A webscale Ponzi scheme
An increasing number of unicorns is an essential part of the private equity culture. Profits used to be made on IPO or acquisition. But the extended, er, grooming of the unicorns now gives opportunities to snare other investors, including retail ones, and sucking in more money for a smaller piece, thus driving up the valuation. A high valuation means a higher cash-out for those with preferred stock.
Thus Goldman Sachs was selling bits of Facebook to private individual ones before IPO. This was very close to breaking SEC rules about the number of investors you can have before you have to go public. Since then the rules have been relaxed including through the cleverly titled JOBS Act, which now allows the banks to finance private equity using crowdfunding. What could possibly go wrong?
Add to this the artificially low interest rates which have savers chasing yields harder than Frank Gallagher chasing a free drink and you've almost got perpetual motion. Almost. With the Federal Reserve tipped to raise the base rate to, shock horror, 0.5%, the party could be coming to an end. If it wasn't for the financial repression in Europe and Japan ensuring lots more funding. The scale is smaller but this has shades of the sub-prime mortgage scam in it: German savers ended up holding some of the biggest turkeys. Bond yields in Germany are now largely negative, in Switzerland entirely negative.
But even with all this let's not ignore that this structure has led to some successful companies: Facebook has a nice profit margin; Airbnb definitely has legs; NewRelic provides a monetised service. Some of the others are spectacularly anti-profit (SnapChat, WhatsApp) – way to go guys – and we are close to the dotcom assumption of scale automatically being followed by profit. But there is still too much faith in being able to just add webscale to a good idea to get a huge profit. How on earth is Groupon still in business? Some of the startups outside San Francisco are actually making things and might surprise us yet.