Valuation Metrics and the Unicorn Club - A wild 10 year ride that is not over yet

Live from Schenectady, New York, it's SAS Talk with the Metrics Brothers, Groth and CAC.

And I'm Groth, better known as Ray Reich, founder and CEO of Benchmarket.

And I'm CAC, better known as Dave Kellogg, independent consultant, EIR at Balderson Capital, and the author of Kellogg.

And together we are the Metrix Brothers.

And we go together like Chunk and Disorderly.

Wait, what? I know I said to stop with the food analogies because you were making me hungry, but—

Ray, you said no more peas and carrots, no more franks and beans, so I went in another direction.

Well, I'm not sure I like the direction you took us, so I think I may actually like the food analogies better, Dave.

Okay, well, what's on tap for today, Ray?

Okay, back to the drinking. So I think we, we should get away from food, get away from drinking and bad behavior, and talk about something more magical and inspiring. Wait for it— unicorns.

Ray, why don't we talk about rainbows as well? No, unicorns. I hate unicorns. Um, so okay, it's gonna be a fun episode to talk about. Specifically, I think we want to talk about a post Because this is inspired by a post called, uh, the valuation— what's it called? Welcome to the Unicorn Club. 2 posts written 10 years apart by Eileen Lee at Cowboy Ventures.

But before we do that, Ray, I think we should hear from a great high-value company, our presenting sponsor. The Metrics Brothers is proudly sponsored by Benchmarkit, the B2B AI and software industry's largest, broadest, and most contextualized benchmarking index. Dave Kellogg and Ray Groth Wright have put the Metrics Brothers podcast on hiatus for remainder of 2026. All episodes we have ever recorded are still available on your favorite podcasting app. You can reach Dave at Kellogg and Ray on LinkedIn at Ray Reich. Thank you so much for listening to the Metrics Brothers podcast. Okay, Dave, we're back to talk about those magical mythical creatures, unicorns. So what inspired you? Because this was an episode you suggested we do.

Yeah, so 2 things, Ray. First, our disclaimer here, because whenever we talk about investor-related concepts, always like to remind everybody that this is not investment advice. And even if it were, it'd probably be wrong. Um, so in addition, listen to the disclaimer at the end of the show. Nobody ever does. It's funny too. But no, this is not investment advice, even though we're going to be talking about investment concepts. So what got me interested in writing this post— I saw— or this episode as a topic— I saw a post called Welcome to the Unicorn Club, or Welcome Back to the Unicorn Club 10 Years Later, and it was done in January of this year. Um, and it was a retrospective on a post that she had done 10 years earlier called Welcome to the Unicorn Club: Learnings from Billion-Dollar Startups, done back in November of 2013. And this is written by Eileen Lee at Cowboy Ventures. Both posts were actually, and the connotation here basically she was the person who coined the phrase unicorn. Believe it or not, I can't find anyone to dispute that. It seems generally accepted. So often in Silicon Valley, we never know who coined what, but but she coined unicorn, and the connotation was you know that they're rare when when she did it because back in 2013 there were only 39 of them, and today in in her report there's 532 thousand plus per battery. I think with some research she found, but but basically thanks to Zerp and the IPO bar going. up and growth VC/PE emerging as a category and crossover funds, we now have these very large private companies with very high valuations so that unicorns are, shall we say, anything but rare.

Well, apparently they also appear and disappear very quickly because I was a little shocked by, you know, the 532 that Cowboy Ventures represented. Then we talked about this maybe 2 months ago, Battery Ventures said they were worth 1,000. And what was amazing, Dave, was what a small percentage of those unicorns haven't been marked down yet. But before we talk about that, can we talk a little bit about the myth of valuations, especially in public versus private companies?

