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Wiz’s cyber security rocket ship story is something the venture capital industry has long relied on to attract investors.
Four young engineers sell their first start-up to a huge technology company (Microsoft) and go on to start another. This one finds an unmet need and hits the big time: quickly raising $1.9 billion from some of the biggest names in venture investing. After only four years, another giant technology company (Google) comes and offers to buy it for 23 billion dollars.
If the sale goes through, it will be the kind of payout that enters VC mythology. But recently, such big hits have been few and far between.
The result was a large glut of aging — and unsold — private tech companies for early-stage investors. Unicorns—private technology concerns valued at $1 billion or more—once earned that name because of their rarity. But according to CB Insights, there are now more than 1,200 worldwide.
Until they cash in much more of these unrealized capital gains, many venture capital firms will find it difficult to demonstrate the kind of strong cash returns needed to convince their backers to inject new capital. This could turn the unicorn into a structural obstacle that holds back the flow of new money to the latest wave of start-ups.
The problem became more acute as tech stocks bounced back from a post-Covid slump, but IPOs and sales to other companies remained muted. There have been just four tech IPOs by companies valued at more than $1 billion in the U.S. this year, compared with more than 70 for all of 2021, when the stock market was also hot.
Big acquisitions have also become rare. As a result, there are only 16 billion-dollar US tech startup “exits” so far this year, compared to 211 for all of 2021, according to Crunchbase.
The VC world is divided on whether this is primarily a demand or supply issue. On the demand side, intense antitrust scrutiny has made acquisitions more difficult for the wealthiest tech companies, meaning potential deals like Wiz are rare. Excluding Microsoft’s giant acquisition of Activision, the combined mergers and acquisitions of the five largest technology platform companies have averaged a paltry $16 billion per year over the past six years.
Yet even with the wealthiest companies on the sidelines, sectors like chips and software have seen waves of consolidation in recent years, and companies like Broadcom have built tech empires on the back of aggressive acquisition strategies.
When it comes to stock market listings, meanwhile, the drought — punctuated only by occasional booms like the one in 2021 — has been a concern in Silicon Valley for two decades. According to tech investor Coatue, it reflects a structural change in financial markets. As index funds have become a larger part of the overall stock market, the argument goes, fewer active fund managers have been rewarded for sniffing out promising and undervalued businesses.
But others argue that there is more than enough investment appetite and that the problem was more a lack of the right kind of tech company. Lise Buyer, an IPO consultant who worked on Google’s IPO, says many institutional executives are clamoring for growth tech companies to invest in because holding the same big seven tech companies as everyone else leaves little room to outperform and justify their holdings. fees.
On the supply side of the tech startup equation, many companies funded during the venture capital boom were fixated on unprofitable growth. That made sense when private investors demanded growth at all costs, but the stock market now requires a strong earnings trajectory — something that takes time to build.
After the collapse of private market valuations that occurred at the end of 2021, it is also taking time to work through the overhang from the last wave of funding. Roughly half of the 1,200 startups listed in the CB Index claimed a $1-$1.5 billion valuation in their most recent round of funding, so it’s likely that many would now be better described as ex-unicorns. Many of them will eventually fold or be sold at break-up cost.
Meanwhile, with Wall Street offering lower valuations than they once fetched on the private market, few founders of successful startups are eager to bite the bullet and dive into the stock market.
Investors who have been watching a wave of tech IPOs this year have been forced to reconsider. Now they’re starting to speculate about what might be in store for 2025. In one of those years, they might actually be right.
richard.waters@ft.com