar valuations. The economy will grow, perhaps at unprecedented rates because of a break-through in how we apply mobile technology to solve everyday problems at the push of a button. Even still, after Facebook and Apple, which doubled their value in two years, or Amazon and Google, which doubled their value in four years, there’s not that much room at the top.
For most other companies worth billions, trying to double a valuation like that may be a fool’s errand: a company worth $25 billion or even $2.5 billion could never increase in value again and still be a staggering success. The problem is if your company spends the next five years just holding on to last year’s valuation, no one who works there will feel like a staggering success.
Investors have the same problem. Where public investors pounce on cheap stocks, in the private markets, few will touch a down round. Investors hesitate even to propose a down-round price, and wouldn’t feel good about it if they got it. This is why private valuations are different than public ones: what goes up cannot easily go down.
And this in turn is why today’s private rounds are so large. “If you’re raising at a valuation that is well ahead of your business, then for God’s sake, take a lot of money,” said Greylock partner James Slavet in an email to me on this topic. “That way you can grow into it before you might need to raise again.”
James knew that most high-growth companies are like Soviet tanks, designed only to go forward. The entire narrative of companies under this much pressure can become nothing more than a line moving up and to the right. As the valuation climbs, the original employees who joined a mission are surrounded by those who jumped on a bandwagon; this latter group will flee at the first sign of trouble.
And that is exactly the fate that my own company, Redfin, has been careful to avoid: careful not to insist in a financing negotiation that we’re better than we are, careful to remember the downs amid the ups and the ups amid the downs, and careful to hire people who want to build a next-generation real estate brokerage not just someday ride a unicorn. We don’t always succeed at this, but we try. In some ways it’s better to be undervalued a little than over-valued a lot, just because it’s still easy to believe our best days are ahead of us.
And that is true even if the stock market hits the skids. We talk about a bubble as if it will burst, but because there has been less pure speculation and almost no borrowing, it’s more likely this time that some air just leaks out of the balloon. Some of these unicorn companies are so exceptional that their growth will outstrip any economic downturn. But others who are exceptional in their promise may still struggle under the old weight of great expectations, with lost years spent trying to hold onto an old valuation.
Maybe in the end this will be liberating. Bob Mylod, our board member from Priceline, said that becoming the CFO of a company after it lost 95% of its market value in the dot.com crash was a blast, because there was nothing left to lose. For a more recent example, just look at Alex Rodriguez who, freed by scandal from any expectations whatsoever, is now playing as if he were six years younger. He isn’t worried about the next contract. He isn’t cheating anymore. He’s just playing. He looks happier than I’ve ever seen him.