Yeah, I'm not sure it's all myth, but let's talk about the math, if you will, if not the myth of private company valuations and where that math becomes a myth. The first thing is let's define unicorn. I forgot to do that. Uh, the definition of unicorn is a VC-backed startup with a $1 $1 billion plus valuation. For more financing nerds, it'd be a $1 billion plus post-money valuation. And I always thought it included inherently private in the definition, but, but Irene did not do that in, in her posts, nor do most people when I went searching for this. So I'd always thought that unicorn was a private company with a billion-dollar-plus valuation. But let's just say, you know, once you go public, are you still a unicorn? And I guess the answer is yes. So her definition is a VC-backed company that has a $1 billion-plus valuation, which then is going to lead us to a discussion of how valuations get calculated. I'll start with public companies because it's easier. In public companies, you have a notion of market capitalization, which is very simple. You go, you know, look at the price per share and you multiply that times the number of shares outstanding. So if the price per share is $20, and there's 1 million shares outstanding, or let's just say 10 million shares outstanding, that company would be worth $200 million, a market cap of $200 million. So it's the price per share times the number of shares outstanding. And this is theoretically the value of a company, right? If one share costs $20 and there's 10 million shares out there, then if I bought them all, it would cost $200 million to buy it. But the reality is you can't buy a company one share at a time, because if you started to do that, you would find that the price would actually go up over time, right? If you literally tried to buy a company one share at a time, as shares got increasingly scarce, the price will go up. So it's very much kind of a theoretical thing. And this is one reason why when public companies sell, they sell for a quote-unquote price premium above what they're trading at. Like, you know, might end day 1 trading at $20 and the company will sell for $26 a share.

Why?

Because the people buying it know that you can't actually buy every share at $20. You need to deliver a premium above the current price of the stock.

Hey Dave, but let's double-click on that because you just were talking about market capitalization A lot of the benchmarks out there show enterprise value as compared to the next 12 months forward-looking revenue. So what's the difference between market cap and enterprise value?

Yeah, it's an important difference here. Enterprise value is effectively market cap adjusted for cash and debt. So EV, the formula would be market cap minus cash plus debt. One of my favorite examples, a company whose app I don't particularly love using, is Nextdoor. And their market cap, for a lot of reasons, we'll go to them here, but their market cap today is $869. That's actually up quite a bit. bit, but their enterprise value is only $405. So you might say, wait a minute, how much is that company worth? Is it worth $869 or $405? And the answer is the difference between those numbers is the amount of net cash and debt they have. So they have plenty of cash on the balance sheet, presumably no debt. So basically almost half their market value is just coming from cash sitting in the bank. So the business, that's why it's called enterprise value. The value of the enterprise is $405. And $5 million. So, but the market cap is $869 million.

Well, let's hope that not too many of these unicorns become nanocorns. And I just made that up, but I've seen companies actually be bought for less than the cash on their balance sheet, Dave, which makes no sense to me. But that's a whole nother topic.

Yeah, I mean, the only way that makes sense is it costs money. It, you know, it's like buying a half-completed house. It actually costs money to tear it down. Um, so you'll— you might end up paying more than the bare lot. Because it's actually worth less than the bare lot because you, you know, you have costs associated with tearing down what's up there. So look, valuation multiples, let's talk about this now. In the public markets, they're basically results, not drivers. So one of the more common multiples you'll see is enterprise value to ARR ratio, right? So EV divided by ARR, which is basically the share price times the number of shares adjusted for cash and debt, right? That's the enterprise value, then divided by ARR. And the Meritech median for that is 6.8x.

Wow.

Another one you'll see is EV divided by NTM revenue. So enterprise value divided by next 12 months revenue. So most companies issue guidance for the next 12 months. So you do the enterprise value calculation, you divide it by the expected revenue, and you'll find that the Meritech median there is 6.3x. So, so those are kind of valuation multiples. And you can also value companies, by the way, using profit measures— not as in fashion, but EV to free cash flow. Right, the Maritech median is 34x in public SaaS. EV to EBITDA is a much more private company metric. So when you talk about how much a private company is worth, when a PE firm is valuing you, particularly if you're not very high growth, they're not buying you for your growth, they're buying you for your profit. So people would look at EBITDA multiples, or EV divided by EBITDA. A typical median there runs like 14x, uh, 14x, maybe 20x. So somewhere between 14 and 20. And in the end, in private market, these valuation multiples end up drivers, not results, in my opinion. You kind of look at public companies companies and say, what's the stock at? Let's adjust it to get an enterprise value. Let's divide it. We get an EV to ARR multiple, and then we say, hey, here's the public company median, it's 6.8. Now let's go look at private companies. And then, you know, private company founders want to raise money at some multiple of ARR, and they're saying, oh, the public companies are at 6.8x, but I'm growing really, really fast, so I should be worth 10x, 20x, or, you know, 30x even, particularly back in the ZIRP days, or even 50x back in the ZIRP days.

Dave, one of the things I want to highlight though, because even though there's a little bit of debate whether unicorns are private only or private and public, and I'm like you, I'm used to them being private, there's a small difference in private company market capitalization. Same formula, right? You take the price per share times the number of shares. But a key difference is there's 2 types of shares in private companies. There's the common shares, which Me, right, when I was an employee, and usually the founders have. But then there's those preferred shares, which what VCs buy. Can you talk a little bit about the difference?

Yeah, exactly right, uh, that most public companies, when they go public, the preferred converts to common, so they have nothing but common shares. There are always exceptions to this rule, but let's just say that's the normal case, because if we drill into the exceptions, it'll be a 2-hour episode. In private companies, the norm is that there are 2 types of shares. There's preferred, as you said, and common. And, and the question is, what is preferred? Um, and you're right, Right. Common is what employees and usually founders own. Preferred is what VCs buy. So if it's preferred, why? Why is it called preferred? And the answer is, ding, ding, ding, ding, because it has preferences. And what does that mean? I'll tell you what a very standard West Coast, i.e., Silicon Valley preference looks like. It's what's called a 1x non-participating preference. What does that mean? Just say you raise $20 million— sorry, say you raise $30 million, but you raise it at a 1x non-participating preference. And most of the time people don't even say non-participating, they just say 1x preference. Um, and what that means is you have to choose between getting your money back or getting your share of the pie. So real example, if I raise $30 million in VC and sold 40% of my company for that, and then we have a bad outcome, we sell the company for only $50 million, the VCs would take their $30 million back. That's the 1x preference. I get to get 1 times my money back before anybody else. Okay, look, debtors go first. Right. There's certain obligations like payroll and other stuff that comes off the top and debt. But, but after the debtors, the first person in line of the equity holders is the preferred stock. In this scenario, they put $30 million in at a 1x preference. They get their $30 million back. Therefore, the common splits $20 million. So the company might have sold for $50 million and you might have thought you owned 1% of the company. So you were going to get $500,000 out of that. But no, the preferred comes off the top. You're going to get 1% of $20 million. You're going to get $200K instead of $500K.

But one of the things I see, especially after a bubble burst and a hype cycle like we saw in 2020, '21, '22, is companies that need money may now need to give multiple preferences. So instead of 1x, it's 3x. So in that $30 million example, if you have a 2x preference, that means that investor is going to get $60 million back Before the common get anything, right?

Right. And the problem is there's only $50 million to share. So the investors in that scenario, if you raise $30 million at a 2x preference, they have the right to take the first $60 million off the table, assuming there's no debt. Then there's $50 million on the table. So the VCs in that scenario would take 100% of the proceeds. They would take their $50 million and everybody else would get zero. And it's an extreme example, but it is showing you the impact of a quote unquote multiple liquidation preference. And you're correct, sometimes founders, and this is a quote unquote vanity move. Rather than doing a quote-unquote down round, they'll do a flat round but have to give a multiple preference to get it and say, okay, if you buy a smaller percent of the company but you hold at the valuation, I'll give you 1.5, 2x your money back before any other equity holder gets their money. So after the debt, always, but before anybody else gets their money, you get to— you get not only your money back, but effectively I'm guaranteeing you a return.

You know, Dave, this episode is becoming more about stock and how it works in private companies because there's another thing that I've seen recently beyond multiple preferences, and that is participating preferences, where the VC gets their money back based upon their preference, and then they even participate in the common stock distribution.

Correct. The, the difference between participating and non-participating is that in participating you don't have to choose. In non-participating, you have to choose. So not participating, the VC has to do some math and say, what's worth more, 1 times my money back or my 40% of the company that I own? And they'll pick the larger of those 2 outcomes. When you sell participating stock, and it sounds like a harmless little thing, oh, it's participating. No, no, it's a big problem. There is no choice. You get your $30 million back and you get 40% of the rest. So again, a very expensive term, more common in Europe and on the East Coast than it is on the West Coast. Also common when companies are under pressure. So, Ray, I got a joke for you, though, to try and summarize this whole section. Hey, what did the common stock say to the preferred?

Not sure.

You and I are not the same. And, and they're not. And that's the important thing to remember. So, look, my problem with all this when it comes to valuation is we're going to take a share count that's adding up the preferred stock and the common stock and multiply it by the most recent round's price of preferred stock. And just given the simple examples we've shown, that can be insanity because you could actually sell the stock at a relatively high price if you attach these various rights to it. And then we multiply stock that has a lot more rights, right, and therefore is inherently worth a lot more, times the total number of shares. So this is one reason why I hate private company valuations and why I don't like the fact that the tech media seems almost gullible or too eager to go put a big number out there, right? The pathological example is I could sell Ray 1/100,000th of my company for $10. Hey Ray, I've got a new company, you want to buy 1/100,000 of it? Ray gives me $10 and I'm a unicorn, right? That, that's literally how the math would work.

If it were you, Dave, I'd give you $100 and you could be a decacorn.

Yeah, there you go. So more realistically, if I raise $200 million with a 3x liquidation preference on top of $200 million I've already raised, and I have $100 million of debt, right, when I sell my company for a billion dollars, this unicorn from the common stock perspective is worth only $100 million, right? Because I raised $200 million with a 3x preference, that's $600 off the top. $100 million in debt, that's $700 off the top. $200 million in other preferred stock, that's $900 off the top. So this thing that an employee goes, ooh, I own 1% of a unicorn, I'm worth $10 million— no, in fact, you own 1% of a $100 million company, and so it's $1 million. So, so this is where things get misleading.

Well, if you don't mind, we've only got about 4 minutes left. What do you think? Let's talk a little bit about some of the challenges with all these unicorns. that have been created over the last 10 years.

Go for it, Ray.

So, first of all, I love dogs, but overbreeding of certain dog breeds can create genetic mutations and weaknesses. And I believe the fact that we bred so many unicorns over the last few years that it can amplify some of the negative attributes, things like sloppy operational processes, Lack of discipline on unit economics. So I think we have to overcome some of that genetic weakness we may have bred into the system.

Yeah, look, I mean, to me in general, I don't love the unicorn concept for, for probably 2 reasons— well, 3 reasons. One, the valuation thing we just talked about. It's not a real billion-dollar valuation in many cases. 2, I hate when people— the media refers to businesses that— so he's running a billion-dollar business. Now, if you're running a $50 million ARR business that happened to raise money at 20 times revenue, good for you. But, but you're running a $50 million business. You're running a billion-dollar business. But the media loves to talk about— and certainly people when they hype their profiles, I was running a $3 billion business. No, you weren't. You're running a, you know, a $20 million business that has spectacular valuations. So good for you. But it's just not the same thing. And I think the difficulty in running a company is much more a function of revenue than it is of valuation.

And one of the other dangers, right, we saw in 2023, there were a few unicorns like Convoy, Olive Health, Zoom. I think maybe even Bird would be added to that, that saw abrupt shutdowns in 2023. And since investors don't want to go chasing their money for what I think were very high valuations in 2022, I think we're going to see a lot more in 2024. A lot more being unicorns that just get unfortunately left for dead.

Yeah, unicorpses as they call them.

The—

there's a, you know, 2 things here, or a final point there, Ray. One, unicorn is fundamentally an investor concept and it's It's a VC investor concept. Because if you're a VC, you're holding preferred stock and you're happy that you can now say this company's worth $1 billion and good for them. In terms of operators, revenue or ARR really is what scales the difficulty in running a company. So I like when people focus on how big the business is and how big they're growing it, how many customers they have, how much ARR they have. So I just think it puts focus on the wrong thing. It's a little bit like watching the scoreboard rather than focusing on the plays you're running on the game. I think the 2 blog posts we talked about that this episode is based on are definitely worth reading. I think unicorns come with an almost unlimited vocabulary of fun new words like decacorn, supercorn, zirpacorn, papercorn, zombicorn, unicorps. I'll add what I call a once-a-corn because I own shares in a couple of those, i.e., they raise money above $1 billion and now are worth nothing. I think this report's— it's interesting to read the report and they talk about companies like Clubhouse and OpenSea. And our memories are so short, we forget all these companies that come how to come, get hyped, and just die. Like, Color was another one, uh, way back where we're like, one day Sand Hill Road falls in love with the company. And, you know, Clubhouse, I think, turned down a sale offer at $4 billion. At least they raised money at $4 billion. And now it's literally, I think, gone. OpenSea is either gone or left for dead. Um, so, so it's just crazy.

Hey, CAC, I remember when you had a show on Clubhouse. I was like, COVID entertainment, Dave Kellogg on Clubhouse.

Yeah, I ran a Clubhouse room. I always like to try new stuff. I wouldn't— I would not have invested in it. I had great respect for the founder, by the way, because he ran a weekly Clubhouse room, uh, talking to people. So he was in touch with his customers. But, but it was just kind of semi-obviously a great concept for COVID. But, but, but, you know, Sand Hill Road falls in love and they get all the hype, and TechCrunch falls in love, and yada yada. So the other thing I'd say, if you look at this report, is that enterprise is back. One of the most interesting things was 10 years ago it was 80/20 consumer to enterprise, and now it's become 20/80. So, so only 20% of today's unicorns are consumer and 80% enterprise. There's huge overhang out there. If you read this report, 93% are what she calls papercorns, i.e., it's a private company that raised money over a billion but hasn't exited yet. So who knows what it's worth? If you look, because some of these stocks trade on private secondary markets, 40% are trading on those markets at less than a billion. So it means that a lot of these papercorns are going to end up once-a-corns, i.e., in the end, they're not going to be worth a billion dollars. And 60% of today's unicorns are what she calls Zerpicorns, which is they raised between January 2020 and March 2022, which strongly suggests they have years of work to do growing the company into their last round valuation. Hopefully they have the cash to do that.

Yeah, and I want to wrap up, you know, because we're at our episode timing, and that is the importance of understanding your stock options. Because, you know, capital efficiency dropped for a long period of time, And that could have greatly eroded the value of your options. And you should understand whether you're currently an employee or you're thinking about joining a unicorn or former unicorn, have they repriced the stock options? Because I still think there's a lot of unicorns out there, Dave, who haven't marked down their valuation because they haven't raised money. So the stock options probably aren't marked down either.

Yeah, I can't remember if I did a blog post or a talk on this the other day, but, but basically, if you're at a company that raised money at a super high valuation, and things are going good but not great, at some point you need to ask your boss and ask HR, ask the CEO, hey, are we considering repricing our stock options? Because if they're not, uh, you need to go try and figure out how far they are, quote unquote, underwater. Um, and because— and by the way, I wouldn't say worthless because even an option that's underwater still has inherent value because the 10-year option value, but it's probably worth a heck of a lot less than you think. Um, and that's something you should go understand. So, so yeah. Totally agree, Rick.

And we got to wrap up, but I will tell you, even though maybe the unicorn myth isn't quite as hot today as it was 3 years ago, with what's happening with AI and the values of OpenAI and Anthropic, I think this mighty unicorn might reappear through AI imagination, Dave.

Well, yeah, just when one sector kind of calms down, a new one emerges. So certainly AI multiples are off the charts, and the amount of money they're raising is off the charts. Uh, but for the rest of the world that the SaaS brothers live in, for your typical SaaS company, those multiples are down, and a lot of unicorns are kind of once-a-corns, uh, hoping to get their valuations back.

Okay, well, thank you so much for introducing me to all these new ex-corn phrases, and I really enjoyed this episode. Thank you so much for finding this one.

Thanks, Ray.

Take care, everyone.

The Metrics Brothers AI, SaaS, and More is a production of The Metrics Brothers Growth and CAC And a member of the Benchmarket Podcast Network. By accessing this podcast, you acknowledge that the Metrics Brothers make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided or the humor content of the jokes told.

Ahem.

Ray? Information, opinions, and recommendations presented are, according to our spouses, probably wrong and provided for information purposes only. This podcast should not be considered professional or, for that matter, unprofessional advice. We disclaim any and all liability for any direct, indirect, indirect, misdirect, incidental, special, ordinary, consequential, inconsequential, or other damages arising out of any use of, or God help you, reliance upon the information presented here. Ray Grothreich is based in New York City and available on X @RayReich.

Dave Kellogg is based in Silicon Valley and available on X @Kelblog.

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